In the real world - asset allocation

itwasntme001

Linton said:

Deleted_User said:

Valuations are based on projecting profits and growth to infinity, although future returns are assumed based on terminal value - and discounted.  

If only valuations were based on projecting profits to infinity!  Many high value share prices now are valued on the likelihood the buyer feels that they will be higher price next year (or rather perhaps next week). Then we have a positive feedback loop driven by supply and demand. Just like Bitcoin. 

Valuations should be and are based on cashflows out to infinity - equities are the longest duration asset class there is.  Stocks maybe moving up and down in price due to supply and demand but ultimately stock prices are just the discounted sum of future cash flows.  Nothing more.

That is why at the extreme of 0% interest rates or thereabouts growth stocks rise disproportionally in price higher because the value of the longer dated cash flows (where growth stocks have much of their value) go up a lot more.  Conversely they will fall a lot more as well once rates start to rise.

Hence stocks like Amazon and Tesla has done so well (along with their growth prospects also rising too).

[Deleted User]

Clearly, there is an element of Robinhood/momentum investing.  Prices on AirBNB IPO can’t be justified using traditional measures.  Arguably it makes sense for short term speculators who are in and out of stocks.  Would not be smart for someone investing for retirement income. 

Mrs_Z

I don't get the arguments:  "...would argue that the Corona Virus has probably destroyed capital and reduced the amount that will be produced in future - a smaller pie to go around. .... terms which suggests that collectively we will all be able to consume more in our retirement years.
Why has the COVID destroyed capital?  Why would we necessarily want to consume more in our retirement years?
I would have thought that the pensioners would not consume more, even if they could, given that it is likely that they would have already purchased and paid for the major items in their lives, houses etc.  Many like to travel but even this is down the health (ignoring the current COVID situation here) and at some point, jetting round the world is no longer possible or preferable. Many are also driven to leave a legacy to their children.
Maybe I've missed the obvious but maybe the OP could expand their lines of thought.

Linton

itwasntme001 said:

Linton said:

Deleted_User said:

Valuations are based on projecting profits and growth to infinity, although future returns are assumed based on terminal value - and discounted.  

If only valuations were based on projecting profits to infinity!  Many high value share prices now are valued on the likelihood the buyer feels that they will be higher price next year (or rather perhaps next week). Then we have a positive feedback loop driven by supply and demand. Just like Bitcoin. 

Valuations should be and are based on cashflows out to infinity - equities are the longest duration asset class there is.  Stocks maybe moving up and down in price due to supply and demand but ultimately stock prices are just the discounted sum of future cash flows.  Nothing more.

That is why at the extreme of 0% interest rates or thereabouts growth stocks rise disproportionally in price higher because the value of the longer dated cash flows (where growth stocks have much of their value) go up a lot more.  Conversely they will fall a lot more as well once rates start to rise.

Hence stocks like Amazon and Tesla has done so well (along with their growth prospects also rising too).

That is the traditional theory.  It makes sense. But in practice it is pretty irrelevent.   If you look on the Tesla thread I have not found a single posting out of the currently 354 posts that mention this (not that I have looked too thoroughly), never mind carrying out a DCF to infinity.  For how many of the people who doubled the price of Uber was profits to infinity a consideration?  If a price is going to double in the short term, who cares about the long term?

Unfortunately we have to live in the world as it is, not as it should be.  

michaels

Mrs_Z said:

I don't get the arguments:  "...would argue that the Corona Virus has probably destroyed capital and reduced the amount that will be produced in future - a smaller pie to go around. .... terms which suggests that collectively we will all be able to consume more in our retirement years.
Why has the COVID destroyed capital?  Why would we necessarily want to consume more in our retirement years?
I would have thought that the pensioners would not consume more, even if they could, given that it is likely that they would have already purchased and paid for the major items in their lives, houses etc.  Many like to travel but even this is down the health (ignoring the current COVID situation here) and at some point, jetting round the world is no longer possible or preferable. Many are also driven to leave a legacy to their children.
Maybe I've missed the obvious but maybe the OP could expand their lines of thought.

Capital is often destroyed if not used - for example if a shop chain goes broke the value off the brand falls and for the shop units to be used they will need to be refitted.  Similarly if demand falls lead to a car production line stopping the existing line will likely never be resurrected.  In a million ways the recovery from a recession is not symmetrical and capital and thus productive capacity is lost for good.

