The Aussie stock market had a poor day yesterday. You can blame it on the banks. The big four fell on average by around 1.6%, with Westpac Bank [ASX:WBC] the hardest hit, down 1.8%.
What to make of it?
Well, it depends on your bias. If you think the property market is a house of cards, you’d naturally see the decline in the banks as a sign of impending doom. The recent sell off indicates a tottering housing market and the impact of rising bad debts as the economy slows, job losses rise, and households default on their mortgages.
But if you’re sanguine on the housing market, you see the current sell off as a buying opportunity. After all, the big banks trade on juicy yields of 5–6%, fully franked.
That may be the case, but the market is beginning to question the sustainability of these dividend payments. As Chanticleer writes in the Australian Financial Review:
‘When the cycle turns, and it is already showing signs of doing so, there will be an increase in bad and doubtful debts and that could impact heavily upon bank profits.
‘Shareholders in the big four banks should think about the possibility that Morrison will take a bigger share of profits over the next five years as bad and doubtful debt charges rise.
‘That will have implications for a number of moving parts in the investment case for bank stocks. Higher impairment charges could hit at the same time as the prudential regulator is moving to make the banks “unquestionably strong”.
‘That will make the conservative chief financial officers at the major banks contemplate the possibility of lower dividend payments. In a worst case scenario there might well be the need for the banks to raise additional capital beyond what is available through dividend reinvestment plans.
‘These considerations are undoubtedly weighing on share prices and pushing up the yields on bank stocks to levels not seen since the global financial crisis.’
This is an example of why I hardly ever read the mainstream business news. There is nothing wrong with the article itself. The thinking is sound. But it seeks to explain share price weakness by overlaying a personal bias.
The writer then creates a narrative to explain why bank shares are under pressure. In this case, the narrative is fearful.
Fear paralyses investors and precludes clear thinking.
For example, ‘when the cycle turns’ is a dangerous phrase. The writer says it’s already showing signs of doing so. Maybe it is. But that doesn’t mean the cycle will turn abruptly, or deeply. Maybe the impact is already priced in?
What if the RBA counters the cycle (as it always tries to do) by lowering interest rates again?
That’s the problem with making short term predictions. There are just so many moving parts to economies and financial markets that predicting accurately and consistently is impossible.
For example, maybe the banks are under pressure from increasing competition. Bank regulator APRA has attempted to cool the housing market lately by placing lending restrictions on the banks.
But this has simply created an opportunity for non-bank lenders to fill the gap. Perhaps bank share price weakness is simply a combination of concern over the recently imposed bank tax (which will raise around $1.6 billion a year), prudential regulation, and increasing competition?
No one knows. Only hindsight will prove the cause of the sell-off definitely. And for investors, hindsight is pretty much useless.
If you want to be a better investor, you have to have a framework…something that allows you to make decisions in a non-emotional way. A framework that allows you to recognise biased reporting, even if very subtle, so it doesn’t impact your decision making ability.
How do you develop such a framework? Well, it really depends on your personality. There is no one size fits all approach.
But here’s a suggested starting point. Let me explain…
Yesterday, I said I would tell you about the biggest insight I gained from Phil Anderson’s research. Phil is the editor of Cycles, Trends and Forecasts. The key to this publication is an understanding of something called the ‘economic rent’.
The wealthy elites do not want you to understand this. It’s the key to passive wealth creation.
But once you do understand it, the way you view the world will change completely.
The economic rent is all about the land. While land should belong to the community, we have instead developed a system that allows individual ownership of land. This in turn creates competition for land, which in turn leads to speculation.
It is this development that has created a real estate cycle. It’s something you can measure, forecast, and work into your investment framework.
Phil’s work at Cycles, Trends and Forecasts has this real estate cycle at its core. Once you understand it, I guarantee that you’ll be able to discern fact from fiction when it comes to reading the financial news.
Here’s how Phil put it in a recent update. He was describing the significant urban development you see along Melbourne’s main roads right now, and how it’s a product of the economic rent.
‘This sort of urban renewal is never-ending. It is driven by Economic Rent.
‘A process seemingly lost on today’s housing ‘experts’ and economists.
‘Have a good look at my real estate clock. Since 1800, the real estate cycle — indeed, every cycle — has followed the order on that clock as I have it.
‘Australia simply follows the US, about one year behind. This is why we study the US. As the US events unfold, it tells you what’s coming next in Australia. A genuine crystal ball, if ever there was one.
‘I wasn’t the first to discover this, but I was the first to put it in the clock format.
‘Roy Wenzlick saw the sequence first, in the very early 1930s. He was based in St. Louis, Missouri. Very little of his work has made it onto the web. His works are housed in a large room at the University of Missouri-St. Louis, which I’ve been to.
‘At the same time, but independently, Homer Hoyt described the sequence in his 1933 university thesis about the Chicago real estate market. It came out as a book, titled One Hundred Years of Land Values in Chicago.
‘Fred Harrison put Hoyt’s work to great use and forecast the 1991 worldwide property collapse — exactly seven years before it happened.
‘What price is good knowledge?
‘You now have a choice: Continue to react to the advertising you see around you about an imminent (Australian) recession, or get stuck into the land cycle theory and learn why my real estate clock repeats as it does.’
‘The land cycle theory will be far more rewarding for you.’
Phil’s work has made a huge difference to the way I look at the economy. It will make a difference to you to. Check out his cycle work here, and see for yourself.