What if ... it is different this time?

Asset allocation, risk, diversification and rebalancing. Pros/cons of hiring a financial advisor. Seeking advice on your portfolio?
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mudLark
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What if ... it is different this time?

Post by mudLark »

"Buy on the dips." -- "Buy and hold." -- "Diversify across sectors and regions"

For the longest time pithy statements like these have been de rigueur for those relying primarily on advice from investment advisors whose understanding of investing is, at best, ill-conceived. One problem is that for a long time (since the early 80s at least) this simplistic passive investment philosophy has worked. In fact it has worked so well it appears many now seem to exhibit an unquestioning Pavlovian "buy on the dips" response to all market downturns. Perhaps faith in this idea is becoming too engrained when posts like...
When I look at what I've got over the past few weeks I can't help but sit back and smile.
...can be found in FWF no less...FWF being the epitomate bastion of free and open-minded investment thinking. What this apparently engrained idea is telling me is there exists an unquestioning conviction that if the overall market goes down today then it must by some magic law go up again soon. How many here have factored into their thinking, and the structure of their portfolio, the possibility of the overall market going down today, going sideways for 10 to 15 years, and only then going up again in a renewed bullish trend?

A dollar invested in the S&P 500 in 1999 is only worth about 95 cents today. A passive US investor planning in 1999 to retire in 2008 is probably not very happy with this news. A passive US investor planning in 1999 to retire in 2018 may be equally unhappy. What if global stock markets do go sideways for the next 10 to 15 years? It's a situation that's been happening in Japan since 1990...
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...and it's a situation that's occurred with some regularity in the US (and Canada)...

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Assuming there is not a major global catastrophe we can be reasonably certain the markets will come roaring back one day, but we can never be certain when that day will be.

Today's market turmoil is happening at a moment when a large segment of the Canadian population is planning to retire, with oodles of hard earned or inherited money (which was also hard earned, but not by the current owners). Because these savers (they're not investors) do as they're told by their advisors, much of this money is passively diversified across global stock markets with the ill-conceived (see above) belief it will grow at 8% per annum. Very soon holders of these savings will get be getting their quarterly statements. Once they stop screaming many will start frantically searching for a better way to lose money. Some will discover the magic of bonds that pay 3.5% (today's approximate 10 year rate). Then the advisors will tell them a new possibly ill-conceived truth which is that 3.5% is an anomaly, that bond rates, like inflation must go up and that they shouldn't invest in bonds because when the rate goes up the value of their bonds will go down. Whenever I hear this mantra I look at this chart to remind myself of the real anomaly...

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...and add some more bonds to my ladder. Unfortunately for many of these savers the choice between Tuscany or Provence may be fast becoming the choice between Timmins or Peterborough.

Ultimately members of FWF are smarter than all this...they know that selectively buying on the dips is like "catching a falling knife" but must be done, that buying and holding only works with very good quality dividend paying stocks which also must be done, and that, because of the butterfly effect, global diversification becomes less and less meaningful in a tightly integrated and interconnected world; where results, especially the negative ones, tend to get exaggerated as they spread. Sector rotation...now that's a horse of a different colour.

Even though we are so enlightened perhaps we still need to consider the possibility that, for the foreseeable future, maybe it really is different this time, that stock markets globally may be in the process of bottoming and then going sideways for a very long time. It can't hurt and may force us to collectively dream up some new ideas.
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Post by Dividend Growth Investor »

That's a very interesting question. Being investing in dividend stocks and index funds I can definitely say that I think the market is going to go higher after 20 years.. in terms of total returns of course.

I think that investors should take all adage's like the first two mentioned by you with a grain of salt and instead create a strategy that works for them. If you are fine investing in government bonds then by all means go for it. But your investment is not safe.

For you Nikkei example, i think that we are only seeing part of the picture, since it is hard to find total returns for the index from 1989 untill now. You are also forgetting that a globally diversified japanese investor in 1989 would have performed much better than the one invested only in nikkei ( why would you be invested only in one asset class or type). In addition to that, Japanese Interest rates have definitely declined over the past 20 years. ( more during the first 5 years of the 20 year period, then pretty much flat)

As for the investor who bought SPY in 1999. Did they buy it on jan 4 1999 or on dec 31, 1999..

I know that the alternative to passive investing is active investing.. But most people do not have the time and resources to trade stocks/options/futures/forex actively. Thus I think that diversified portfolio of index mutual funds, purchased over time should work well for people.

