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Are the market axioms wrong? By Ami Ginsburg The events of the past few weeks have left a feeling that the economic world as we knew it is about to change. Truths that investors believed for years are being shattered. The period between Rosh Hashanah and Yom Kippur offers each of us an opportunity for introspection: Could those truths be wrong? Did anyone believe that great, capitalist America would offer a trillion-dollar rescue plan to its financial sector? Did anyone believe that American International Group (AIG), the world's largest insurance company, would collapse like a house of cards; that established investment banks Lehman Brothers and Merrill Lynch would disappear? Advertisement Should we forget everything we have learned about the investment world and start to memorize new rules? For example: It's a nice theory, but that's all. Fact is, mortgage giants Fannie Mae and Freddie Mac collapsed under a mountain of debts. Only their nationalization kept them from bankruptcy, which would have sent shockwaves through financial markets worldwide. And why did AIG collapse? How did Citi's losses balloon? Why are investment banks with 85 years (Bear Stearns) and 150 years (Lehman Brothers) of financial roots disintegrating? Even a company such as General Electric, whose finance division is among the largest in the world, is suddenly facing a credit rating downgrade. And what about America's Big Three auto manufacturers, reduced to asking for taxpayer handouts to survive? Perhaps the new consensus should be: "During times of economic slowdown the leveraged companies tumble and the cautious companies buy them up - and get stronger." This axiom worked after the dot.com bubble burst. Technology and communications companies collapsed, while the financial companies grew stronger. Perhaps the investors did not understand, however, that the hefty profits of the world's big banks stemmed from their taking risks that are only now coming to light. Not all the banks extended credit irresponsibly, giving mortgages to customers incapable of repayment or invested in risky financial instruments. Maybe the best way to put it is: "Shares in banks whose managers are capable of caution even during times of great prosperity could prove to be value stocks in the future." True, provided the correction does not happen a year or two before a big crash. In the spring of 2006 some stock market around the world tumbled by 20%-25%. Anyone who bought shares then, thinking he had found a good deal, is even worse off now. The problem is that there are many corrections and only a few crashes, and one can never tell when a correction that appears temporary actually heralds a greater fall. Some corrections are real opportunities, while others are a colossal trap, and unfortunately there is no way to tell the difference. We still believe this. The question apparently lies in the definition of a conservative investor: someone who is willing to lose 5%? 10%? If so, how can he be expected to deal with declines of 15% in a single week, as happened to the Tel Bond-40 in mid-September? The Tel Bond is an index of corporate bonds of the largest companies in Israel, with credit ratings of AAA to A. The bonds in the Tel Bond-40 are currently trading at prices that seem low by any normal standard (meaning pre-September 15 standards). If and when it turns out that the strength of those companies has not been harmed to the point where they are unable to pay their debts, an investment in this index will give investors the greatest yield. Still - a 15% decline in the bonds of the biggest companies in Israel in just one week? That rule still holds. A century of financial history cannot be erased by one financial crisis, however major. Even so, one must wonder anew as to how long a term is long enough. Most people believe 10 years is sufficient for the volatile stock market to generate a higher return than government bonds. Thus anyone whose investment horizon is 10 years can theoretically safely invest in shares and forget about them for a long time. There are periods, however, when even a 10-year stretch is insufficient. One such stretch was the lost decade of the American stock market in the 1970s, and that has now been joined by the lost decade of 1998-2008. In fact, all the important stock markets in the industrialized nations (the U.S., Britain, Germany and Japan) yielded lower returns over the past decade than could have been obtained from government bonds. Therin lies the dilemma: According to research firm Ibbotson Associates, a stock market investor has a 90% chance of outperforming the bond market within 10 years. The problem is that it is impossible to tell whether any point in time is the beginning of one of the nine good decades or the one bad one. Does that mean risk-averse investors looking 10 years down the road should avoid the stock market? That would be a hasty conclusion. Still, the best strategy would probably be to exercise extreme caution. Such investors must allocate only part of their portfolio for shares, and hope that if the market is against them the bond component will manage to compensate. In any event, it is important to note that even a government bond-weighted portfolio has risks, primarily that inflation will erode the value of the investment. In the real world there are no risk-free investments. At a time when big banks around the world are collapsing, even short-term deposits do not appear to be completely safe. Bookmark to del.icio.us   A man of peace Vatican defends wartime pope Pius XII against charge he turned blind eye to Holocaust. Feminine features An Iranian motor company unveils plans to design cars specifically tailored to women.

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