Posts tagged ‘Europe’
Sidoxia Debuts Video & Goes to the Movies
Article is an excerpt from previously released Sidoxia Capital Management’s complementary February 1, 2013 newsletter. Subscribe on right side of page.
The red carpet was rolled out for the stock market in January with the Dow Jones Industrial Average rising +5.8% and the S&P 500 index up an equally impressive +5.0% (a little higher rate than the 0.0001% being earned in bank accounts). Movie stars are also strutting their stuff down the red carpet this time of the year as they collect shiny statues at ritzy award shows like the Golden Globes and Oscars. Given the vast volumes of honors bestowed, we thought what better time to put on our tuxes and create our own 2013 nominations for the economy and financial markets. If you are unhappy with our selections, you are welcome to cast your own votes in the comments section below.
By award category, here are Sidoxia’s 2013 selections:
Best Drama (Government Shutdown & Debt Ceiling): Washington D.C. has provided no shortage of drama, and the upcoming blockbusters of Shutdown & Debt Ceiling are worthy of its Best Drama nomination. If Congressional Democrats and Republicans don’t vote in favor of a new “Continuing Resolution” by March 27th, then our United States government will come to a grinding halt. At issue is Republican’s desire for additional government spending cuts to lower our deficit, which is likely to exceed $1 trillion for the fifth consecutive year. If you like more heart pumping drama, the Senate has just passed a Debt Ceiling extension through May 18th…mark those calendars!
Best Horror Film (Sequestration): Most people have already seen the scary prequel, The Fiscal Cliff, but the sequel Sequestration deserves the horror film honors of 2013. This upcoming blood-filled movie about broad, automatic, across-the-board government cost cuts will make any casual movie-watcher scream in terror. The $1.2 trillion in spending cuts (over 10 years) are so gory, many viewers may voluntarily leave the theater early. If you are waiting for the release, Sequestration is coming to a theater near you on March 1st, unless Congress, in an unlikely scenario, cancels the launch.
Best Director (Ben Bernanke): Federal Reserve Chairman Ben Bernanke’s film, entitled, The U.S. Economy, had a massive budget of about $16 trillion dollars, based on estimates of last year’s GDP (Gross Domestic Product). Nevertheless, Bernanke managed to do whatever it took (including trillions of dollars in bond buying) to prevent the economic movie studio from collapsing into bankruptcy. While many movie-goers were critical of his directorial debut, inflation has remained subdued thus far, and he has promised to continue his stimulative monetary policies (i.e., keep interest rates low) until the national unemployment rate falls below 6.5% or inflation rises above 2.5%.
Best Foreign Film (China): Americans are not the only people who produce movies globally. A certain country with a population of nearly 1.4 billion people also makes movies too…China. In the most recently completed 4th quarter, China’s economy experienced blockbuster growth in the form of +7.9% GDP expansion. This was the fastest pace achieved by China in two whole years. To put this metric into perspective, compare China’s heroic growth to the bomb created by the U.S. economy, which registered a disappointing -0.1% contraction at the economic box office. China’s popularity should bring in business all around the globe.
Best Special Effects (Japan): After coming out with a series of continuous flops, Japan recently launched some fresh new special effects in the form of a $116 billion emergency stimulus package. The country also has plans to superficially enhance the visual portrayal of its economy by implementing its own faux money-printing program modeled after our country’s quantitative easing actions (i.e., the Federal Reserve stimulus). As a result of these initiatives, the Japanese Nikkei index – their equivalent of our Dow Jones Industrial index – has risen by +29% in less than 3 months to a level of 11,138.66 (click here for chart). But don’t get too excited. This same Nikkei index peaked at 38,957 in 1989, a far cry from its current level.
Best Action Film (Icahn vs. Ackman): This surprisingly entertaining action film features a senile 76-year-old corporate raider and a white-haired, 46-year-old Harvard grad. The investment foes I am referring to are the elder Carl Icahn, Chairman of Icahn Enterprises, and junior Bill Ackman, CEO of Pershing Square Capital Management. In addition to terms such as crybaby, loser, and liar, the 27-minute verbal spat (view more here) between Icahn (his net worth equal to about $15 billion) and Ackman (net worth approaching $1 billion) includes some NC-17 profanity. The clash of these investment titans stems from a decade-old lawsuit, in addition to a recent disagreement over a controversial short position in Herbalife Ltd. (HLF), a nutritional multi-level marketing firm.