And if you are a retiree seeking income, the dividend stocks could be your panacea ( but also add some fixed income exposure in case we follow the path of our fellow japanese friends)
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Post by ghariton »

It may be different this time. But then that's what we thought in 1999.

"Buy and hold" still works for me. The key is holding a portfolio that can weather downturns such as this one without causing insomnia.

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Post by SoninlawofGus »

I agree that mudLark's post is misleading, and fails to account for dividends, which make up a very significant portion of overall returns.

That said, it's worth having the discussion. Rome did eventually fall, as did the Mayan civilization, probably much to the disbelief of those who had prospered for so long. I can see a Centurion sitting down to breakfast, eating his last bowl of porridge, thinking to himself, "Yeah, don't count us out; we've always bounced back. Ain't no different this time." On the other hand, as William Bernstein points out, markets have been through much turmoil, even in the past century: depression, World Wars, recession, etc. -- major markets eventually recovered (outside of Japan). I've read that even German stocks held their value after the hyperinflationary years-- assuming one was able to hold through it all.
When does anyone know when it's really different?
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NormR
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Post by NormR »

Perhaps the question that might be asked is, "What if it's the same this time?"

Code: Select all

1929-32 US down 89%
1906-07 US down 49%
1973-74 US down 45%
1987-87 US down 36%
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Post by ghariton »

NormR wrote:Perhaps the question that might be asked is, "What if it's the same this time?"
Then I guess we'll get a generation of very cautious investors. That wouldn't be a bad thing, in my opinion. The world is a very risky place, and many people seem to have forgotten that. (I learned the lesson in 1987 and I had to relearn the lesson in 2000. I think it has finally stuck.)

It will be healthy to have a situation, once again, where one generally makes more money by working than by buying and reselling things -- equities, real estate, commodities, whatever.

We -- and our economic system -- survived before, and I think that we will survive again.

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Post by WishingWealth »

ghariton:
We -- and our economic system -- survived before, and I think that we will survive again.
After seeing those laid-off employees walking away with a box containing their shoes and Tupperware lunch boxes, I wonder about the big picture of it all.

Since a couple of decades, the US (specially) was surfing on the 'paradigm'* that you could have such an economy based on financial house of cardsproducts; no more need for people making stuff with their hands.

It should be a rude awakening for those knowledge workers; how does one use a shovel?

NB: This is just meant as hyperbole not first degree. I'm just being blonde in my own way.

WW

* I will go eat some spinach as atonement for using the p word.
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Post by worthy »

I have learned my lesson. Henceforth, I'll stick to my forte of subprime mortgages. No. Really!

BTW, I hate Norm. :evil: I'll go with the"money honey."
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Post by parvus »

WishingWealth wrote:ghariton:
We -- and our economic system -- survived before, and I think that we will survive again.
After seeing those laid-off employees walking away with a box containing their shoes and Tupperware lunch boxes, I wonder about the big picture of it all.

Since a couple of decades, the US (specially) was surfing on the 'paradigm'* that you could have such an economy based on financial house of cardsproducts; no more need for people making stuff with their hands.

It should be a rude awakening for those knowledge workers; how does one use a shovel?

NB: This is just meant as hyperbole not first degree. I'm just being blonde in my own way.

WW

* I will go eat some spinach as atonement for using the p word.
Actually, no need to pull out the shovels. The idea is simply (given the prospect of labour shortages) that returns to labour will be higher than returns to capital. (Of course, people without sufficient capital may have to shop themselves instead on the labour markets ... )

Besides shovels aren't necessary to get rid of share certificates ... bonfires will do: just give Studebaker Hawk a match. :wink:
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Post by nisser »

Thanks for a very well thought out post mudlark.

I completely agree with you. I'm very new to investing (23 and still in school) and I was for the most part invested only in index funds except for a few sticks ( I don't have a lot of money saved up).

I was lucky enough to sell MFC last week at 38$ (came out even after about a year :P). Price a week later = 33.7$. And I think the only way it has to go is down.

Whatever is happening right now is unprecedented and if someone asked on this very forum 2 years ago if even 1 of the half a dozen banks would have croaked, you'd be viewed as a fool.

They all looked relatively clean, as clean as most Canadian financials look right now, and are now worth pennies a share. How can people have the balls to invest into these companies 'on dips' when their neighbours are falling 1 by 1 on a weekly basis? I don't get it.
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Re: What if ... it is different this time?

