Professional Investment
By NICHOLAS DAVENPORT
OCCASIONALLY in my post comes a letter asking what sort of investment policy the 'professionals' are now pur- suing. The bull market has now been going strong for sixteen months in this coun- try and for eighteen months in America. Equity share prices judged by the yields, are very high especially in New York where they have risen by about 56%. But the year of recovery from a recession is usually a good year for profits because productivity advances rapidly. This is particularly true of America. In this country the profit expansion may be more sluggish. The replies to the recent F.B.I. questionnaire revealed no great pick-up in productivity. So the 'professional' attitude to equity shares, which now so often return a yield only half that obtainable on - bonds, should be of particular interest to the ordinary investor at this moment. Are they buying or selling ?
Many investment managers, strangely enough, have no real investment policy at all. The constitution or size of their funds makes switching quite impossible. The Prudential, for example, is so big that its managers can never sell; they can only buy or take up new issues. This saves them many a headache. The same is true of most of the big 'life' funds. The investment trust managers are also restricted but in a different way. They have no new money to invest except when they make an occasional issue of capital. They are therefore confined to making switches which they do as they think fit.
Although the size of the big insurance funds restricts the scope for switching I do not mean to infer that their managers go to sleep and fail to conduct an active policy. As they have new money coming in for investment every week, they can and do use these funds in accordance with their understanding of the cyclical movements of the market. They will stop buying equity shares if they think they
are too high or they will buy Government bonds if they think they are too low. That is precisely what they are tending to do with their new money at this moment. But I do not suggest that they pursue an active cyclical investment policy in the old sense of the words.
Between the wars the cyclical movements in trade seemed to have a duration of between eight and ten years. It was obviously a profitable job for managers to try to go out of the market near the peak and re-enter near the bottom. The technique was to sell every- thing when money rates had been pushed up high enough to kill a boom; then re-invest in short-term deposits; later exchange into Government bonds when money rates had f come down ; finally re-invest in equities at the a first signs of recovery.
Today these cycles are not what they usep to be; they have been flattened out by Govern- ments pursuing a 'full employment' policy. t As Mr. Amory told the Institute of Directors at their last annual convention: 'If there is still a cycle in business affairs it is very different from what it used to be. The alternatives were then boom and slump. Nowadays we are either expanding or checking expansion to avoid inflation and that is a very different story.' Seeing that both the American and British governments are obviously more fearful of slump than of a boom, the chances are that business will be heading more often for ex- pansion and inflation than for recession and deflation. This makes the equity share now the safest medium for long-term investment.
It is the fashion among the professional investment managers in America to project the rate of growth of the equity share over, say, the next five or even over the next ten years. But the danger of these calculations is that industries go up and a down. There is nothing automatic about the rate of growth of individual company earnings which have to support the growth of capital values. The professional managers
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cannot therefore ignore the principles of the cyclical investment policy; they must always be watching the fluctuations in the industries they invest in.
What makes Wall Street so dangerous today is that their industrial equity values are at present based on the projection of earnings growing steadily over the next five years, which is simply not realistic. Some of the professional advisers whose optimistic litera- ture I read should consult a psychiatrist. Cyclical movements in trade, although flat- tened out and shorter in time, still exist and it is not wise to ignore them. Fluctuations of 25% to 30% in share market values can still frequently occur.
The immediate threat to the equity markets which the professionals will sooner or later take into consideration is of a monetary order in the United States and of a political order in this country. Will the Federal Reserve, aided and abetted by President Eisenhower and Mr. Secretary Anderson play the sound money role of a Thorneycroft? An equity share boom can undoubtedly be killed by very dear money and by an embargo on bank loans for speculative share purposes. If Wall Street is brought down, can Throgmorton Street stay up in the face of a general election? Confronted with this situation the professionals, if I know them, will run to cover. New buying will cease and the market will fall. They are already beginning to act in a less confident, and soniewhat nervous manner.
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