Model Portfolio timbo56:SSOF1

I highly recommend www.gallup.com, which displays a marvelous compendium of information concerning beliefs about all sorts of things. The scope of the queries undertaken is truly remarkable, ranging from polls about how Moldovan’s feel about their electoral recount to how American’s feel about their own health and well being. If you visit this website, I guarantee that you will learn something.

One item that caught my eye was an item about Americans’ preferences for long term investments. Apparently, 34% of Americans now feel that savings accounts are the best form of long term investment, closely followed by real estate with 33%. Only 15% favored the stock market. This represents a big change from early 2007, when only 18% felt that savings accounts were best and 31% favored the stock market. Real estate was on top back then, with 37%. To me, these figures are very, very bullish for the stock market. Why??? Because it is changes in beliefs that drive prices, and a belief is more likely to increase in popularity from a point of great unpopularity. At a minimum it is easy to say that it becomes hard for a very unpopular belief to become even more unpopular. To do so would require convincing the last holdouts. Taking a different approach, if equal proportions of savings-believers and stock-believers switched places, for example 10% of each group changed belief, the stock-believers would have a net gain and the savings-believers a net loss.

Consider a thought experiment: What if there were two types of equally rare, equally useful metal, gold1 and gold2, and society began with gold1 being three times as expensive as gold2, because of greater hording of gold1. If 5% of gold1 value was exchanged for gold2 and 5% of gold2 value was exchanged for gold1, gold2 would rise in price because 3 times as many dollars would be flowing from gold1 to gold2 than in the other direction. This could well start a trend of rising gold2 prices that would feed on itself, with gold2 becoming increasingly valuable and increasingly popular due to that rise in value. Eventually, it is quite likely that this momentum would lead gold2 to exceed gold1 in value. It could become quite a bit more valuable as many people would have come to view gold1 as a very poor investment in comparison with gold2, which had the quality of tending to rise in value. Then one day, when gold2 was perhaps three times as valuable as gold1, a peculiar thing would happen. The price of gold1 would increase relative to gold2. Perhaps that day, a few gold2 holders had the thought that the price difference had become too great, and they changed belief. Well, this would of course cause the entire cycle to repeat itself, which it could continue to do forever, given peoples’ unwillingness to learn from history.

There is an element of this phenomenon with the stock market, today. As it went down, it had begun to appear to be a less and less inviting place to store one’s wealth. But at some low point, the trend reversed, and then (here is my most basic point) the trend becomes self-reinforcing, until it has gone too far. So, as we recover from the market’s low point, a self-reinforcing trend of stock market advances takes root, and this trend also helps the economy as whole. Fortunately, the trend is also reinforced by increasing government spending as the American Reinvestment and Recovery Act (ARRA) gets slowly into gear and more public works projects enter the construction phase. ARRA public works spending is still a trickle, but this month about 13 billion will be spent on a one-time $250 payment to social security and supplemental security income recipients. This should help the retail industry which has suffered from grievous layoffs, as of late. ARRA public works spending will increase significantly in June and by August turn from a stream into a river of spending and employment. I predict that by mid-2010 the stock market will have overtaken savings accounts in popularity as a long-term savings mechanism.

One interesting aspect of the Gallup survey is that precious metals were not even included in the question. It is my belief that precious metals will be eventually held by pension funds and insurance companies as a relatively stable form of maintaining and building wealth. Nothing else is as fungible, quantifiable, transportable and naturally supply-limited as precious metals. These are among the qualities that have caused gold to be one of the very best investments over the last 10 years. I have to believe that at some point this good performance will cause investors and institutions both to get over their aversion to “hoarding” and come to see that precious metals deserve a place in just about any portfolio. When that happens, watch out. The price of gold will soar. For right now, however, I believe the best bet is the stock market, until it recovers to a reasonable level of 1350 on the S&P 500.