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mudLark wrote: A dollar invested in the S&P 500 in 1999 is only worth about 95 cents today. A passive US investor planning in 1999 to retire in 2008 is probably not very happy with this news.
Most people don't invest all of the money that they will ever invest all at one time. Ok, the money you invested in 1999 didn't produce anything. But the money you invested in 2002, 1998 and 1997 has all produced positive return. If you use DCA, you didn't buy too many stocks in 1999.
...and it's a situation that's occurred with some regularity in the US (and Canada)...
The DOW is a crappy index. It is not a good indication of the over-all economy. Use the S&P 500 and the growth will look more consistent. The DOW is based on only 30 companies or so and it is an arithmetic average, which is absurd. A smaller company with a high share price has more weight than a large company with a small share price.

Your example of Japan is more interesting. But doesn't that constitute an argument for global diversification?
much of this money is passively diversified across global stock markets with the ill-conceived (see above) belief it will grow at 8% per annum.
But 8% is indeed roughly the long-term average. There are down periods and up periods. If someone is planning to retire in 10 years they should be changing their asset allocation to have less stock.

You have shown that if people are highly invested in stocks when they expect to retire in only a few years they're fairly likely to run into trouble. But we already knew that, didn't we?
Whenever I hear this mantra I look at this chart to remind myself of the real anomaly...
Could you post an inflation-adjusted version of this chart? I think that would be more useful and interesting.
because of the butterfly effect, global diversification becomes less and less meaningful in a tightly integrated and interconnected world;
I don't think you understand the butterfly effect. The point of the butterfly effect is about unpredictability of chaotic systems, which is the opposite of what you are trying to say. If you say that world markets are highly correlated, that is the opposite of being unpredictable.
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Post by worthy »

On Mondy the Dow experienced the86th greatest single day percentage decline since 1928!
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Post by parvus »

worthy wrote:On Monday the Dow experienced the86th greatest single day percentage decline since 1928!
"The pounding of prices to a basis of earnings by obvious manipulation of the market and propaganda that values should be based on earnings at the bottom of a depression is an injury to the country and to the investing public." Herbert Hoover
So even Hoover, an experienced entrepreneur, was talking his book. Present values calculated on patriotic discount rates to achieve a riskless premium. :roll:

I guess that's why Murrican democracy has no place (for the most part) for shorting all things USian ... and thus, nothing changes, not now, nor ever: Amway, all the way ... yay. :twisted:

Oops, hit edit instead of quote. :oops:
Last edited by parvus on 18 Sep 2008 18:56, edited 3 times in total.
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Post by queerasmoi »

mudLark, what about a US passive investor who invested in a balanced index portfolio (let's say even as simple as 50% S&P 500, 50% bond index) and rebalanced regularly? They'd probably have done better than either an equities-only or bonds-only investor over that period of time, because rebalancing helps to do a little extra bit of buy-low and sell-high.
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Post by Norbert Schlenker »

Thought provoking, mudlark. Thank you.
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Re: What if ... it is different this time?

Post by Icarus »

mudLark wrote:"...and it's a situation that's occurred with some regularity in the US (and Canada)...

Image

Assuming there is not a major global catastrophe we can be reasonably certain the markets will come roaring back one day, but we can never be certain when that day will be...

[snip]

Even though we are so enlightened perhaps we still need to consider the possibility that, for the foreseeable future, maybe it really is different this time, that stock markets globally may be in the process of bottoming and then going sideways for a very long time. It can't hurt and may force us to collectively dream up some new ideas.
Yes, maybe. The future is always uncertain. So here is my question. Why are you making this post right now? You've provided 100 years of data. This chart would have looked the same two years ago, so why not point out then that we may be in for many years of sideways markets. Of course, others were pointing out at that time that it was different, but in completely the opposite sense: we'd reached a new level of stability and sustainable growth, as evidenced by a long bull market.

The apocalypse may be coming, who knows? Every severe bear market will bring out apocalyptic predictions, however. It is tautological that people don't panic sell unless, well, they're panicking. This is how a bear market feels. How do you distinguish this historically normal pattern of market behaviour -- which has always recovered -- from an ultimate cataclysm?
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Post by BRIAN5000 »

But 8% is indeed roughly the long-term average. There are down periods and up periods. If someone is planning to retire in 10 years they should be changing their asset allocation to have less stock.

You have shown that if people are highly invested in stocks when they expect to retire in only a few years they're fairly likely to run into trouble. But we already knew that, didn't we?
If you change asset allocation 10 years before you retire and you retire at 55 and have @ 30 years to live, thats about 40 years. If you need your portfolio to support you that long what should your allocation look like when your 45 ? 55 ?

I'm 52 hoping to retire soon, I've just had 3-5 years (depending on what I take out) of income blown away in a 50/50 portfolio. According to you I was to heavily weighted in equity? I would prefer chuck steak in my 70's not spam in a can. Maybe I'm just unlucky with my timing?

