Investors operate under a fog of uncertainty, allocating capital under Keynes’ “dark forces” of time and ignorance. They expect valuations to rise for businesses that have a future, accounting for macro and microeconomic factors, as well as current and future government policy shifts.
Periods of euphoria then are matched by those of despair as the wisdom of crowds oscillate psychotically from time to time. In the US, the current euphoria has led to valuations becoming increasingly absurd and harder to justify by any rational metrics, and yet the markets keep barreling on as more and more people join the fray.
That it will end in tears is beyond a shadow of a doubt; however as long as the party continues, the naysayers are proven wrong and made to look foolish.
Property pick up
The reverse is the case when despair takes over. In Dubai, after years of price declines, real estate and equity markets have perked up, (especially at the top end of the spectrum in the case of the former), as capital returns to the market.
Concerns regarding oversupply have suddenly abated, and despite the reduction in the population, the future looks brighter than ever as the vaccination drive and the upcoming Expo has revived sentiments about economic life returning to normal. This despite the challenges that still remain in the system.
Suddenly, there is a sense that all will be well, and in this case, the pessimists, who have been calling for further price declines have been caught off guard.
Go with the fog
There is a lesson gleaned from all this: the time to invest aggressively is when the fog of uncertainty is at its highest. Undoubtedly, there are other factors at play here as well, such as the transparency of markets, institutional oversight and regulation, as well as dispute resolution mechanism that add to confidence.
But the fundamental factor at play is always the wisdom of crowds and how to invest counter intuitively to that mechanism. No one has ever lost money by taking profits, and even though it is likely that this policy will engender exiting markets earlier than when it tops out, it prevents the disciplined investor from succumbing to herd mentality instincts when markets get carried away.
Shaken by volatility peaks
By definition, this implies that that the disciplined investor is also a patient one. As the real estate markets in Dubai have shown, bull and bear cycles play out over time. In bear markets, this is flushing out the speculators and “weak hands”, and in bull markets, encouraging shorter duration of investments. This implies that volatility starts to spike as markets start to reach their tops.
It is this volatility that in turn makes investors skittish and sets off an inevitable rush for the exits. What is amusing is that post-facto explanations of market movements suddenly lose their ability to explain future movements.
There can be no better explanation than the “oversupply” narrative that has dominated the Dubai real estate landscape for years. It has been left to very few who have repeatedly pointed out that the issue was never one of oversupply, but rather that of sagging demand on account of lower liquidity in the system.
Despite the skepticism, the rush to enter offplan markets in recent months has finally proved that adage to rest. The issue in real estate markets (as well as any markets for that matter) has always been the anchor of replacement value. And when prices move above or below these levels for extended periods of time, mean reversion inevitably kicks in.
The key piece of advice is to look at markets that are either incredulous or at dread levels. Either end of the spectrum implies action that needs to be taken. In the US, markets are at incredulous levels, and yet the amounts allocated keeps on rising reinforcing the herd mentality.
Conversely at the “dread” level phase, capital allocated is low implying that markets have to climb a “wall of worry”. It is this counter cyclical behavior that is easiest to identify – and yet the hardest to implement.
The courage to invest in markets no one else believes in carries its risks to be sure. But there is no other strategy that has proven to be as time-tested and rigorous as this.
Sameer Lakhani
The writer is Managing Director of Global Capital Partners.
