Institutional investors always ask what time it is.
Not (only) because they have an expensive lunch with a pension manager to go to, but also because there is an investment clock that reflects the business cycle.
The pretty clock shown here was created by Merrill Lynch. Merrill went bust last year, so you might think the clock is faulty!
But in fact the idea of an investment clock has been around for decades.
The investment clock captures two important truths:
- Capitalist economies follow a business cycle
- No sector of the economy, or asset or company exists in isolation.
Boom and bust is nothing new, despite what current doomsayers will have you believe.
It’s inherent in the cyclical expansion and contraction of the economy that it overheats and is cooled off, either intentionally through interest rate rises, or else through asset price crashes or similar market medicine.
The business cycle: Generally up, but regular downs.
(Source: WelkersWikinomics)
The following scan shows how the different sectors or assets do well at different points in the business cycle.
You can clearly see where the investment clock idea comes from.
It’s 7pm on the investment clock! I’m going to be rich!
It would be nice if telling the time on the investment clock was as simple as seeing when it’s time to leave the office.
In fact, telling the time is extremely hard, and the difference between a couple of ‘hours’ on the clock can have huge ramifications.
Cyclical shares, for instance, can easily fall 80% or more in a recession. Later they rally almost as hard ahead of a recovery.
False starts also complicate matters. The hands on the investment clock can go backwards as well as forwards. Several times in an expansion or contraction it will seem like a new phase has begun, only for the economy to step back in the other direction.
If market timing was easy, we’d all be doing it – and then it would no longer work, because we’d be bidding up the prices in advance!
Using the investment clock
I think the investment clock concept is extremely useful in understanding how economies relate to asset classes.
And I agree it’s potentially useful when you’re deciding where next to direct new money, particularly if you’re rebalancing your asset allocation.
You might decide to direct new funds towards a sector that you judge is coming up on the clock, for instance. It could look cheap, unless others agree with your time-keeping and have already started buying…
As always, drip feeding money into the market long-term will be a better course for most people than attempting any market timing.
Other investment clocks
I’ve collected a few more investment clocks from around the web, and included them with a few comments below.
Merrill's version of the clock originally put more emphasis on asset allocation.
This clock from LIGM Research takes poetic license with the business cycle.
A clock for traders. Jim Cramer would like this one.
This clock is a flashback for those who never got enough of school.
Equity classes usually follow a rough cycle, too. Don't bank on perfect timing!
Please note: In all these cases, no original source was cited when the image was found. If one of these clocks is yours and you can prove it, please do drop me a line and I’ll either credit you or remove the image as you see fit.
{ 3 comments… read them below or add one }
I must contend your initial assumption “Capitalist economies follow a business cycle”. The business cycle is actually caused by frauds in material wealth. For instance, the printing of fiat money leads to a lowering in the value of a dollar, the dollar which most people thinks is still worth the same, but is worth less, much less over time. Of course, it takes time for prices to adjust. The initial period of that is the boom. The secondary period the bust. Of course, people think they can bring back the boom by just printing more money, but people find out eventually, or it speeds up (hyperinflation) so fast no investment is possible. While the cycle exists currently, it should be explained why, what will happen when it continues, how it can be stopped, and how until it is stopped, how one can profit. You did the last point.
Havvy, I’m forced to assume that you have not had much experience or education in the field of economics. Whether we use fiat money or the gold standard, there is a very real business cycle and it has been happening for centuries. It is the result of a great many inefficiencies in the market that prevent that market from ever truly reaching equilibrium.
Havvy, as Bill says, I believe the business cycle is an inherent part of a capitalist economy and/or market system, regardless of the monetary base.
To see it in its pure form, look at commodity extraction as a sector. Miners invariably delay production while prices rise, because they fear their investment will be wasted (or worse) should prices fall. Eventually prices get so high that the potential rewards of expansion are greater than the perceived risks, so they expand production, find new reserves and open new mines etc.
Since their particular mined resource is in demand, all is well, the market absorbs the new supply, profits rise further for the miners. Perhaps the old cautious management is sidelined for those who think mining has entered some new perpetually expansionist era. (You saw this with banking in the 1990s, for instance).
This is the boom phase.
More mines are opened, more money enters the sector – old hands may even sell out as they sense the maths no longer makes sense except on the thinnest margins at the highest prices (see for comparison commercial property from about 2004-2007).
Typically with mining, eventually either demand eases off because of a slowdown elsewhere in the economy (myriad reasons) or else supply overtakes demand. Both lead to a fall (maybe bearable) or a collapse (bad!) in prices.
Mines that were barely economic at the old prices are now loss making. Companies start to go bust. Mines are put on sale – but nobody wants a mine now, driving prices down lower.
This is the bust phase.
You see similar patterns in all sectors, in different guises. It might be employment costs, investment flows, regulatory changes, all kinds of mounting inefficiencies.
Money supply is just one of many factors. Of course governments while try to increase or choke off the supply of money (and consequently inflation) as part of their management of the economy – with an aim to smooth out the highs and lows – and it’s true the results can vary. But it’s just one small part of the picture, in my opinion.
Thanks to you and Bill for your comments!
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