What should have my asset allocation have been?
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Post by DanielCarrera »

BRIAN5000 wrote:You have shown that if people are highly invested in stocks when they expect to retire in only a few years they're fairly likely to run into trouble. But we already knew that, didn't we?
If you change asset allocation 10 years before you retire and you retire at 55 and have @ 30 years to live, thats about 40 years. If you need your portfolio to support you that long what should your allocation look like when your 45 ? 55 ?

I'm 52 hoping to retire soon, I've just had 3-5 years (depending on what I take out) of income blown away in a 50/50 portfolio. According to you I was to heavily weighted in equity?
I do not think that 50/50 is heavy on equity when you are 52 (but then again, what do I know?). To me your asset allocation sounds right. The market is risky and there is nothing you could have done better to avoid financial loss. Maybe it won't be quite so bad if, when you take out money, you "rebalance" the portfolio, so that you are taking out mostly the bonds. That would give more time for the stocks to recover.
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Post by millergd »

The question could be rendered down to managing through flat economic times by relying on capital gains, dividends, or interest as the primary vehicle for building wealth. If one is predicting flat times ahead, why would a dividend investing strategy not be fair consideration?

After reading Jeremy Siegel's book The Future For Investors, he does make a very good case for dividend (re-)investing in good times, bad times, or flat times. Granted that's an entirely separate thread debate in and of itself, but it at least offers an investing paradigm worthy of consideration in this scenario.

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Post by millergd »

WishingWealth wrote:Since a couple of decades, the US (specially) was surfing on the 'paradigm'* that you could have such an economy based on financial house of cardsproducts; no more need for people making stuff with their hands.


* I will go eat some spinach as atonement for using the p word.
I apologize for using the p-word in my last message, too.

To get off topic a bit, it makes one wonder if the economic boom in the last 2 decades has been solely a product of credit expansion and people's willingness to assume more debt, rather than fundamental, organic growth.

Consider:
(1) Paying off a mortgage in 1975 versus 2008 -- high ratio mortgages, mortgage insurance, home inspectors, and mortgage brokers were far more infrequent (if existent) then. A cottage industry around mortgage debt has arisen.
(2) Credit card expansion -- remember when it used to be called "MasterCharge" and had to be paid off every month?
(3) Vehicle financing -- maybe it's because I grew up in a household where vehicles were purchased outright in cash and driven into the ground, isn't 5 year vehicle financing and leasing a more common phenomenon now?
(4) Women in the workforce -- more women work today than 30 years ago. But has it really improved purchasing power of households, or just become an economic necessity to stay equal to other households??

And perhaps a better question that would help frame the discussion is: what exact products were the investment banks selling? To me and my inexperienced view, it seems all that was done was IPO underwriting, leveraged buyouts, and various techniques to package debt and sell it. With services like those, it's no wonder Warren Buffett says the stock market could close for 5 years and he wouldn't care. But it is indicative of the somewhat frivilous nature of their business: horse-trading credit debt.

~millergd~
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Post by scomac »

millergd wrote:And perhaps a better question that would help frame the discussion is: what exact products were the investment banks selling? To me and my inexperienced view, it seems all that was done was IPO underwriting, leveraged buyouts, and various techniques to package debt and sell it. With services like those, it's no wonder Warren Buffett says the stock market could close for 5 years and he wouldn't care. But it is indicative of the somewhat frivilous nature of their business: horse-trading credit debt.
I recall watching an interview with Buffett about a year ago and he stated at that time that the financial services complex and more specifically financial engineering was perhaps the greatest waste of skill and brainpower the world had ever seen. Imagine if this vast pool of talent had been employed in some other more worthwhile activity like solving the energy crisis, putting an end to global warming or curing cancer or AIDS.
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Post by mudLark »

SoninlawofGus wrote:I agree that mudLark's post is misleading, and fails to account for dividends, which make up a very significant portion of overall returns.
The purpose of including the charts was not to describe overall investment returns, it was to illustrate that indexes can fall and stay relatively flat for decades. The purpose of the post was to increase, through debate and an exchange of ideas, our collective understanding of an appropriate investment strategy suited to such a situation...because perhaps this situation will be part of our collective future.

Having no personal experience of investing during a period of protracted economic and market stagnation I don't how dividends, in aggregate, have historically performed. This is because I don't know whether, in aggregate, dividends tend to fall, rise or stay flat during a period of protracted economic and market stagnation. I was hoping that those here who do know, either through direct experience or through research, could enlighten the rest of us?

