Get Out of Stocks!*

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Get out of stocks!* Why the asterisk mark (*)? The short answer is there is a certain population of people who are looking at alluring record equity prices, but are better off not touching stocks – I like to call these individuals the “sideliners”. The sideliners are a group of investors who may have owned stocks during the 2006-2008 timeframe, but due to the subsequent recession, capitulated out of stocks into gold, cash, and/or bonds.

The risk for the sideliners getting back into stocks now is straightforward. Sideliners have a history of being too emotional (see Controlling the Investment Lizard Brain), which leads to disastrous financial decisions. So, even if stocks outperform in the coming months and years, the sideliners will most likely be slow in getting back in, and wrongfully knee-jerk sell at the hint of an accelerated taper, rate-hike, or geopolitical sneeze. Rather than chase a stock market at all-time record highs, the sideliners would be better served by clipping coupons, saving, and/or finish that bunker digging project.

The fact is, if you can’t stomach a -20% decline in the stock market, you shouldn’t be investing in stocks. In a recent presentation, Barry Ritholtz, editor of The Big Picture and CIO of Ritholtz Wealth Management, beautifully displayed the 20 times over the last 85 years that the stocks have declined -20% or more (see chart below). This equates to a large decline every four or so years.

20 Percent Corrections 1928 - 2008

Strategist Dr. Ed Yardeni hammers home a similar point over a shorter duration (2008-2014) by also highlighting the inherent volatility of stocks (see chart below).

Corrections 2008-2014

Stated differently, if you can’t handle the heat in the stock kitchen, it’s probably best to keep out.

It’s a Balancing Act

For the rest of us, the vast majority of investors, the question should not be whether to get out of stocks, it should revolve around what percentage of your portfolio allocation should remain in stocks. Despite record low yields and record high bond prices (see Bubblicious Bonds and Weak Competition, it is perfectly rational for a Baby-Boomer or retiree to periodically ring their stock-profit cash register, and reallocate more dollars toward bonds. Even if you forget about the 30%+ stock return achieved last year and the ~6% return this year, becoming more conservative in (or near) retirement with a larger bond allocation still makes sense.  For some of our clients, buying and holding individual bonds until maturity reduces the risky outcome associated with a potential of interest rates spiking.

With all of that said, our current stance at Sidoxia doesn’t mean stocks don’t offer good value today (see Buy in May). For those readers who have followed Investing Caffeine for a while, they will understand I have been relatively sanguine about the prospects of equities for some time, even through a host of scary periods. Whether it was my attack of bears Peter Schiff, Nouriel Roubini, or John Mauldin in 2009-2010, or optimistic articles written during the summer crash of 2011 when the S&P 500 index declined -22% (see Stocks Get No Respect or Rubber Band Stretching), our positioning did not waver. However, as stock values have virtually tripled in value from the 2009 lows, more recently I have consistently stated the game has gotten a lot tougher with the low-hanging fruit having already been picked (earnings have recovered from the recession and P/E multiples have expanded). In other words, the trajectory of the last five years is unsustainable.

Fortunately for us, at Sidoxia we’re not hostage to the upward or downward direction of a narrow universe of large cap U.S. domestic stock market indices. We can scour the globe across geographies and capital structure. What does that mean? That means we are investing client assets (and my personal assets) into innovative companies covering various growth themes (robotics, alternative energy, mobile devices, nanotechnology, oil sands, electric cars, medical devices, e-commerce, 3-D printing, smart grid, obesity, globalization, and others) along with various other asset classes and capital structures, including real estate, MLPs, municipal bonds, commodities, emerging markets, high-yield, preferred securities, convertible bonds, private equity, floating rate bonds, and TIPs as well. Therefore, if various markets are imploding, we have the nimble ability to mitigate or avoid that volatility by identifying appropriate individual companies and alternative asset classes.

Irrespective of my shaky short-term forecasting abilities, I am confident people will continue to ask me my opinion about the direction of the stock market. My best advice remains to get out of stocks*…for the “sideliners”. However, the asterisk still signifies there are plenty of opportunities for attractive returns to be had for the rest of us investors, as long as you can stomach the inevitable volatility.

