Since ocean swimming is just a hobby and only one of my passions, here are some thoughts on how our adventures relate to far more important matters: the markets.
On September 23rd I dove into the water off of Catalina Island around midnight and started swimming. My destination: Point Vicente, Palos Verdes, 20 miles off in the distance. Many people wonder: what do you think about the while swimming 20 miles? It turns out that hours of ocean swimming provide plenty of time to ponder the machinations of Mr. Market in 2009.
Lesson 1: Focus. Discipline. Pacing.
Focus, discipline and pacing. These are the keys to marathon ocean swimming success. They are also the keys to successful long-term investment success.
I experience a whirl of emotions during an ocean swim. At the start of the Catalina Channel swim, I was nauseous – likely seasickness from the boat ride to the island from the mainland. Once in the water I became disoriented by the pitch-black conditions. I could see what looked like large fish swimming below but I could not see my two kayakers 10 yards away.
I battled through each 15 minute period that was separated by a 10-15 second “feeding” break. After a few hours, a few carbohydrate “gel” packs and several bottles of water, I felt great. A wave of energy swept over me and my turnover picked up to 68-70 strokes per minute from my planned 60-65 strokes per minute—a pace I would not be able to maintain for hours on end. My brother, following alongside in a kayak, cautioned on the torrid pace and I settled back in for the long journey ahead. We were trying to reach Palos Verdes, not set the record for fastest 1-hour pace.
In the markets a period of nausea ensued after Lehman’s collapse and stretched into March 2009. Terms like Great Depression and financial Armageddon peppered conversations. Then something changed. Spring had sprung and investor sentiment thawed. By summer, not only had sentiment improved but it was clear investors developed a severe case of amnesia. On the heels of the biggest credit bubble and bust in history, the stock market soared, investment grade and high yield corporate debt rallied and talk of a recovery, a new bull market and even a new bubble emerged. Using data going back to 1871, we can see that only 3 times has the stock market swung from being down 40% over a six-month period to being up 40% over the following six-month period: 1932, 1933 and 2009.
What had changed?
In my view: very little. The markets swung violently from extreme panic to euphoria as the Federal Reserve stepped in (gel packs in hand) to stop the run on the banking system. The market’s perception about the world had change, the world had not. A credit boom led to credit bust – a story that too-often repeats over the course of financial history. In “This Time is Different,” economists Carmen Reinhart and Ken Rogoff document eight centuries of crises. The aftermath is a “creative destruction” — shifting of resources (capital, and, unfortunately, labor). This process takes time, but certainly six months is overly optimistic.
The key to Channel swimming is to keep calm through the highs and lows of each hour. The pacing and direction during each 15 minutes is established by our strategy of how to safely reach the final destination. This strategy doesn’t ebb and flow with emotion. This is a healthy reminder for investors about the likelihood of a market pullback.
Lesson 2: Not one risk, but many risks.
After the shock of 2007-2009, investors have been on the lookout for the next “big systemic risk”. One example is the market’s current worry over inflation.
In ocean swimming, I call this the “shark factor”. Sharks dominate discussions about ocean swims. Many believe sharks represent the greatest danger to a lone swimmer in the open water. This presents two problems. First, very few swimmers actually swim in the open ocean (only 173 have actually crossed the Catalina Channel) and past is not prologue. The frequency of past shark attacks says nothing about what could happen during my swim. More importantly, the focus on sharks masks many other risks. There’s exhaustion, cold water and hypothermia, dehydration. On any given day in Channel swimming, one risk – or a cocktail of risks – can derail a swim.
In the Catalina Channel, the biggest risk turned out to be the cold (yes, in California!) endured over the final three miles. In another 2009 swim across the 10-mile Maui Channel, the biggest risk was dehydration. Approximately five hours into the Catalina swim, I felt something latch on to my foot, followed by a sharp pain.
A jelly fish, not a shark.
Lesson 3: Adaptation.
I swam for 9 hours and 33 minutes in water temperature ranging from 64 to 69 degrees. I spent six hours swimming in the dark. My body battled cold, fatigue, dehydration, sleep deprivation, jelly fish. The body is amazingly adaptive.
So too is the US economy. One of my favorite quotes comes from the economist F.A. Hayek, winner of the 1974 Nobel Memorial Prize in Economics: “The curious task of economics is to demonstrate to men how little they know about what they imagine they can design.”
Hayek’s words are warning against the expectation that a plan is needed to “fix” the US economy. Instead, the “economy” is literally millions of individuals engaged in trade and interaction all over the world, much of it spontaneous and not the result of any design.
To think about how resilient and adaptive the economy is, consider job creation. If you follow the popular financial media, you probably think the economy is shedding 500,000 jobs per month. In fact, in the three months ending December 2008, 8.467 million jobs were lost from firings, quitting or business closures. But that’s only half the story.
During the same period 6.712 million jobs were created. That’s right, created. Further, 20 years of data available reveal that approximately 7 million jobs were created and 7 million lost over the average 3-month period. Sure, in a “recession” the scales tip toward job losses. In “expansion” the opposite occurs. While a healthy economy is, of course, one where more jobs are created than lost, the economy is not an organism to be bumped and prodded by planners in the right direction. And focusing on the monthly number completely hides the dynamism of an advanced, complex economy. Innovation, entrepreneurship, this is the stuff of wealth creation and long-term growth.
The next challenge: a 28.5-mile, counter-clockwise circumnavigation of Manhattan. This is the third swim in the “Triple Crown of Ocean Swimming” (English Channel, Catalina Channel, Swim Around Manhattan). Fewer than 40 swimmers have ever completed all three swims. We will keep you posted on the progress.
The market’s next challenge: to survive without the Fed’s gel packs.
Disclaimer: Of course, the views expressed here are my own and do not represent the views of my firm.