Best Documentary (Europe): As with a lot of reality-based films, many don’t receive a lot of attention. So too has been the commentary regarding the eurozone, which has been relatively peaceful compared to last spring. Despite the comparative media silence, European unemployment reached a new high of 11.8% late last year. This European documentary is not one you should ignore. European Central Bank (ECB) President Mario Draghi just stated, “The risks surrounding the outlook for the euro area remain on the downside.”
Best Original Song (National Anthem): We won’t read anything politically into Beyonce’s lip-synced rendition of The Star-Spangled Banner at the presidential inauguration, but she is still worthy of the Sidoxia nomination because music we hear in the movies is also recorded. I’m certain her rapping husband Jay-Z agrees whole-heartedly with this viewpoint.
Best Motion Picture (Sidoxia Video): It may only be three minutes long, but as my grandmother told me, “Great things come in small packages.” I may be a little biased, but judge for yourself by watching Sidoxia’s Oscar-worthy motion picture debut:
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 HLF, Japanese ETFs, 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.
Conquering the Political & Economic Hurricanes
Article is an excerpt from previously released Sidoxia Capital Management’s complementary November 1, 2012 newsletter. Subscribe on right side of page.
Hurricane Sandy wreaked havoc across the East Coast, negatively impacting an estimated 60 million people and leaving more than 8 million people literally in the dark, without power. The hurricane may have been downgraded to a “superstorm” but the 90+ mile per hour winds and waves reaching up to 40 feet high created devastating economic impacts. How large were these impacts you may ask? This big swirly cloud that slammed into the Atlantic coastline shut down about ¼ of our economy; led to about 15,000 canceled flights; is expected to cut our nation’s
Q4 output by up to -1.5% in GDP (Gross Domestic Product); and closed our financial markets for two days (the longest weather related closure of the New York Stock Exchange since 1888). Although the damage has been distressing for millions, about 5 million kids I think were okay with missing school on Monday (I’m going out on a limb with that guess).
Besides a superstorm-hurricane offered to us by Mother Nature, our country is about to undergo a new political hurricane next week with our nation’s presidential elections. Many polls show a statistical dead heat among the two candidates (Mitt Romney and Barack Obama), but political pundits point to the key battleground state of Ohio as the key determinant of the overall election results (Obama currently appears to have a slight lead in several polls). Some wildcard issues that could throw a wrench in an incumbent victory include a potential apathetic turnout by the Democratic voter base (hurt worse by “Superstorm Sandy”); worsening employment figures reported four days before the election; or perhaps a political gaffe. None of these polls are set in stone, and the situation remains rather fluid (no Sandy pun intended).
Regardless, whatever the political outcome, history shows us that the victor’s political affiliation has little correlation with the results in the financial markets. Ed Yardeni illustrated this point recently with the following chart:
Source: Yardeni.com
What many people seem to overlook is that there are many other variables besides political affiliation that can and will impact future financial market performance including, Congressional control that may be dominated or split by the opposing political party; monetary policy set by the Federal Reserve Bank; or uncontrollable globalization influences. As emerging market countries continue to outpace our economic growth, our country’s power and persuasion will naturally diminish due to the “law of large numbers”. In other words, as the largest, most powerful economic country in the world, the mathematical gravity hinders our country’s ability to grow rapidly.
Despite the economic and political challenges our country faces, we continue to move in the right direction, albeit at a very slow historical pace. As you can see from Ed Yardeni’s chart below, our recovery from the recent recession (bottom red line) is the worst recovery in more than 50 years. On the bright side, the freshly reported Q3 GDP figures came in at a +2.0% GDP rate – uninspiring, but an improvement from Q2, and better than Wall Street consensus forecasts.
Source: Yardeni.com
The growth has been considerably weak, yet the U.S. has still recorded 13 consecutive quarters of positive growth. Not bad considering Europe is in recession and countries like Spain are Greece are suffering unemployment rates of about 25%.
In order to maintain or accelerate economic growth, most Americans understand the Fiscal Cliff (~$700 billion in automatic spending cuts and tax hikes) needs to get resolved immediately. Failure to face this urgent challenge could have dire consequences, so voting for politicians who understand the immediacy of this problem is important.
