Value Library

The following is an excerpt from the ABC Perspective - October 2008 - Pg. 16

Investor Psychology vs. Company Fundamentals

Extreme investor anxiety has penetrated the world’s financial markets.  Newspaper headlines and radio/TV reports highlight the previous day’s financial stumbles and then extrapolate what further negatives could transpire.  Pessimism is growing in crescendo and the investment world feels simply awful.

Given the uncertain environment investors are second-guessing themselves.  Many are losing their investment confidence and conviction.  There appears to be a rush to liquefy investment portfolios creating, in effect, a mad dash for cash.  Investors are selling whatever is liquid as their concerns become more fearful.  Indiscriminate selling of fundamentally sound companies by motivated investors appears to feed upon itself.  The more selling that transpires the lower the market falls and the more the market falls the more motivated selling occurs.  Few are paying attention to fundamental valuations as they react to worsening investor pessimism and psychology.

Now, this is not to belittle the serious global financial problems.  The fact is that the recent bankruptcies and near-bankruptcies of Bear Stearns, Lehman Brothers, AIG et al are sapping worldwide investor confidence and boosting investment pessimism.  Unfortunately, both investor confidence and a steady optimism are key ingredients to high functioning securities markets.  With both these factors at a low ebb attractive corporate fundamentals such as discount to book or net asset values, low price earnings and cash flow multiples as well as hidden assets are being overlooked during this frenetic financial period.  In effect, pessimistic investor psychology is overshadowing the growing number of dirt-cheap company valuations.  Clearly, fear is overtaking corporate fundamentals.  This is not to imply that the securities markets will immediately take off from the currently depressed levels.  However, for those patient investors who take a longer term view, say 12-18 months, we believe that they will be well-rewarded.

Interestingly, Warren Buffett, perhaps the business world’s savviest and most successful long-term investor has made two major investments over the past few weeks.  His combined $8 billion investment in Goldman Sachs and General Electric, his positive long-term commitment and his incredible ability to sniff out distressed business situations should hearten distressed investors.  Warren Buffett’s financial clarity, acumen and ability to look beyond murky windshields should give us the impetus to reflect past the all-pervasive investment pessimism and more toward attractive long-term company fundamentals.  Although the present financial uncertainty may be perceived as extraordinarily high risk, in actuality, declining market prices offer the discerning investor an opportune entry point to achieve significant long-term capital appreciation.

Irwin A. Michael, CFA