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold long positions in certain exchange traded funds, but at the time of publishing SCM had no direct position in any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

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June 7, 2014 at 9:40 pm 3 comments

Stocks Winning vs. Weak Competitors

 

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This article is an excerpt from a previously released Sidoxia Capital Management complementary newsletter (June 2, 2014). Subscribe on the right side of the page for the complete text.

Winning at any sport is lot easier if you can compete without an opponent. Imagine an NBA basketball MVP LeBron James driving to the basket against no defender, or versus a weakling opponent like a 44-year-old investment manager. Under these circumstances, it would be pretty easy for James and his team, the Miami Heat, to victoriously dominate without even a trace of sweat.

Effectively, stocks have enjoyed similar domination in recent years, while steamrolling over the bond competition. To put the stock market’s winning streak into perspective, the S&P 500 index set a new all-time record high in May, with the S&P 500 advancing +2.1% to 1924 for the month, bringing the 2013-2014 total return to about +38%. Not too shabby results over 17 months, if you consider bank deposits and CDs are paying a paltry 0.0-1.0% annually, and investors are gobbling up bonds yielding a measly 2.5% (see chart below).

62

The point, once again, is that even if you are a skeptic or bear on the outlook for stocks, the stock market still offers the most attractive opportunities relative to other asset classes and investment options, including bonds. It’s true, the low hanging fruit in stocks has been picked, and portfolios can become too equity-heavy, but even retirees should have some exposure to equities.

As I wrote last month in Buy in May and Dance Away, why would investors voluntarily lock in inadequate yields at generational lows when the earnings yield on stocks are so much more appealing. The approximate P/E (Price-Earnings) ratio for the S&P 500 currently averages approximately +6.2% with a rising dividend yield of about +1.8% – not much lower than many bonds. Over the last five years, those investors willing to part ways with yield-less cash have voted aggressively with their wallets. Those with confidence in the equity markets have benefited massively from the approximate +200% gains garnered from the March 2009 S&P 500 index lows.

For the many who have painfully missed the mother of all stock rallies, the fallback response has been, “Well, sure the market has tripled, but it’s only because of unprecedented printing of money at the QE (Quantitative Easing) printing presses!” This argument has become increasingly difficult to defend ever since the Federal Reserve announced the initiation of the reduction in bond buying (a.k.a., “tapering”) six months ago (December 18th). Over that time period, the Dow Jones Industrial Average has increased over 800 points and the S&P 500 index has risen a healthy 8.0%.

As much as everyone would like to blame (give credit to) the Fed for the bull market, the fact is the Federal Reserve doesn’t control the world’s interest rates. Sure, the Fed has an influence on global interest rates, but countries like Japan may have something to do with their own 0.57% 10-year government bond yield. For example, the economic/political policies and demographics in play might be impacting Japan’s stock market (Nikkei), which has plummeted about -62% over the last 25 years (about 39,000 to 15,000). Almost as shocking as the lowly rates in Japan and the U.S. and Japan, are the astonishingly low interest rates in Europe. As the chart below shows, France and Germany have sub-2% 10-year government bond yields (1.76% and 1.36%, respectively) and even economic basket case countries like Italy and Spain have seen their yields pierce below the 3% level.

63Source: Dr. Ed’s Blog

Suffice it to say, yield is not only difficult to find on our shores, but it is also challenging to find winning bond returns globally.

Well if low interest rates and the Federal Reserve aren’t the only reasons for a skyrocketing stock market, then how come this juggernaut performance has such long legs? The largest reason in my mind boils down to two words…record profits. Readers of mine know I follow the basic tenet that stock prices follow earnings over the long-term. Interest rates and Fed Policy will provide headwinds and tailwinds over different timeframes, but ultimately the almighty direction of profits determines long-run stock performance. You don’t have to be a brain surgeon or rocket scientist to appreciate this correlation. Scott Grannis (Calafia Beach Pundit) has beautifully documented this relationship in the chart below.