Another purpose was to question the wisdom of blindly buying on the dips, if the resulting trough is going to be with us for 10 to 15 years. ISTM dividend yields are largely based on yesterday's and today's news, not tomorrow's. This begs the question is buying passive index funds/ETFs on the dips a good idea if we are entering a period of protracted economic and market stagnation?

IIRC very few passive index funds/ETFs existed the last time there was a long period of economic and market stagnation.

Finally, the point I was making about bond yields is that the 3 - 4% medium to long term yields of today are not necessarily anomalous...and might still be trending down.
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Post by blonde »

it is different this time?
It ALL depends...on the eyes of the beholder...

er, ah,...Where is the financial crisis? Where is the housing crisis? Are SKers experiencing a 'crisis'?

Opportunity/s Galore...more Galore than ever before...and it will get More-Gallorie moving forward...

The time is here to make Mega-Money...cycle time cannot be ignored at any cost. When a wannabee spouts that it is a 'bad-day'...10%ers make the strange look familiar... find the 'Opportunity' and make Mega-Money for many better days ahead...

Cash is King QUEEN...

'Money Talks', was, is, and will-be a Natural Law.

'ems that don't know what-to-do wud be better off to step aside...do nothing...and let 'ems that know do 'eir thing...

In this day and age, with the Global Economy setting the 'rules' to the Game...the aim is to be a winner...er, ah, do not be surprised to learn that the 'rules' are being improved as ya'll's are reading this post...

It is ALL about MONEY...Mega MEGA-MONEY.
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Post by tidal »

To be fair, the comments about the importance of dividends to historical returns need to be qualified w.r.t. the starting dividend yield. The current yield on the S&P 500, despite being off >30% from it's high, is only about 2.43%. That compares with ~ 4.5% in 1979, so it is telling you that you will get less from dividends than in the past, and any part of the forward return that can be attributed to an increase in the P/Div ratio is starting from a higher point than in 1979 (and I am just choosing 1979 arbitrarily because I have the number in front of me, but we have been in a low dividend world for some time...)...

Dividends as an important component of forward returns - yes, but not likely as important a determinant as historically.

More generally, this is an interesting discussion. I have always felt that the homily "The four most dangerous words in investing are 'It's different this time'" to be simply that - a platitude. I.e., if history "rhymes", then indeed whatever the current crisis will NOT be different w.r.t. long-term future returns. But if something REALLY is different, then it simply a simplistic faith-based trust in historical patterns as a guide to future returns... and may be dangerously facile.

For the "It is NOT different this time" case, the strongest argument is that if you really believe that current conditions mean that long-run expected equity returns (say 15-20 years) are going to be less than government bonds ( ~ 3 - 4%), then you are implying that the market is currently discounting risky assets to earn less than risk-free assets - which would turn everything we know about economics and capital markets upside down... (OR you have to believe that the market is fundamentally missing something BIG in the current prices...)

For the "It IS different this time" case, I actually think that this financial crisis is broader and more serious than anything we have ever seen. If it was JUST that, though, we would eventually work the losses and risk and failures through the system and resume the "NOT different this time" mode. But there is at least the possibility that the financial crisis is at least somewhat related to something that truly would be different this time... All of economic and market history has been experienced in an "empty-world" paradigm... lots of new land to discover/populate/cultivate, lots of cheap abundant energy and resources, lots of air and oceans to spew our waste to, etc. If we are starting to operate in a "full-world", then that paradigm is NOT a reliable guide to the future... Growth, to the extent that it is dependent on physical throughputs, would be slower and constrained (and don't discount that part of the reason for the financial crisis is that existing lines of financial services were no longer providing sufficient growth, so new exotic lines were "needed" and developed and eventually found out to be illusory growth...)... Multiples would contract on top of that... that would be very, very different... Ah, but who knows... maybe we will invent "Mr. Fusion Home Energy Unit"... but we are certainly racing into a fuller world than the 20th century...
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Post by pitz »

Anyone watching the ^VIX (S&P500 options implied volatility index)? Almost up to 40. Now over 40%.

Last time it was this high, the S&P500 bottomed out after the tech bubble collapsed. The S&P500 proceeded to climb pretty consistently thereafter until last year.

Even call options on the TSX index in Canada are implying a break-even return in the next 12 months in excess of 15%, and more than likely, implying a return of 25-40%.

The elimination of excess capacity in the financial services industry should be extremely positive for the US and the global economy. Its just another stage towards making the worldwide economies more efficient.
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