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Andrew Allentuck

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Patience is an investment virtue

Andrew Allentuck

The assignment — what is the best investment advice you've ever had — turns out to be nothing so grand as to buy gold when it languished below $300 (U.S.) or to short Nortel when it was trading at $120. Rather, it was from an investment dealer who watched my sometimes frenzied trading activity and said two words that I have tried to live with for the last twenty years. "Be patient," he said. That kernel of wisdom lowered my blood pressure and raised my returns.

Stocks at any price have further to rise than to fall. That is not to say that one should pay any price at all for a stock — buying low and selling high is still the concept —

but over long periods, stocks have upward biases and should turn in positive returns. That's why patience ought to pay. Moreover, markets reward patience. Here's why -

First, stocks are repriced for the effects of inflation on earnings and capital. If inflation pushes up prices moderately, stocks should rise in a proportional if not quite exact fashion.

Second, stocks reflect the skills of company managers who want their profits to rise and their shares to gain value. Their prestige is on the line, their directors want

performance, their stock options gain value when shares rise, and they can capture

various efficiencies of the market, of management, and of tax regimes to make earnings go up. Investors should not buy companies on the basis of accounting tricks performed by management. Yet managers who are friendly to shareholder interests can work magic

through stock buybacks that increase earnings per share, raise dividends, make shrewd acquisitions, and sell money-losing divisions. It's all part of good management.

Third, stocks have an historical upward bias that reflects the growing wealth

and productivity of markets. American and Canadian stocks rose at a compounded real rate of return of 7.4 per cent per year from 1982 to 2001. That is a significant measuring period, for inflation fell fairly consistently from double digit levels in 1981 to low single digits as the millennium began. Low inflation is the current environment too.

History and philosophy are fine, but they don't address the panic that sets in when a stock just bought starts to tank. Here is where research and trading skills come into play. If you buy value stocks and pay relatively low prices, the odds are with you. After all, the less you pay, the less a stock can fall. But some stocks are cheap for good reasons.

Technical trading, the school of thought which holds that everything that can be known about a stock is already priced into it. So the wiggling price lines should show the future. If that is so, then the future of Bre-X, of Nortel and of other awful flops would have been in the price lines. It was not. The most price trends tell is popularity or lack of it. There is no substitute for skepticism and diligence. It follows that if you know a stock and the company behind it fairly well, then you can take your time and patiently allow the market to realize the value of what you know.

The upward bias of stock markets has justified patience for most of the post-World War II period. The United States emerged victorious from the conflict as a military superpower and creditor of the rest of the world. If the U.S. were to slip off that pedestal — and it has given signs at least in credit markets that it cannot keep the capital of the world if it runs massive trade and tax deficits forever — the upward bias of U.S. stocks and perhaps Canadian stocks could be impaired. The U.S. market has had long periods of stagnation — the 1930s, the 1950s, and the 1970s, for example, but geopolitical supremacy has always pulled it out of its slumps. That has meant that buying on dips or sticking with stocks through dips has paid off handsomely. The 22 per cent slump of the Dow Jones Industrial Average on Oct. 19, 1987, the crisis of Sept. 11, 2001, and even the dot com meltdown were passing problems for the Dow and the TSX. But faith in markets has its limits. Had one bought on dips following the tumble of the Japanese Nikkei 225 from its perch in 1989 when it was at 39,000, recovery would have been difficult. If you are going to put faith in national stock markets, it helps to have

reasonable valuations and geopolitics on your side.

For Canada and for now, faith in the market is likely to pay off. The present credit crisis will pass and the major banks and insurance companies, well-capitalized resource companies and well-managed consumer products firms should be fine. Paying too much

is seldom a good idea, but over periods of four decades, stock prices converge to long, secular vectors. If you pay $1 or $2 for a stock in year 1 and it is $100 in year 40, your percentage gains will be 10,000 or 5,000, respectively. In relative terms, the percentage gain matters a great deal. But in simple arithmetic terms, your gain will be $99 or $98. Profit ought to be the reward of patience. At times, of course, getting that profit may try the investor's soul.

Andrew Allentuck writes about investments for The Globe and Mail, and reviews books on finance for globefund.com and globeinvestor.com. He is also the author of several books.

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