A lot of commentators are saying that it is a particularly uncertain time for the market at present.
Investors have to contend with a multitude of factors, on a range of fronts, and there is heated debate as to their likely outcome and the impact on share prices. The smart investor, we are told, is sensibly sitting on the sideline and waiting for clarity before returning to the market.
On days like today, that advice seems especially prudent!
Like so much market commentary it is difficult to deny the general idea, but the practicality is highly questionable. The point I would make is: when is there ever certainty on the market?
Even in very bullish periods, where the outlook is unanimously positive, uncertainty nevertheless abounds. It just centres on different things, such as how positive the outlook is, whether or not stocks are overvalued, and how prolonged the good times will last.
Be Certain Of Uncertainty
Hypothetically, let's say that the mining sector manages to navigate through its problems, that the Eurozone sorts out its troubles and that China avoids any serious issues. Do you suppose that the early, tentative signals of strength will be instantly and equally endorsed by all? Will that mean an end to uncertainty?
The reality is that as soon as these uncertainties are resolved, they will be soon replaced by a completely new, and at this stage unforeseen, set of concerns.
Uncertainty is an ever present feature of markets. As investors, we must simply accept it and move on — if you can't, your investment dollar is better served by term deposits and bonds which offer the closest thing to certainty in the financial world. Just understand that the compromise here is woeful long term returns.
Why does it matter?
Investors must also understand that there are different types of uncertainty and, fortunately for the pragmatic long term investor, most of the uncertainty that the market focuses on is of little importance.
Consider the uncertainty of short term market prices; no one can know what our shares will do tomorrow. For many people the volatility of prices makes shares highly unattractive, and dissuades otherwise sensible people from investing in a wonderful wealth creating asset.
Similarly, even the best economists can't predict what the next quarter's worth of GDP growth will be — at least not with any real precision and consistency.
For others, there is no uncertainty at all — if you invert the situation. I have an absolute conviction that share prices will be erratic and unpredictable, but will move higher over the long term. I have no idea how much the economy will grow in the next few months, but I'd bet my left arm that the economy will continue to grow over the coming decades, despite the inevitable speed bump along the way.
Armed with these convictions, I am able to ignore these uncertainties and focus on others that are far more important.
What Does Matter
Of course, there are things over which uncertainty represents a real problem, even for the long term investor.
In essence, investing well is about paying a good price for an asset. In order to work out what price is sensible, you need a good indication of what a company's future earnings potential is likely to be.
Again, uncertainty is unavoidable; no one can know what the per share earnings of a company will be with any certainty. But inverting the problem again offers some great help.
There will be some companies — like junior metals explorers and biotechnology research companies — whose earnings will be difficult to guess, even in broad terms. But it is a virtual certainty that the success rate among such companies will be extremely low. In this instance, the best investment decision is to simply not invest!
On the other hand, there will be some companies whose future prosperity is far more certain. Of course, for these companies — like the ones we have on the Motley Fool Dividend Investor scorecard — we still can't accurately know how the earnings story will unfold, but it's a case of needing to be only generally right as opposed to specifically wrong.
Further, we can build uncertainty into our assumptions. For example, I might have an inclination that Woolworths (ASX:WOW) will grow its earnings at around 4-5% over the next decade or two, on average, but I'll buy in at a price that means I'll still do well even if the company falls a little short of my already conservative expectations.
The Foolish Bottom Line
Markets are uncertain places and share prices are volatile as a result. However there is little to be gained in lamenting that which we cannot change.
Instead of the distraction of short term forecasts and price movements, we should instead focus on the one certainty that really matters: quality businesses purchased at sensible prices will provide attractive long term returns. Perhaps not immediately, and almost certainly with the occasional bump, but as sure as night follows day, the investor that follows this prescription is likely to do very well over the years.
Moreover, resiliant companies with reliable cash flows will deliver investors a highly certain income in the form of dividends — and one that will come through almost all the ups and downs of the market.
Sitting on the sidelines may sound like a sensible thing to do, but there is danger in waiting for certainty to return. You could be waiting a long, long time!
