Archive for May, 2014
Searching for the Market Boogeyman
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
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.
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.
Rise of the Robo-Advisors: Paying to Do-It-Yourself
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.
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.
Hunting for Tennis Balls and Dead Cats
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:
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:
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).
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.
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.
Buy in May and Tap Dance Away
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?
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.
Source: Dr. Ed’s Blog
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.
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).
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.
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.
Investing Caffeine 
