(P&I) The Dismal Equation (Ecclesiastes 1:9)

This way, Toto, to the risk-free rate of return.

Drama. Volatility is all the rage these days and what are we to do?

The answer is nothing because that’s the way – the only way – that the market works its way to the “risk-free rate of return” which we’ll call the “market yield” (please see below); in the face of that, all we can do is manage the stop/loss on our investments in case they’re required – no problem even though there are some things pending that can upset the balance and create some interesting times that is not just more of up and down.

The chart in Figure 1 on the right shows the change in total market value of the S&P 100 companies as the stock prices on each of them are randomly and independently varied between some fraction of ±100% of the demonstrated current volatility; we have thousands of charts like this on the possible outcome of the demonstrated volatility affecting these companies but they are all qualitatively the same and the market yield varies between 68.9±0.5 basis points and the aggregate market value of them all varies by ±200 basis points (±2%) if we rely only on the demonstrated volatility.

There is, however, one chart that’s different because it’s one of many – all similar – that is drawn from the S&P 100 in January 2013, two years ago and at the threshold of the market explosion that has put $3.1 trillion and 36% more money into the S&P 100 companies during 2013 and 2014.

The bedrock in all cases is the market yield which is currently 68.9 basis points (and down 1.6 basis points from 70.5 basis points reflecting a modest gain of about +5% in the aggregate market and increased volatility since early February) but it was 90.3 basis points (31% higher) in early 2013.

Nevertheless, it took a lot of new money to change it and instead of going up, it went down, and it had to go down unless the companies were able to ratchet-up their earnings and dividends as fast as the investors were buying them – which they couldn’t do and therefore, investors are paying a high or higher price for an income which is typical of a deflationary economy in which the return on our money as cash just isn’t enough to pay the bills.

The Dismal Equation (Ecclesiastes 1:9)

Defunct Economists, Practical Men, Madmen, and Their Clients

More than two-thirds of the World’s money (about $290 trillion at the present time) is invested in bonds, most of which is in government-related bonds and not only in the sovereign currency because governments need to respect the trade balance and might have to pay their bills in a foreign currency or there are not enough people who will lend to them at home.

Moreover, most people think that there’s some extra security in bonds because in the event of default they might be able to seize assets and run these businesses themselves; but that’s a delusion which we’re unlikely to change and small consolation to the bondholders in the S&P 100 companies which currently have $16.3 trillion in debt and only $4.2 trillion in their net worth account – alas, 25¢ or less on the dollar if these companies fail to thrive.

Ecclesiastes 1:9 “There is nothing new under the sun.”

The yield right now on new government debt is 25 basis points which is nearly 50 basis points below the yield on equities and every penny of it is earned by the companies themselves but we’re not sure of what governments earn and if  the major governments begin to beg for debt, or not, and raise or lower the rates on offer for government bonds to something that is above or below the risk-free rate of return that is set by the equity markets and not by them, the elephant has entered the room and investors will tend to flee to the “safety” thereof, casting-off their equities and wearing their new bonds. Oh well.

For more information, please see our recent Post “(B)(N) S&P 100 Volatility Risk and The Full Moon” which also provides the “volatility defense”.

And for more information on real “risk management” in modern times and additional references to the theory and how to read the charts and tables, please see our Post, The RiskWerk Company Glossary and “(P&I) Dividend Risk and Dividend Yield“, and our recent Posts “(P&I) The Profit Box” and “(P&I) The Process – In The Beginning“; and we’ve also profiled hundreds of companies in these Posts and the Search Box (upper right) might help you to find what you’re looking for, such as “(B)(N) TLM Talisman Energy Incorporated” or “(B)(N) ATHN AthenaHealth Incorporated” or “(B)(N) PETM PetSmart Incorporated“, to name just a few.

And for more applications of these concepts please see our Posts which rely on the Theory of the Firm developed by the author (Goetze 2006) which calibrates The Process to the units of the balance sheet and demonstrates the price of risk as the solution to a Nash Equilibrium between “risk-seeking” and “risk-averse” investors within the demonstrated societal norms of risk aversion and bargaining practice. And for more on The Process, please see our Posts The Food Chain and The Process End-Of-Process.

And for more on what risk averse investing has done for us this year, please see our recent Posts on “(P&I) The Easy (EC) Theory of the Capital Markets” or “(B)(N) The Easy (EC) Theory of the S&P 500“, and the past, The S&P TSX “Hangdog” Market or The Wall Street Put or specialty markets such as The Dow Transports & Utilities or (B)(N) The Woods Are Burning, or for the real class action, La Dolce Vita – Let’s Do Prada! and It’s For You, Dear on the smartphone business.

And for more stocks at high prices, The World’s Most Talked About Stocks or Earnings Don’t Matter – NASDAQ 100. And for more on what’s Working in America, Big Oil, Shopping in America or Banking in America, to name just a few.

Postscript

We are The RiskWerk Company and care not a jot for mutual funds, hedge funds, “alternative investments”, the “risk/reward equation” and every other unprovable artifact of investment lore. We have just one product

The Perpetual Bond™
Alpha-smart with 100% Capital Safety and 100% Liquidity
Guaranteed
With No Fees and No Loads on Capital

For more information on RiskWerk, please follow the Tags or Categories attached to this Letter or simply enter Search for additional references to any term that we have used. Related data may be obtained from us for free in a machine readable format by request to RiskWerk@gmail.com.

Disclaimer

Investing in the bond and stock markets has become a highly regulated and litigious industry but despite that, there remains only one effective rule and that is caveat emptor or “buyer beware”. Nothing that we say should be construed by any person as advice or a recommendation to buy, sell, hold or avoid the common stock or bonds of any public company at any time for any purpose. That is the law and we fully support and respect that law and regulation in every jurisdiction without exception and without qualification to the best of our knowledge and ability. We can only tell you what we do and why we do it or have done it and we know nothing at all about the future or the future of stock prices of any company nor why they are what they are now. The author retains all copyrights to his works in this blog and on this website. The Perpetual Bond®™ is a registered trademark and patented technology of The RiskWerk Company and RiskWerk Limited (“Company”) . The Canada Pension Bond®™ and The Medina Bond®™ are registered trademarks or trademarks of the Company as are the words and phrases “Alpha-smart”, “100% Capital Safety”, “100% Liquidity”, ”price of risk”, “risk price”, and the symbols “(B)”, “(N)” and N*.