There is a tragic end to all living things: They stop living. Our Maine Coon “Kitty” of 14 years stopped living last week. Her name was “Bob” and one of the sweetest animals that anyone could have had.
Aside from sleeping, Bob loved nothing more than to follow me from room to room making sure I was OK. Her obsession carried over to the TV, sensing when I was on CNBC and paying apt attention no less. I often asked her about her recommendations for pet food stocks, and she frequently responded – one meow for “no,” two meows for a “you bet.” She was less certain about interest rates, but then it never hurt to ask.
Stanford’s Professor Emeritus William Sharpe was one of the originators of the capital asset pricing model, a class I took on the way out the door at UCLA’s Anderson School of Management and barely passed. A “C-” in business school is really an “F.” Guess I flunked it. He had another idea later known as the “Sharpe ratio” or, as amended, the “information ratio.” His logic said that higher returns from riskier assets such as stocks or high yield bonds must in some way be measured against their up and down volatility, and his ratio tries to do that for entire asset classes measured against Treasury Bills as well as individual portfolios measured against various indices. The higher the Sharpe ratio the better in general, and a ratio of 0.5 was generally considered an acceptable measure of an asset’s expected return vs. Treasury Bills or a manager’s ability to outperform an index over time via the “information ratio” hybrid.
Chart 1, courtesy of an exhaustive study by CreditSights, shows Sharpe ratios for various asset classes over the past 15 years. All assets shown in the chart exhibited positive Sharpe ratios. In a sense this is just a history lesson. The chart says that even when volatility (risk as commonly accepted) is accounted for, when those sleepless nights during 2000’s dotcoms or the panic of 2009 is factored into the wrinkles on your aging face, that you were better off holding anything but cash. Well yes, such is the long-term history of capital markets as we know them. “Assets for the long run” would make for a thin but rather informative book. Write one!