One of the keys to achieving superior investment returns is to know when to follow the herd and when not to follow the herd. If one is wrongly positioned relative to the herd, the hope is not to be eaten alive! In other words, one needs to know when to add risk and when to decrease risk.
For example, if you are a zebra and live in a herd, the key decision you have to make is where to stand in relation to the rest of the herd. When you think conditions are safe, the outside of the herd is best, for there the grass is green and fresh, while the middle sees only grass that is eaten and trampled down. The aggressive zebras, on the outside of the herd, eat much better. On the other hand, there comes a time when lions approach. The outside zebras end up as lunch while the skinny zebras in the middle of the herd may eat less, but they are still alive.
We believe there are still multiple underlying fundamental concerns that could hold negative implications for longer term corporate profit and economic growth. It is hard to envision a self sustaining economic recovery over the next business cycle, that is unless the government continues to provide endless amounts of stimulus, which could be a possibility. We must be aware of the posssible short-term benefits as well as long term implications of such action.
At the moment these fundamental concerns have been put aside by most market participants who seem to be placing more emphasis on bottom line cost cutting, which has improved short-term profits. In addition, both the stock and bond markets are benefiting from a surge of liquidity into those markets, based on a Federal Reserve zero interest rate policy on cash.
That said, risk control can be almost as important as being positioned properly when it comes to producing above average investment returns. If one has not lost too much capital at any given time, even if wrongly positioned versus the herd, one can be well-positioned and take advantage of opportunities when one gets back on track. The key to success is moving within the confines of the herd, but not living in the very middle or on the extreme outside.