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Supporting this concept, profits help support numerous value-enhancing shareholder activities we have seen on the rise over the last five years, which include rising dividends, share buybacks, and M&A (Mergers & Acquisitions) activity. Eventually the business cycle will run its course, and during the next recession, profits and stock prices will be expected to decline. A final contributing factor to the duration of this bull market is the abysmally slow pace of this economic recovery, which if measured in job creation terms has been the slowest since World War II. Said differently, the slower a recovery develops, the longer the recovery will last. Bill McBride at Calculated Risk captured this theme in the following chart:

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Despite the massive gains and new records set, skeptics abound as evidenced by the nearly -$10 billion of withdrawn money out of U.S. stock funds over the last month (most recent data).

I’ve been labeled a perma-bull by some, but over my 20+ years of investing experience I understand the importance of defensive positioning along with the benefits of shorting expensive, leveraged stocks during bear markets, like the ones in 2000-2001 and 2008-2009. When will I reverse my views and become bearish (negative) on stocks? Here are a few factors I’m tracking:

  • Inverted Yield Curve: This was a good precursor to the 2008-2009 crash, but there are no signs of this occurring yet.
  • Overheated Fund Inflows: When everyone piles into stocks, I get nervous. In the last four weeks of domestic ICI fund flow data, we have seen the opposite…about -$9.5 billion outflows from stock funds.
  • Peak Employment: When things can’t get much better is the time to become more worried. There is still plenty of room for improvement, especially if you consider the stunningly low employment participation rate.
  • Fed Tightening / Rising Bond Yields: The Fed has made it clear, it will be a while before this will occur.
  • When Housing Approaches Record Levels: Although Case-Shiller data has shown housing prices bouncing from the bottom, it’s clear that new home sales have stalled and have plenty of head room to go higher.
  • Financial Crisis: Chances of experiencing another financial crisis of a generation is slim, but many people have fresh nightmares from the 2008-2009 financial crisis. It’s not every day that a 158 year-old institution (Lehman Brothers) or 85 year-old investment bank (Bear Stearns) disappear, but if the dominoes start falling again, then I guess it’s OK to become anxious again.
  • Better Opportunities: The beauty about my practice at Sidoxia is that we can invest anywhere. So if we find more attractive opportunities in emerging market debt, convertible bonds, floating rate notes, private equity, or other asset classes, we have no allegiances and will sell stocks.

Every recession and bear market is different, and although the skies may be blue in the stock market now, clouds and gray skies are never too far away. Even with record prices, many fears remain, including the following:

  • Ukraine: There is always geopolitical instability somewhere on the globe. In the past investors were worried about Egypt, Iran, and Syria, but for now, some uncertainty has been created around Ukraine.
  • Weak GDP: Gross Domestic Product was revised lower to -1% during the first quarter, in large part due to an abnormally cold winter in many parts of the country. However, many economists are already talking about the possibility of a 3%+ rebound in the second quarter as weather improves.
  • Low Volatility: The so-called “Fear Gauge” is near record low levels (VIX index), implying a reckless complacency among investors. While this is a measure I track, it is more confined to speculative traders compared to retail investors. In other words, my grandma isn’t buying put option insurance on the Nasdaq 100 index to protect her portfolio against the ramifications of the Thailand government military coup.
  • Inflation/Deflation: Regardless of whether stocks are near a record top or bottom, financial media outlets in need of a topic can always fall back on the fear of inflation or deflation. Currently inflation remains in check. The Fed’s primary measure of inflation, the Core PCE, recently inched up +0.2% month-to-month, in line with forecasts.
  • Fed Policy: When are investors not worried about the Federal Reserve’s next step? Like inflation, we’ll be hearing about this concern until we permanently enter our grave.

In the sport of stocks and investing, winning is never easy. However, with the global trend of declining interest rates and the scarcity of yields from bonds and other safe investments (cash/money market/CDs), it should come as no surprise to anyone that the winning streak in stocks is tied to the lack of competing investment alternatives. Based on the current dynamics in the market, if LeBron James is a stock, and I’m forced to guard him as a 10-year Treasury bond, I think I’ll just throw in the towel and go to Wall Street. At least that way my long-term portfolio has a chance of winning by placing a portion of my bets on stocks over bonds.