Moving into Seasonally Strong Period
Selling in May, and going away for six months has not been a profitable strategy this year, as measured by the S&P 500 index. Furthermore, investors have also survived the historically scary performance months of September and October. Nothing is ever guaranteed, but historically the months of November through April tend to be rewarding periods.
Blowing against this positive seasonal trend have been lifeless earnings. In fact, corporate profits and revenue growth have slowed to a trickle in Q3, thanks to lackluster results from companies like Caterpillar (CAT); General Electric (GE); 3M Company (MMM); United Technologies (UTX); McDonalds (MCD); and others. Denying the global slowdown is difficult, but there are signs of stabilization and fortunately financial markets look forward and not backward.
Overshadowing some of that recent slowing growth has been the positive development in the housing market. As one can see in the chart below, housing starts are up significantly at +60% from early last year, but history tells us there is still plenty of room to move higher.
Source: Calafia Beach Report
Year-to-date stock performance has been nothing short of spectacular either. Although stocks were down about -2% in October, the S&P 500 index remains up +12% through October, and that excludes about +2% in dividends. If you look at the overall asset classes in the chart below, real estate is the winning segment this year with U.S. stocks not far behind. Commodities have fared the worst and the fixed income asset class showed modest gains relative to global equities.
Source: Hays Advisory Blog
Within U.S. stocks, the largest of large stocks (“Megacaps”) have enjoyed the best results. This trend is not surprising given the significant uncertainties investors are reviewing (e.g., elections, Fiscal Cliff, Europe, etc.).
Source: Calafia Beach Report
The recent Hurricane Sandy turned superstorm caused enormous damage to our country, and the political and economic hurricanes we have experienced over the last few years have yet to be conquered. The good news, in all these cases (physical and financial), is that the clouds are in the process of lifting; the worst damage should be behind us; our outlook will be more certain; and we can now begin focusing on the rebuilding process.
Like Washington, individual investors cannot afford to ignore their own personal Fiscal Cliffs. In a future entitlement-pressured world, investors need to proactively develop an investment plan, because ignoring your investments by kicking the can down the road only does more harm than good. I’m confident that, regardless of the election results next week, cooler heads will eventually prevail, and Democrats and Republicans can work together to solve our country’s Fiscal Cliff problems. Superstorm Sandy will not be the last natural disaster our country faces, but like investing, the more prepared one is for these unforeseen events, the better you will be equipped to conquer your financial future.
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 positions in CAT, MMM, GE, UTX, MCD, 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.
Rates Dance their Way to a Floor
The globe is awash in debt, deficits are exploding, and the Euro is about to collapse…right? Well, then why in the heck are six countries out of the G-7 seeing their 10-year sovereign debt trade at 2.5% or lower on a consistent downward long-term trajectory? What’s more, three of the six countries witnessing their rates plummet are from Europe, despite pundits continually calling for the demise of the eurozone.
Here is a snapshot of 10-year sovereign debt yields for the majority of the G-7 countries over the last few decades:
Source: TradingEconomics.com
The sole G-7 member missing from the bond yield charts above? Italy. Although Italy’s deficits are not massive (Italy actually has a smaller deficit than U.S. as % of GDP: 3.9% in 2011), its Debt/GDP ratio has been large and rising (see chart below):
Source: TradingEconomics.com
As the globe has plodded through the financial crisis of 2008-2009, investors have flocked to the perceived stability of these larger developed countries’ bonds, even if they are merely better homes in a bad neighborhood right now. PIMCO likes to call these popular sovereign bonds, “cleaner dirty shirts.” Buying sovereign debt from these less dirty shirt countries, without sensitivity to price or yield, has been a lucrative trade that has worked consistently for quite some time. Now, however, with sovereign bond yields rapidly approaching 0%, it becomes mathematically impossible to fall lower than the bottom rate floor that developed countries are standing on.
Bond bears have been wrong about the timing of the inevitable bond price reversal, myself included, but the bulls are skating on thinner and thinner ice as rates continue moving lower. The bears may prolong their bragging rights if interest rates continue downward, or persist at these lower levels for extended periods of time. Eventually the “buy the dips” mentality dies, as we so poignantly experienced in 2000 when the technology dips turned into outright collapse.
