The Cost of Comfort

The Cost of Comfort


Wow. That escalated quickly. After years of head fakes and empty threats by members of the EU, investors had been lulled into complacency a la Public Enemy – Don’t Believe The Hype. Whoops.

But now that Britain has let the genie out of the bottle, that false sense of security has been shattered. And as a result, investors are fleeing risk assets in favor of safety. They would be wise to remember that short-term comfort often comes at a high long-term expense.

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Defensive, high-quality equities are now trading at extremes last seen during the 2008-2009 Financial Crisis and the 2011-2012 European Crisis (chart below). This presents investors with quite the quandary:

  • Option one: Pay up for comfort and buy “safe” assets at a hefty premium.  This is the “easy” and obvious decision today. But paying too a high price can turn even high-quality assets into low-quality investments.  High quality assets can decline just as much when that quality premium normalizes.
  • Option two: Embrace uncertainty and buy more cyclical assets at lower prices. This never feels good and almost always results in greater short-term volatility. But buying lower-quality or more cyclical assets at a cheap enough price can provide even the most conservative investors with a large enough margin of safety.

We don’t know what the answer is today.  And we won’t know what the right choice is for a while. But when the entire European banking sector falls double-digits in a day (and more than 20% in USD), it certainly feels like one should hold their nose (and maybe close their eyes) and buy uncertainty. We put some cash to work on Friday. Time will tell.

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