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

 

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), but at the time of publishing SCM had no direct position in any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

June 2, 2014 at 11:06 am Leave a comment

Searching for the Market Boogeyman

Ghost

With the stock market reaching all-time record highs (S&P 500: 1900), you would think there would be a lot of cheers, high-fiving, and back slapping. Instead, investors are ignoring the sunny, blue skies and taking off their rose-colored glasses. Rather than securely sleeping like a baby (or relaxing during a three-day weekend) with their investment accounts, people are biting their fingernails with clenched teeth, while searching for a market boogeyman in their closets or under their beds.

If you don’t believe me, all you have to do is pick up the paper, turn on the TV, or walk over to the office water cooler. An avalanche of scary headlines that are spooking investors include geopolitical concerns in Ukraine & Thailand, slowing housing statistics, bearish hedge fund managers (i.e., Tepper Einhorn, Cooperman), declining interest rates, and collapsing internet stocks. In other words, investors are looking for things to worry about, despite record corporate profits and stock prices. Peter Lynch, the manager of the Magellan Fund that posted +2,700% in gains from 1977-1990, put short-term stock price volatility into perspective:

“You shouldn’t worry about it. You should worry what are stocks going to be 10 years from now, 20 years from now, 30 years from now.”

 

Rather than focusing on immediate stock market volatility and other factors out of your control, why not prioritize your time on things you can control. What investors can control is their asset allocation and spending levels (budget), subject to their personal time horizons and risk tolerances. Circumstances always change, but if people spent half the time on investing that they devoted to planning holiday vacations, purchasing a car, or choosing a school for their child, then retirement would be a lot less stressful. After realizing 99% of all the short-term news is nonsensical noise, the next important realization is stocks are volatile securities, which frequently go down -10 to -20%. As much as amateurs and professionals say or think they can profitably predict these corrections, they very rarely can. If your stomach can’t handle the roller-coaster swings, then you shouldn’t be investing in the stock market.

Bear-markets generally coincide with recessions, and since World War II, Americans experience about two economic contractions every decade. And as I pointed out earlier in A Series of Unfortunate Events, even during the current massive bull market, a recession has not been required to suffer significant short-term losses (e.g., Flash Crash, Greece, Arab Spring, Obamacare, Cyprus, etc.). Seasoned veterans understand these volatile periods provide incredible investment opportunities. As Warren Buffett states, “Be fearful when others are greedy, and be greedy when others are fearful.” Fear and panic may be behind us, but skepticism is still firmly in place. Buying during current skepticism is still not a bad thing, as long as greed hasn’t permeated the masses, which remains the case today.

Overly emotional people that make investment decisions with their gut do more damage to their savings accounts than conservative, emotional investors who understand their emotional shortcomings. On the other hand, the problem with investing too conservatively, for those that have longer-term time horizons (10+ years), is multi-pronged. For starters, overly conservative investments made while interest rate levels hover near historical lows lead to inflationary pressures gobbling up savings accounts. Secondly, the low total returns associated with excessively conservative investments will result in a later retirement (e.g., part-time Wal-Mart greeter in your 80s), or lower quality standard of living (e.g., macaroni & cheese dinners vs. filet mignon).

Most people say they understand the trade-offs of risk and return. Over the long-run, low-risk investments result in lower returns than high risk investments (i.e., bonds vs. stocks). If you look at the following chart and ask anyone what their preferred path would be over the long-run, almost everyone would select the steep, upward-sloping equity return line.

Source: Betterment.com / Stocks for the Long Run

Source: Betterment.com / Stocks for the Long Run

Yet, stock ownership and attitudes towards stocks remain at relatively low and skeptical levels (see Gallup survey in Markets Soar and Investors Snore). It’s true that attitudes are changing at a glacial pace and bond outflows accelerated in 2013, but more recently stock inflows remain sporadic and scared money is returning to bonds. Even though it has been over five years, the emotional scars from 2008-2009 apparently still need some time to heal.

Investing in stocks can be very scary and hazardous to your health. For those millions of investors who realize they do not hold the emotional fortitude to withstand the ups and downs, leave the worrying responsibilities to the experienced advisors and investment managers like me. That way you can focus on your job and retirement, while the pros can remain responsible for hunting and slaying the boogeyman.

