The Other Keynes

"It is the one sphere of life and activity where victory, security, and success is always to the minority and never to the majority."
-- John Maynard Keynes, on investing

You may know that John Maynard Keynes is one of the most important economists in history, someone whose theories and thoughts affect, quite literally, the lives of billions of people. What is perhaps underappreciated about Keynes is his brilliance and incredible long-term performance as an investor -- an experience that can teach us a thing or two about how to handle the present market environment.

From 1924 until his death in 1946, Keynes grew the King's College Chest Fund at a 12%-per-year clip. That may not sound spectacular until you consider two facts. First, all dividends generated by the fund were used for spending at the college rather than reinvested. Second, he accomplished these results during a period that included the Great Depression and World War II. Over the same period of time, the British stock market declined by 15%.

As with any success story, there are a number of reasons why this was so. Among them, Keynes took a long-term view and took particular solace in having his thinking openly questioned, or even mocked. Keynes' notion of risk was also entirely at odds with prevailing thought at the time, or even today. He favored holding relatively few companies that he knew quite well, deriding those who "think that one limits one's risk by spreading too much between enterprises about which one knows little and has no reason for special confidence." Furthermore, Keynes' thought process was remarkably contrarian. He once noted that when he could convince his investing committee that a company offered good prospects, in his experience it "is actually the right moment for selling it."

Most important, however, is probably the fact that King's College ever allowed Keynes to earn those long-term returns. See, between 1927 and 1931 the value of its invested assets declined by half, deeply underperforming the already lousy returns of the British stock market. These were the first four years that Keynes ran the fund. Yet Keynes was not fired -- something he surely would have been in today's data-masquerading-as-information, short-term-focused world. It is our opinion, however, that short-term investing results are more than anything else random, and that sound processes and contrarian thinking always pay off over long periods of time -- a fact that underscores everything we do day to day.

Now on to the current state of things
Not surprisingly, our team here at Motley Fool Asset Management was nervous about the market earlier this year -- nerves that found expression as a larger than normal cash position within the funds. Given recent market events, it's clear that we were right to be nervous. And I'll be honest with you: We're still nervous.

There are, after all, plenty of good reasons to be nervous. The markets have been extremely volatile because of the situation in Greece. As I've noted in the past, I and others see no mathematical way for Greece to avoid a default. Fear of this unprecedented event (and, frankly, some trader-based insanity) is what is pushing on world markets. The worry is that a Greek default would cascade into a massive debt-driven collapse in markets throughout the globe. During the Cold War, they called this the "domino effect." In nuclear war it was "mutually assured destruction." In college sports it's called "realignment."

I've found over my career as an investor that the times when I feel nervous are also the times when I find the best and most profitable opportunities. It's for that reason that our team has actually been using our cash over the past month to buy stocks. Be clear: This is the opposite of what most other market participants are doing, with hundreds of billions of dollars recently being pulled out of stocks, bonds, and mutual funds.

This is happening because the fear trade is on. While many commentators have opined that the rise in demand for U.S. Treasuries even after Standard & Poor's downgrade is a direct refutation of said downgrade, that view is nonsense. The truth is that Treasuries are where people stash money when they are scared out of their minds. How do I know people are scared? Because the other asset showing large appreciation is gold, another scaredy-cat asset, one which has a thesis that is diametrically opposed to that needed to hold Treasuries. Both cannot be right, but oddly enough there are plenty of outcomes that will render both of them wrong.

So we are buying stocks for two reasons. First, we see a market environment in which there are enormous disconnects between how much companies are worth and how much they're selling for. That's the easy reason and the one entirely in our control. Put simply, where there is fear, there is opportunity.

But the second reason is far more important: We are buying stocks because we can. We still have capital to put to work at a great time to be putting capital to work -- a welcome position that many funds today do not share.

The unstoppable rarely is
Of course, if the global financial system collapses, it probably won't matter that we were buying stocks. There are, fortunately, reasons to be optimistic.

With regards to Europe, find solace in the fact that "unstoppable" contagions have historically proved to be anything but. In this case, the EU announced another round of aid to help Greece and the rest of the European financial system as October began. It is easy to scorn such a move as being "bailout No. 42," but it cannot be avoided that, at last, Europe is taking an extremely aggressive move to stem the crisis. Although the most likely outcome still remains that Greece will be unable to sufficiently get its financial house in order in time to avoid some kind of "restructuring," the world will not end when that happens.

