Tiger! Tiger! burning bright
Thinking about the smoke-choked Asian tigers - Malaysia, among them - their currency troubles and the financial pain inflicted on investors reminded me of Henry James' short story "The Beast in the Jungle."
The story is about a man named John Marcher who, from a young age, has an unshakable conviction that at some point in his life he would be singularly called upon to participate in a great event.
"Something or other lay in wait for him, amidst the twists and turns of the months and years, like a crouching beast in the jungle. It signified little whether the crouching beast were destined to slay him or to be slain. The definite point was the inevitable spring of the creature."
Holding himself in readiness for this momentous crisis, he refrains from marriage, even though he meets a woman who seems destined to be his wife, and spends his life as a passive observer. It is only at the end that he realizes the beast in the jungle, the great calamity that life held in store for him, was that he never lived it.
This is just the beast contemporary investors have come to fear the most. Many of them have, at various times in recent years, stood on the sidelines when quality spreads in the bond market and lofty equity valuations indicated caution, to their loss. Looking back in ill-humor at their lost opportunities, they now suspect the greatest calamity an investor can experience may be a failure to enjoy the returns that result from a fully and aggressively invested portfolio.
In a recent report, Mercury Asset Management of London clarified the nature of the conservative investor's mistake.
Whereas capital markets theory equates risk with volatility, Mercury stands the capital asset pricing model on its head and redefines risk as a lower than desirable level of volatility. "Shortfall risk," the term it uses, is what an investor suffers when he is too cautious. It is the financial equivalent of Henry James' beast.
It is a risk that investors have been avoiding with increasing success. I recently read of a portfolio manager who, after losing 40% over 12 months because of a heavy exposure to Southeast Asian equities, doubled up on the theory that what goes down must subsequently and promptly go up. The Asian tigers share this fellow's belief in the inevitable appreciation of asset values and have in similar fashion leveraged themselves up.
Thailand has seen loans from banks and finance companies grow at 20% to 40% per annum in the past 10 years, rising from 60% of GDP to 140%. In Malaysia the number is a more than respectable 170%. No shortfall risk here! (We are more accustomed to seeing levels of 50% or less in emerging countries outside of the region.) True, this leverage is causing them some problems at present, but why carp on these minor contretemps?
Whatever disorder and pain these countries and their investors might now be experiencing, they can take comfort in the fact they have not risked excessive conservatism.
To improve a bit on William Blake's prescient lines:
Tiger, tiger burning bright,
Smoky days as dark as night;
Markets tense, fires brisk,
But never any shortfall risk!
Safe havens, anyone?