The Flies in the Bond Binging Ointment
As long as equities remain in a trading range, the “risk-off” bond binging arguments will continue holding water. If corporate earnings remain elevated and stock buybacks carry on, the pain of deflating real returns will eventually become too unbearable for investors. As the insidious rising prices of energy, healthcare, food, leisure, and general costs keep eating away everyone’s purchasing power, even the skeptics will become more impatient with the paltry returns they are currently earning. Earning negative real returns in Treasuries, CDs, money market accounts, and other conservative investments, is not going to help millions of Americans meet their future financial goals. Due to the laundry list of global economic concerns, large swaths of investors are still running and hiding, but this is not a sustainable strategy longer term. The danger from these so-called “safe,” low-yielding asset classes is actually riskier than the perceived risk, in my view.
With that said, I’ve consistently held there are a subset of investors, including a significant number of my Sidoxia Capital Management clients, who are in the later stage of retirement and have a rational need for capital preservation and income generating assets (albeit low yielding). For this investor segment, portfolio construction is not executed due to an opportunistic urge of chasing potential outsized rates of return, but more-so out of necessity. Shorter time horizons eliminate the prudence of additional equity exposure because of the extra associated volatility. Unfortunately, many of the 76 million Baby Boomers will statistically live another 20 – 30 years based on actuarial life expectations and under-save, so the risks of being too conservative can dramatically outweigh the risks of increasing equity exposure. This is all stated in the context of stocks paying a higher yield than long-term Treasuries – the first time in a generation.
Short-term risks and uncertainties remain high, with Greek election outcomes unknown; a U.S. Presidential election in flux; and an impending domestic fiscal cliff that needs to be addressed. But with interest rates accelerating towards 0% and investors’ fright-filled buying of pricey, low-yielding asset classes, many of these risks are already factored into current valuations. As it turns out, the pain of panic can be more detrimental than being stuck in over-priced assets, driven by rates dancing near an absolute floor.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own 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.
Broken Record Repeats Itself
Article is an excerpt from previously released Sidoxia Capital Management’s complementary June 2012 newsletter. Subscribe on right side of page.
Traditional music records have been replaced with CDs (compact discs) and digital downloads. Although the problem of a broken record repeating itself is no longer an issue, our financial markets have not conquered the problem of repetition. More specifically, the timing of the -6.3% stock market decline during May (as measured by the S&P 500 index), coincides with the same broken sell-offs we have temporarily experienced over the last two summers. First, we had the “Flash Crash” in the summer of 2010, and then the debt ceiling debate and credit downgrade of 2011.
So far, the “Sell in May and go away” mantra has followed the textbook lessons over the last few years, but as you can see from the chart below, the short-lived seasonal sell-offs have been followed by significant advances (up +33% from 2010 lows and up +29% from the 2011 lows). Given the global challenges, a two-steps forward, one-step back pattern in equity markets should not be seen as overly surprising by investors.
Source: Yahoo Finance
Although the late-spring and summer doldrums have not been a joy-ride in recent years, these overly simplistic seasonal trading rules of thumb have not been exceedingly reliable either. For example, even though the months of May in 2010-2012 produced negative returns, the previous 25 Mays going back to 1985 produced positive returns more than 2/3 of the time. Rather than fiddle with these unreliable, unscientific trading rules, individuals would be better served by listening to famous Jedi Master Yoda from Star Wars, who so astutely noted, “Uncertain, the future is.”
Voting Machines and Scales
Given the spread of globalization and technology, the speed of news dissemination has never been faster. With the 2008-2009 financial crisis still burned into investors’ minds, the default response to any scary news item is to shoot first and ask questions later. Renowned long-term investing legend Ben Graham famously highlighted, “In the short run the market is a voting machine. In the long run it’s a weighing machine.”
As it relates to short-run current events, here are some of the items that investors were voting on (no pun intended) this month:
Europe, Europe, Europe: This problem has been with us for some time now, and there are no signs it will disappear anytime soon. In a game of chicken between the EU (European Union) and Greek legislators, fresh elections are taking place on June 17th, which will ultimately determine if Greece will exit the Euro monetary union or stick to the bitter medicine of austerity prescribed by the key European decision-makers in Germany. As Greece attempts to clean up its own mess, European politicians and G-20 leaders around the globe are scrambling to create plans that ring-fence countries like Spain and Italy from succumbing to a Greek-born contagion.