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold long positions in certain exchange traded funds and WMT, but at the time of publishing SCM had no direct position in any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

May 24, 2014 at 4:26 pm 1 comment

Rise of the Robo-Advisors: Paying to Do-It-Yourself

Battery Operated Toy Robot

Robots and computers are taking over our lives. We see it in areas of our daily living, including the use of digitally driven cars, cell phones, automated vacuums, and electronic self-serve kiosks at the grocery store. And now robots have come into our investing and financial lives in the form of robo-advisors. With a few clicks of a computer mouse or taps on a smartphone, investors are hoping to find their way to financial nirvana.

What sites am I talking about? Here is a brief, albeit rapidly growing, list of popular robo-advisor sites:

Not all of these robo-sites invest individuals’ money, but nevertheless, there are several factors contributing to the upsurge in in these financial advice websites. For starters, there is a whole new, younger demographic pool of savers who have grown up with their iPhone and shop exclusively online for their goods and services. Many of these financial sites are trying to fill a void for this tech-savvy group looking for a new app to bring wealth and riches.

Another factor contributing to the rise of the robo-advisors is a function of the 2008-2009 financial crisis and the explosive growth of the multi-trillion dollar exchange traded fund (ETF) industry. Many baby boomers who were planning to retire were hit brutally hard by the financial crisis and subsequently asked themselves why they were paying such high fees to their advisors for losing money. With the stock market now increasing for five consecutive years, some investors are gaining confidence in pursuing other lower-cost solutions to their investments outside of the traditional human advisor channel.

Too Good to Be True? The Shortcomings

On the surface, the proposition of clicking a few buttons to create financial prosperity seems quite appealing, but if you look a little more closely under the hood, what you quickly realize is that most of these robo-advisor sites are glorifying the practice of doing-it-yourself (DIY). After conducting some due diligence on the various investment bells-and-whistles of these robo-sites, one quickly realizes individuals can replicate most of the kindergartener-esque ETF portfolios by merely calling 1-800-VANGUARD  – without having to pay robo-advisor fees ranging from 0.15% – 0.95%. More specifically, Wealthfront and Betterment use 6-12 ETF security portfolios, integrating many Vanguard funds and other ETFs that can be purchased with a click of a mouse or phone call (without having to pay the robo-advisor middleman). A cynic may also point out these robo-investment sites are nothing more than expensive life-cycle funds that could be replicated at a fraction of the cost.

Despite the sites’ transparency preaching, filtering through robo fee and performance disclosure can be frustratingly tedious too – good luck to the novices. For example, Betterment claims to have created a superior performance track record, despite a hidden disclosure stating the results are manufactured from a computer back-test. The transparency pitch seems a little disingenuous, and I wonder how many of the new robo-site users are also aware of the extra underlying ETF fees? But when marketing a new high-cost start-up, I guess you need to fabricate a fancy chart and track record when you don’t have one. Underlying the robo investment sites is a disparate, hodge-podge of studies anointing Modern Portfolio Theory as the holy grail, but readers of this blog know there are many failings to pure quantitative strategies implemented by academics (see LTCM in Black Swans & Butter in Bangladesh).

The concept of DIY is nothing new. One can look no further than the impact Home Depot (HD) has had on the home improvement industry. In addition, there are plenty of individuals who choose to do their own income taxes with the help of software technology (i.e., Intuit), or those who forego hiring an estate planning attorney by using off-the-shelf legal documents (i.e., Legal Zoom). Many industries in our economy inherently have penny pinching DIY-ers, but despite current and future inroads made by the robo-advisors, there will always be individuals who do not have the capacity, patience, or interest to search out a DIY investment solution.

After watching the stock market rise for five consecutive years, taming investment portfolios may seem like a simple problem for internet software to solve, but experienced investors (not academics) understand successful long-term investing is never easy…with or without technology. The reality of the situation is that when volatility eventually spikes and we hit an inevitable bear market, these robo-sites will fail miserably in supplying the necessary human element to facilitate more prudent investment decisions.

While the rising robo-advisors may have many investment advisory shortcomings, I will acknowledge some appealing aggregating features that provide a helpful holistic view of an individual’s finances (see Mint). Also, these sites are forcing investors to ask their advisors the important and appropriate tough questions regarding fees, compensation, and conflicts of interest. However, in spite of the short-term, blossoming success of the robo-sites, investing has never been more difficult. Investors continue to get overwhelmed with the 24-7, 365 news cycles that proliferates an endless avalanche of global crises via TV, radio, Twitter, Facebook, and the blogosphere.

