Retail investors shouldn’t touch China stocks, warns Safanad’s John Rutledge
Summary: After 50 years of investing, I have decided it’s time to share my secret strategy with you, the thing that will keep you in the game when things go bad. The secret strategy is to avoid SLS—Sudden Loss Syndrome—that happens when you put your money in something that can go “POOF!” and disappear when some guy decides he doesn’t like you. Today, that somebody is Xi Jinping. As I told the FastMoney crew, don’t be tricked by the China stock market head fake. Keep your money someplace where they have judges in long black robes to (usually) uphold the law. You can see a video of the interview by clicking here. And I have copied the talking points that I wrote to brief the anchors before the show, below.
I always prepare briefing notes before a show so the producer (Stephanie in this case) can brief the anchor (today it was Melissa) before the show. The schedule today was a little tight, so I just talked her through the main arguments over the phone. Here are the notes I put together to prepare for the hit.
JR notes for briefing the anchors before the show.
If you fight your way through the bad penmanship, you will see that the Chinese economy is still in the crapper (technical term), and that investors have concluded that the recently-announced government stimulus measures add up to a nothing-burger. That’s largely because property prices are still falling. Home prices in August took their biggest drop (-5.3%) in 9 years.
That’s reason enough for investors to stay clear of the Chinese stock market, but it’s not why I advised viewers to put their smart phones down and back away slowly from the BUY button. The reason is SLS.
Sudden Loss Syndrome (SLS) is what happens when you put your money into anything that can be wiped out in an instant by the wave of a single person’s hand. The person I am referring to, of course, is Xi Jinping, China’s supreme ruler and one and only policy maker. And, in spite of the assumptions you used in Finance class, Xi Jinping is NOT normally distributed.
Risk is not the backward-looking standard deviation of a stock’s price history. It is an investment that does not pay you back your capital and the stream of profits you expected when you bought it.
It’s only fair to tell you that I learned about SLS the hard way, by owning assets that suddenly went “POOF” when an autocrat woke up in a bad mood one day and decided I couldn’t own them. In today’s case, there are two such risks: 1) the big risk that Xi Jinping wakes up crabby and announces that foreigners can no longer own Chinese assets, and 2) the smaller but still meaningful risk that whoever wins the U.S. election in 3 weeks decides that Americans can no longer own Chinese assets.
When you own a portfolio of stocks, you are making a bet that you can collect a stream of cash flow that goes far into the future. In the first year, for example, the only thing you will collect is the dividend, if there is one. If the dividend yield is 2%, then, what makes it worth paying the other 98% of the price to buy it? Future cash, of course. But you have to actually own it and have the legal right to collect the dividends for that to be worth owning. That means the duration of the cash flow stream is the key variable when figuring out what to pay for the stock.
The views and opinions expressed in this article are those of Dr. John Rutledge. Assumptions made in the analysis are not reflective of the position of any entity other than Dr. Rutledge’s. The information contained in this document does not constitute a solicitation, offer or recommendation to purchase or sell any particular security or investment product, or to engage in any particular strategy or in any transaction. You should not rely on any information contained herein in making a decision with respect to an investment. You should not construe the contents of this document as legal, business or tax advice and should consult with your own attorney, business advisor and tax advisor as to the legal, business, tax and related matters related hereto.