Presidential Politics: If you haven’t been living in a cave for the last six months, you probably know that 2012 is a presidential election year. Regardless of your politics, there are big questions surrounding the economy, jobs, deficits, debt, taxes, entitlements, defense, gay marriage, and other important issues. Answers to many of these questions will remain unclear until we get closer to the elections. The financial markets do not like uncertainty, so probabilities would indicate volatility will remain par for the course for the foreseeable future.
Facebook Folly: Despite my warnings, Facebook’s initial public offering (IPO) failed to live up to the social media giant’s hype – the share price has fallen -22% since the shares originally priced. Great companies do not always make great stocks, especially when a relatively new kid on the block has his company’s stock initially valued at a hefty price-tag of more than a $100 billion. Finger pointing is being spread liberally on the botched Facebook deal (e.g., Morgan Stanley, NASDAQ, Facebook), but no need to shed a tear for 28-year-old founder Mark Zuckerberg since his ownership stake in the company is still valued at around $15 billion – enough to cover a European trip to McDonald’s with his newlywed wife.
Dimon in a Rough Spot: Jamie Dimon, the poster child of the banking industry (and CEO of JP Morgan Chase – JPM), dropped a bomb on the investment community earlier in the month by explaining how a rogue “whale” trader racked up $2 billion in initial losses (and growing) by taking excessive risk and throwing controls into the wind.
Chinese Dragon Losing Steam: The #2 global economy has been losing some steam as witnessed by slowing industrial production and GDP growth (Gross Domestic Product). In turn, the self correcting economic forces of supply and demand have provided relief to consumers and corporations in the form of lower fuel, energy, and commodity prices. Chinese leaders are not sitting still – there are plans of accelerating infrastructure spending and assisting banks in the form of capital injections and lower reserve requirements.
As I discussed in a previous Investing Caffeine article (see The European Dog Ate My Homework), although the current headlines remain gloomy, that will always be the case. Just a few years ago, Bear Stearns, Lehman Brothers, AIG, CDS (credit default swaps), and subprime mortgages were the boogeymen. In the 1980s, we had the Savings & Loan financial crisis and the infamous 1987 Crash. During the 1970s, the Vietnam War, Nixon’s impeachment proceedings, and rising inflation were the dominating issues. Since then, the equity markets are up over 20x-fold – time will always reward those patient long-term investors. Despite all the doom and gloom, stock markets have roughly doubled over the last three years and all the major indexes remain solidly in the black for the year. Choppy waters are likely to remain as we approach this year’s elections, but for those who understand broken records often repeat themselves, there’s a good chance the music will eventually sound much better.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds (including commodities, inflation protection, floating rate bonds, real estate, dividend, and alternative investment ETFs), but at the time of publishing SCM had no direct position in FB, MCD, JPM, MS, NDAQ, AIG, Lehman Brothers, Bear Stearns, 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.
The European Dog Ate My Homework
I never thought my daily routine would be dominated by checking European markets before our domestic open, but these days it is appearing like the European tail is wagging the global dog. Tracking Spanish bond yields from the Tesoro Publico and the Italia Borsa index is currently having a larger bearing on my portfolio than U.S. fundamentals. When explaining short term performance to others, I feel a little like an elementary school student making an excuse that my dog ate my homework.
Although the multi-year European saga has gone on for years, this too shall pass. What’s more, despite the bailouts of Portugal, Ireland, and Greece in recent years, the resilient U.S. economy has recorded 11 consecutive quarters of GDP (Gross Domestic Product) growth and added more than 4 million jobs, albeit at a less than desirable pace.
Could it get worse? Certainly. Will it get worse before it gets better? Probably. Is worsening European fundamentals and a potential Greek eurozone exit already factored into current stock prices? Possibly. The truth of the matter is that nobody knows the answers to these questions with certainty. At this point, the probability of an unknown or unexpected event in a different geography is more likely to be the cause of our economic downfall than a worsening European crisis. As sage investor and strategist Don Hays aptly points out, “When everyone is concerned about a problem, that problem is solved.” That may be overstating the truth a bit, but I do believe the issues absent from current headlines are the matters we should be most concerned about.
The European financial crisis may drag on for a while longer, but nothing lasts forever. Years from now, worries about the PIIGS countries (Portugal, Ireland, Italy, Greece, Spain) will switch to others, like the BRICs (Brazil, Russia, India, China) or other worry geography du jour. The issues of greatest damage in 2008-2009, like Bear Stearns, Lehman Brothers, AIG, CDS (credit default swaps), and subprime mortgages, didn’t dominate the headlines for years like the European crisis stories of today. As compared to Europe’s problems, these prior pains felt like Band Aids being quickly ripped off.