While a younger, less-affluent DIY demographic may flock to some of these robo-advisors, the millions of aging and retiring baby boomers ensures there will be plenty of demand for traditional advisors. Experienced independent RIA advisors and financial planners, like Sidoxia, who integrate low-cost ETFs into their investment management practices stand to benefit handsomely. Those advisors/sites offering simplistic, commoditized ETF offerings with no wealth planning services will be challenged. While I may not lose sleep over the rise of the robo-advisors, I will continue to dream of a robot that will lower my taxes and win me the lottery.

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold long positions in certain exchange traded funds (including Vanguard ETFs), AAPL, but at the time of publishing SCM had no direct position in HD, TWTR, FB, Legal Zoom, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

May 18, 2014 at 12:55 pm 5 comments

Hunting for Tennis Balls and Dead Cats

Tennis Cat Pic

When it comes to gravity, people understand what goes up, must come down. But the reverse is not always true for stocks. What goes down, does not necessarily need to come back up. Since the 2008-09 financial crisis there have been a large group of multi-billion dollar behemoth stocks that have defied gravity, but over the last few months, many of these highfliers have come back to earth. Despite the pause in some of these major technology, consumer, and internet stocks, the overall stock market appears relatively calm. In fact, the Dow Jones Industrials index is currently sitting at all-time record highs and the S&P 500 index is hovering around -1% from its peak. But below the surface, there is a large undercurrent resulting in an enormous rotation out of pricier momentum and growth stocks into more defensive and yield-heavy sectors of the market, like utilities and real estate.

To expose this concealed trend I have highlighted a group of 20 stocks below, valued at close to half a trillion dollars. Over the last 12 months, this selective group of technology, consumer, and internet stocks have lost over -$200,000,000,000 from their peak values. Here’s a look at the highlighted stocks:

Tennis Ball Dead Cat FINAL 5-14

With respect to all the punished stocks, the dilemma for investors amidst this depreciating price carnage is how to profitably hunt for the bouncing tennis balls while avoiding the dead cat bounces. By hunting bouncing tennis balls, I am referring to the identification of those companies that have crashed from indiscriminate selling, even though the companies’ positive business fundamentals remain fully intact. The so-called dead cats reflect those overpriced companies that lack the earnings power or trajectory to support a rebounding stock price. Like a cat falling from a high-rise building, there may exist a possibility of a small rebound, but for many severely broken momentum stocks, minor bounces are often short-lived.

For long-term investors, much of the recent rotation is healthy. Some of the froth I’ve been writing about in the biotech, internet, and technology has been mitigated. As a result, in many instances, outrageous or rich stock valuations have now become fairly priced or attractive.

Profiting from Collapses

Many investors do not realize that some of the greatest stocks of all-time have suffered multiple -50% drops before subsequently doubling, tripling, quadrupling or better. History provides many rebounding tennis ball examples, but let’s take a brief look at the Apple Inc. (AAPL) chart from 1980 – 2005 to drive home the point:

Apple 1980 - 2005

As you can see, there were at least five occasions when the stock got chopped in half (or worse) over the selected timeframe and another five occasions when the stock doubled (or better), including a +935% explosion in the 1997–2000 period, and a +503% advance from 2002–2005 when shares reached $45. The numbers get kookier when you consider Apple’s share price eventually reached $700 and closed early last week above $600.

These feast and famine patterns can be discovered for virtually all of the greatest all-time stocks. The massive volatility explains why it’s so difficult to stick with theses long-term winners. A more recent example of a tennis ball bounce would be Facebook Inc (FB). The -58% % plummet from its $42 IPO peak has been well-documented, and despite the more recent -21% pullback, the stock is still up +223% from its $18 lows.

On the flip side, an example of a dead cat bounce would include Cisco Systems Inc (CSCO). After the bursting of the 2000 technology bubble, Cisco has never fully recovered from its $82 peak value. There have been many fits and starts, including some periods of 50% declines and 100% gains, but due to excessive valuations in the late 1990s and changing competitive trends, Cisco still sits at $23 today (see chart below).