I was reminded of this recently when I sat down to talk with Elon Musk, the CEO of Tesla Motors (Nasdaq: TSLA  ) . Actually, calling Musk the "CEO of Tesla" is kind of like calling Joe Montana "the former quarterback of the Kansas City Chiefs." It's true, but it greatly understates Who. This. Guy. Is.

Following college, Musk set out to address three great problems: the Internet, clean energy, and space travel. He co-founded an Internet publishing software company, selling it at the age of 24 for about $30 million. He then co-founded PayPal, which revolutionized microtransactions online. Then in 2002, with $100 million of his own money, Musk founded SpaceX, which became the first private company to put a payload into orbit. His goal is to reduce the cost of human spaceflight by 100 times, and already SpaceX's cost is around a third of the government's. NASA recently gave SpaceX a contract for at least $1.6 billion.

Then there's that Tesla thing, which Musk again founded with his own money. If it is successful, Tesla will revolutionize the zero-emission vehicle market. This year, Toyota (NYSE: TM  ) signed a $100 million contract to have Tesla provide drivetrains for its RAV4 electric vehicle. Why doesn't Toyota build them itself? Because it couldn't. Last, but not least, Musk funded and founded SolarCity, a clean-energy company that Musk is attempting to turn into the "Dell Computer of solar energy."

If Elon Musk succeeds, if his investments are productive, the amount of wealth generated for society will be manifold higher.

And that's the point
I felt honored to speak with Musk because this is a man who has invested his own wealth and talents behind several ventures that have already enhanced, or promise to enhance, the lives of millions of his fellow beings. That's the power of innovation and ingenuity, and it's those traits that will help the world solve and then outgrow its current set of serious problems.

Will it happen overnight? Of course not -- and it may be a bumpy ride. But my team and I feel strongly that the best way to position our capital for the long term is to be long the entrepreneurs and corporations that are making lives better every day around the world. We hope you agree.

Editor's note: Bill Mann is not able to engage in discussion on the boards or in the comments section below. Bill does not own shares of any companies mentioned.

Motley Fool newsletter services have recommended buying shares of Dell. The Motley Fool has a disclosure policy.


Read/Post Comments (9) | Recommend This Article (10)

Comments from our Foolish Readers

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  • Report this Comment On October 22, 2011, at 12:43 AM, AvianFlu wrote:

    If there is one lesson we all should have learned over the last 50 years it is that Keynesianism has totally discredited itself. Let's put the nails in the coffin and bury it.

  • Report this Comment On October 22, 2011, at 1:04 AM, whereaminow wrote:

    Let's make this article balanced.

    Did you do any research on Keynes' personal investing history and his attitude towards stock market investors?

    Not only did Keynes lose a great deal of his personal fortune in the stock market crash of 1929, a crash that he did not see coming while the rival economist Ludwig Von Mises accurately predicted it, but Keynes blamed the crash on "evil speculators" (not stopping to consider that he was blaming himself):

    October 24 John Maynard Keynes (Moggridge, 1981, p. 2 of Vol. XX) wrote in the New York Evening Post (25 October 1929) that "The extraordinary speculation on Wall Street in past months has driven up the rate of interest to an unprecedented level."

    http://eh.net/encyclopedia/article/Bierman.crash

    Keynes then recommended buying stocks after the crash and throughout 1930!

    It is in light of his FAILURE as an individual investor that we can understand his distaste for the market and for investors' "animal spirits." He was obviously talking about himself.

    Going back to Mises, who called the crash, he laid out a theory for why booms and busts occur in the 1912 book "The Theory of Money and Credit." Keynes reviewed the book, which was published in German, saying that there was nothing to see in it. Later Keynes admitted that his German was weak and he had difficulty interpreting new ideas written in German. If only his German had been stronger, he would have learned about the discoordination in the structure of production caused by artificial credit expansion. He would have leaned how the Federal Reserve's inflationary credit caused the "roaring 20s" massive malinvestment, and how that was sure to result in a bust.

    I would love to see Motley Fool acknowledge Harry Browne, who used Mises' business cycle theory to become a successful institutional and individual investor, and who supporter free markets and liberty, unlike Keynes. Browne correctly predicted the end of Bretton Woods and the resulting dollar devaluation that followed. His 1970 book, "The Coming Dollar Devaluation" was prophetic in that regard.

    Keynes supported totalitarianism and spoke glowingly of Soviet Communism and Nazi Fascism.