As far as consumption is concerned, the discussion is not about how much a retiree wants to consume compared to wen they are working but that they still want to consume, sure the division of expenditure may shift from expenditure on 'capital' things (cars for example) to expenditure on services cab drivers) but it is still the cases that we will all want to use the assets we have saved to support the lifestyle we aspire too.  Just because the value of all assets has increased due to quantitative easing making everyone think they will be able to have a better standard of living in retirement doesn't mean there will be any more services to buy in the future so all those old people with their more valuable pension pots will still be bidding to hire the services of the same number of taxi drivers so the odds are that taxis will get more expensive and the increase in asset values will turn out to be 'money illusion'.  My pension may have gone up in value by 20% but so has everyone else's so we wil all still only be able to purchase the same share of future output.

Linton

michaels said:

Mrs_Z said:

I don't get the arguments:  "...would argue that the Corona Virus has probably destroyed capital and reduced the amount that will be produced in future - a smaller pie to go around. .... terms which suggests that collectively we will all be able to consume more in our retirement years.
Why has the COVID destroyed capital?  Why would we necessarily want to consume more in our retirement years?
I would have thought that the pensioners would not consume more, even if they could, given that it is likely that they would have already purchased and paid for the major items in their lives, houses etc.  Many like to travel but even this is down the health (ignoring the current COVID situation here) and at some point, jetting round the world is no longer possible or preferable. Many are also driven to leave a legacy to their children.
Maybe I've missed the obvious but maybe the OP could expand their lines of thought.

Capital is often destroyed if not used - for example if a shop chain goes broke the value off the brand falls and for the shop units to be used they will need to be refitted.  Similarly if demand falls lead to a car production line stopping the existing line will likely never be resurrected.  In a million ways the recovery from a recession is not symmetrical and capital and thus productive capacity is lost for good.

As far as consumption is concerned, the discussion is not about how much a retiree wants to consume compared to wen they are working but that they still want to consume, sure the division of expenditure may shift from expenditure on 'capital' things (cars for example) to expenditure on services cab drivers) but it is still the cases that we will all want to use the assets we have saved to support the lifestyle we aspire too.  Just because the value of all assets has increased due to quantitative easing making everyone think they will be able to have a better standard of living in retirement doesn't mean there will be any more services to buy in the future so all those old people with their more valuable pension pots will still be bidding to hire the services of the same number of taxi drivers so the odds are that taxis will get more expensive and the increase in asset values will turn out to be 'money illusion'.  My pension may have gone up in value by 20% but so has everyone else's so we wil all still only be able to purchase the same share of future output.

mmm but the increase in asset values for those who have realisable assets is coupled with a reduction in wealth for many people who do not.  Perhaps what the taxi drivers gain from increased numbers of oldies wanting a lift to the shops they will lose from fewer journeys to and from the local town centre in the evening.

ISTM the post Covid economic future is too complex to be worthwhile trying to predict.

But I dont see the argument that Covid means a reduction in future production.  Well it may in the short term but perhaps the nation as a whole will benefit from the disappearance of a number of companies whose time had passed anyway leaving room for more dynamic and efficient replacements.  And the question of balance between those who earn and those who own assets will continue to be a major underlying problem.

michaels

Hysteresis is what economists call it.

[Deleted User]

Some redistribution will happen. Both between countries and within.  So far older people with assets benefited but younger, asset poor people did not. As retirees are selling off shares and houses, youngsters will have to part with more of their salaries (which have not risen) and take on more debt. Older people who kept their assets in cash have missed out too. 

At some point inflation may rise, assuming there is no long term economic damage and confidence comes back.  Thats not a problem for people with assets.
Last but not least, taxes will rise.  Under all scenarios. And that will impact people with assets. 

In summary, I see valuations as real but there will be some financial pain for most of us in the not too distant future. 

Mrs_Z

hmmm... i'm still not sure... where there's demand someone will come up and fill that demand with goods or service as there is usually a profit to be made (law of supply and demand).
Equally, many businesses are very clever nowdays in creating demand where there wasn't one to start with - examples - have you ever gone to IKEA for 1 thing and come back with another 10 items that when in store, you realised were so essential that you could not leave the store without them, yet they were not on your shopping list when you went to the shop.  Another one, Amazon & Amazon Prime... when our company relocated to another country in 2019, no1 concern for people was that the new country did not have Amazon/Amazon Prime and they could not get their orders the next day.... never mind the children's education, housing, etc!
One constant in life is change (& taxes), business will go out of business for whatever reason and new ones sprout.  Humankind is very adaptable to the circumstances.  

NedS

Deleted_User said:

Valuations are based on projecting profits and growth to infinity, although future returns are assumed based on terminal value - and discounted.  

Reminding me of this recent video on valuation:

https://www.youtube.com/watch?v=bO_JqQzn1lU