Slide1

It is important to remember that just because a stock goes down -50% in value doesn’t mean that it’s going to double or triple in value in the future. Price momentum can drive a stock in the short run, but in the long run, the important variables to track closely are cash flows and earnings (see It’s the Earnings, Stupid) . The level and direction of these factors ultimately correlate best with the ultimate fair value of stock prices. Therefore, if you are fishing in the growth or momentum stock pond, make sure to do your homework after a stock price collapses. It’s imperative that you carefully hunt down rebounding tennis balls and avoid the dead cat bounces.

 

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold long positions in certain exchange traded funds (ETFs), AMZN, long NFLX bond, short NFLX stock, short LULU, and long CSCO (in a non-discretionary account), but at the time of publishing SCM had no direct position in TWTR, GRPN, YELP, ATHN, AVP, P, LNKD, BBY, ZNGA, WDAY, WFM, N, SSYS, JDSU, COH, CRM, FB or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

May 11, 2014 at 12:23 am 1 comment

Buy in May and Tap Dance Away

tap shoes

This article is an excerpt from a previously released Sidoxia Capital Management complementary newsletter (May 1, 2014). Subscribe on the right side of the page for the complete text.

The proverbial Wall Street adage that urges investors to “Sell in May, and go away” in order to avoid a seasonally volatile period from May to October has driven speculative trading strategies for generations. The basic premise behind the plan revolves around the idea that people have better things to do during the spring and summer months, so they sell stocks. Once the weather cools off, the thought process reverses as investors renew their interest in stocks during November. If investing was as easy as selling stocks on May 1 st and then buying them back on November 1st, then we could all caravan in yachts to our private islands while drinking from umbrella-filled coconut drinks. Regrettably, successful investing is not that simple and following naïve strategies like these generally don’t work over the long-run.

Even if you believe in market timing and seasonal investing (see Getting Off the Market Timing Treadmill ), the prohibitive transaction costs and tax implications often strip away any potential statistical advantage.

Unfortunately for the bears, who often react to this type of voodoo investing, betting against the stock market from May – October during the last two years has been a money-losing strategy. Rather than going away, investors have been better served to “Buy in May, and tap dance away.” More specifically, the S&P 500 index has increased in each of the last two years, including a +10% surge during the May-October period last year.

Nervous? Why Invest Now?

nervous

With the weak recent economic GDP figures and stock prices off by less than 1% from their all-time record highs, why in the world would investors consider investing now? Well, for starters, one must ask themselves, “What options do I have for my savings…cash?” Cash has been and will continue to be a poor place to hoard funds, especially when interest rates are near historic lows and inflation is eating away the value of your nest-egg like a hungry sumo wrestler. Anyone who has completed their income taxes last month knows how pathetic bank rates have been, and if you have pumped gas recently, you can appreciate the gnawing impact of escalating gasoline prices.

While there are selective opportunities to garner attractive yields in the bond market, as exploited in Sidoxia Fusion strategies, strategist and economist Dr. Ed Yardeni points out that equities have approximately +50% higher yields than corporate bonds. As you can see from the chart below, stocks (blue line) are yielding profits of about +6.6% vs +4.2% for corporate bonds (red line). In other words, for every $100 invested in stocks, companies are earning $6.60 in profits on average, which are then either paid out to investors as growing dividends and/or reinvested back into their companies for future growth.

Hefty profit streams have resulted in healthy corporate balance sheets, which have served as ammunition for the improving jobs picture. At best, the economic recovery has moved from a snail’s pace to a tortoise’s pace, but nevertheless, the unemployment rate has returned to a more respectable 6.7% rate. The mended economy has virtually recovered all of the approximately 9 million private jobs lost during the financial crisis (see chart below) and expectations for Friday’s jobs report is for another +220,000 jobs added during the month of April.

no farm payroll

Source: Bespoke

Wondrous Wing Woman

Investing can be scary for some individuals, but having an accommodative Fed Chair like Janet Yellen on your side makes the challenge more manageable. As I’ve pointed out in the past (with the help of Scott Grannis), the Fed’s stimulative ‘Quantitative Easing’ program counter intuitively raised interest rates during its implementation. What’s more, Yellen’s spearheading of the unprecedented $40 billion bond buying reduction program (a.k.a., ‘Taper’) has unexpectedly led to declining interest rates in recent months. If all goes well, Yellen will have completed the $85 billion monthly tapering by the end of this year, assuming the economy continues to expand.