    Keynes in June 1936 speaking on Communism:

    "Until recently events in Russia were moving too fast and the gap between paper professions and actual achievements was too wide for a proper account to be possible. But the new system is now sufficiently crystallized to be reviewed. The result is impressive. The Russian innovators have passed, not only from the revolutionary stage, but also from the doctrinaire stage.

    There is little or nothing left which bears any special relation to Marx and Marxism as distinguished from other systems of socialism. They are engaged in the vast administrative task of making a completely new set of social and economic institutions work smoothly and successfully over a territory so extensive that it covers one-sixth of the land surface of the world. Methods are still changing rapidly in response to experience. The largest scale empiricism and experimentalism which has ever been attempted by disinterested administrators is in operation. Meanwhile the Webbs have enabled us to see the direction in which things appear to be moving and how far they have got."

    Keynes in 1936 on Nazi Fascism:

    “Nevertheless the theory of output as a whole, which is what the following book purports to provide, is much more easily adapted to the conditions of a totalitarian state, than is the theory of production and distribution of a given output produced under conditions of free competition and a large measure of laissez-faire.”

    Case closed, one would hope.

    David

  • Report this Comment On October 22, 2011, at 1:07 AM, whereaminow wrote:

    First Keynes quote on Communism comes from his review of Fabian Socialist Beatrice Webb's glowing book about Communism. The second is the forward to the German edition of General Theory,

    David

  • Report this Comment On October 22, 2011, at 10:38 AM, wax wrote:

    Not one thing in this article has anything to do with anything.

    JMK was an economist. So?

    TMF Asset Management is nervous. Get out of the market.

    In the end, TSLA may be a great stock and it may be a big dud. Welcome to equity investing.

    As to electric cars, green cars, or the next installment of the bicycle, manufactures are doing as they always have done, product first, then develop a market. How backwards.

    What floors me about all of this is that not one of the electric car manufactures has considered the thing that makes hybrids popular and hydrocarbon vehicles even more popular; convenience.

    Which means all of the free hyperbole in this article is just like the BS I listen to at my neighborhood watering hole.

    Worth exactly what I paid for it.

    Wax

  • Report this Comment On October 22, 2011, at 11:57 AM, VolkOseba wrote:

    whereaminow hit the nail on the head.

  • Report this Comment On October 22, 2011, at 12:58 PM, VolkOseba wrote:

    By the way, if anyone is interested in reading the book whereaminow mentioned, the Mises institute has a free PDF of it here: http://mises.org/books/tmc.pdf

  • Report this Comment On October 22, 2011, at 9:04 PM, sufferingproust wrote:

    Y= C+I(r)+G=NX

    Equilibrium interest rate is increased with any deficit spending. Both lowering taxes and government spending work but not if it is deficit spending which it is in all cases today. There is complete crowding out with questionable if any effects to the long term potential GDP. There are structural problems right now. Band aid economics will not help. Lets keep in mind both of the aforementioned options work moderately in the short term. Reagan kept reducing the tax rates which kept producing short term effects over many years. If you look at a debt as a percentage of GDP chart national debt skyrocketed under Reagan and Bush far more than with Obama however this is not political. Obama's Stimulus included very few capital investigates which are necessary for lasting effects which is why we are still holding on by a thread. Globalization was available to capital at the upper income level starting in the 80's and they reaped the benefit while the lower %'s were not able to. In labor econ models we see unskilled labor gets hit the hardest with globalization and jobs move over seas effecting the middle class. Any real solution will take at least 4 years to start to take hold and it could take an entire decade of sound minded and responsible economic decisions to recapture the 90s. Politics on both side will prevent this as long as so much lobbying money is poured in to democratic and republican politicians and the conversation is structured around election and not American prosperity.

  • Report this Comment On October 24, 2011, at 9:35 AM, Bkeepr100 wrote:

    +1 rec for the comments to this poorly presented article.

    It it far past time to quit praising Keynes and the teaching his descredited theories on Econonics and investing in our schools.

    As stated above by whereaminow, L. Mises of the Austrian school of Economics did a much better job predicting the Crash and the resulting Great Depression, while Keynes cost some people to lose much more by their remaining wealth by investing using his advice.

  • Report this Comment On October 24, 2011, at 3:43 PM, whattadolt wrote:

    After reading some of this commentary, I'm curious to know if anyone knows what the Rate of Return of Mises investments were between 1924-1946. Just asking.

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