In the meantime, investors and the broader financial markets have begun to digest the unwinding of the largest, most unprecedented monetary intervention in financial history. How can we tell this is the case? CEO confidence has improved to the point that $1 trillion of deals have been announced this year, including offers by Pfizer Inc. – PFE ($100 billion), Facebook Inc. – FB ($19 billion), and Comcast Corp. – CMCSA ($45 billion).

big acq 14

Source: Entrepreneur

Banks are feeling more confident too, and this is evident by the acceleration seen in bank loans. After the financial crisis, gun-shy bank CEOs fortified their balance sheets, but with five years of economic expansion under their belts, the banks are beginning to loosen their loan purse strings further (see chart below).

The coast is never completely clear. As always, there are plenty of things to worry about. If it’s not Ukraine, it can be slowing growth in China, mid-term elections in the fall, and/or rising tensions in the Middle East. However, for the vast majority of investors, relying on calendar adages (i.e., selling in May) is a complete waste of time. You will be much better off investing in attractively priced, long-term opportunities, and then tap dance your way to financial prosperity.

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in PFE, CMCSA, and certain exchange traded funds (ETFs), but at the time of publishing SCM had no direct position in FB or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

May 3, 2014 at 10:00 am Leave a comment

You Can’t Kiss Every Pretty Girl (…or Handsome Boy)

Kissing

There are a lot of pretty girls in the world, and there are a lot of sexy stocks in the stock market, but not even the most eligible bachelor (or bachelorettes) are able to kiss all the beautiful people in the world. The same principle applies to the stock market. The most successful investors have a disciplined process of waiting for the perfect mate to cross their path, rather than chasing every tempting mistress.

Happily married to my current portfolio, I continually bump into attractive candidates that try to seduce me into buying. For me, these sexy equities typically come in the shape of high P/E ratios (Price/Earnings) and rapid sales growth rates. It’s fun to date (or rent) these sexy stocks, but the novelty often wears off quickly and the euphoric sensation can disappear rapidly – just like real-world dating. Case in point is the reality dating shows, the Bachelor and Bachelorette. Over 27 combined seasons, of which I sheepishly admit seeing a few, only five of the couples remain together today.  While it may be enjoyable to vicariously watch bevies of beautiful people hook-up, the harsh reality is that the success rate is abysmal, similar to the results in chasing darling stocks (see also Riding the Wave).

Well-known strategist and investor Barton Biggs once said, “A bull market is like sex. It feels best just before it ends.” The same goes with chasing pricey momentum stocks – what looks pretty in the short-run can turn ugly in a blink of the eye. For example, if you purchased the following basket of top 10 performing stocks of 2012 (+118% average return excluding dividends), you would have underperformed the market by -16% if you owned until today.

Top 2012 Performers

Warren Buffett understands hunting for short-term relationships may be thrilling, but this strategy often leads to tears and heartbreak. Buffett summarized the importance of selectivity here:

“I could improve your ultimate financial welfare by giving you a ticket with only twenty slots in it so that you had twenty punches – representing all the investments that you got to make in a lifetime. And once you’d punched through the card, you couldn’t make any more investments at all. Under those rules, you’d really think carefully about what you did, and you’d be forced to load up on what you’d really thought about. So you’d do so much better.”

 

Rather than hungering for the spiciest stocks, it’s best to find a beauty before she becomes Miss America, because at that point, everybody wants to date her and the price is usually way too expensive. If you stay selective and patient while realizing you can’t kiss every pretty girl, then you can prevent the stock market from breaking your heart.

 

www.Sidoxia.com

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold long positions in certain exchange traded funds (ETFs), but at the time of publishing SCM had no direct position in PHM, MHO, CVI, EXPE, HFS, DDS, LEN, MPC. TSO, GPS, BRKA/B, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.

 

April 26, 2014 at 10:25 am Leave a comment

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