Correlation Conundrum
Eventually European worries will be put on the backburner, but until some other boogeyman dominates the daily headlines, our financial markets will continue to correlate tightly with European security prices. How does one fight these tight correlations? For starters, the correlations will not stay tight forever. If an investor can survive through the valley of strong security association, then the benefits will eventually accrue.
Although the benefits from diversification may disappear in the short-run, they should not be fully forgotten. Bonds, cash, and precious metals (i.e., gold) proved to be great portfolio diversifiers in 2008 and early 2009. Commodities, inflation protection, floating rate bonds, real estate, and alternative investments, are a few asset classes that will help diversify portfolios. Risk is defined in many circles as volatility (i.e., standard deviation) and combining disparate asset classes can lower volatility. But risk, defined as the potential of experiencing permanent losses, can also be controlled by focusing on valuation. By in large, large cap dividend paying stocks have struggled for more than a decade, despite equity dividend yields for the S&P 500 exceeding 10-year Treasury yields (the first time in more than 50 years). Investing in large companies with strong balance sheets and attractive growth prospects is another strategy of lowering portfolio risk.
Politics & Winston Churchill
Some factors however are out of shareholders hands, such as politics. As we know from last year’s debt ceiling melee and credit downgrade debacle, getting things done in Washington is very challenging. If you think achieving consensus in one country is difficult, imagine what it’s like in herding 17 countries? That’s the facts of life we are dealing with in the eurozone right now.
Although I am optimistic something will eventually get done, I consider myself a frustrated optimist. I am frustrated because of the gridlock, but optimistic because these problems are not rocket science. Rather these challenges are concepts my first grade child could understand:
• Expenses are running higher than revenues. You must cut expenses, increase revenues, or a combination thereof.
• Adding debt can support growth, but can lead to inflation. Cutting debt can hinder growth, but leads to a more sustainable fiscal state of wellbeing.
Relieving all the excess global leverage is a long, tortuous process. We saw firsthand here in the U.S. what happened to the U.S. real estate market and associated financial institutions when irresponsible debt consumption took place. Fortunately, corporations and consumers adjusted their all-you-can-eat debt buffet habits by going on a diet. As a matter of fact, corporations today are holding records amounts of cash and debt service loads for consumers has been reduced to levels not seen in decades (see chart below). Unlike governments, luckily CEOs and individuals do not need Congressional approval to adapt to a world of reality – they can simply adjust spending habits.
Source: Calafia Beach Pundit (Scott Grannis)
Governments, on the other hand, generally do need legislative approval to adjust spending habits. Regrettably, cutting the benefits of your constituents is not a real popular political strategy for accumulating votes or brownie points. If you don’t believe me, see what voters are doing to their leaders in Europe. Nicolas Sarkozy is the latest European leader to be booted from office due to austerity backlash and economic frustration. No less than nine European leaders have been cast aside since the financial crisis began.
The fate for U.S. politicians is less clear as we enter into a heated presidential election over the next six months. We do however know how the mid-term Congressional elections fared for the incumbents…not all sunshine and roses. Until elections are completed, we are resigned to the continued mind-numbing political gridlock, with no tangible resolutions to the trillion dollar deficits and gargantuan debt load. Obviously, most citizens would prefer a forward looking strategic plan from politicians (rather than a reactive one), but there are no signs that this will happen anytime soon…in either party.
Realistically though, tough decisions made by politicians only occur during crises, and if this slow-motion train wreck continues along this same path, then at least we have something to look forward to – forced resolution. We are seeing this firsthand in Greece. The “bond vigilantes” (see Plumbers & Cops) and responsible parents (i.e., Germany) have given Greece two options:
1.) Fix your financial problems and receive assistance; or
2.) Leave the EU (return to the Drachma currency) and figure your problems out yourself.
Panic has a way of forcing action, and we are approaching that “when push comes to shove” moment very quickly. I believe the Europeans are currently taking a note from our strategic playbook, which basically is the spaghetti approach – throw lots of things up on the wall and see what sticks. Or as Winston Churchill stated, “You can always count on Americans to do the right thing – after they’ve tried everything else.”
There is no question, the European sovereign debt issue is a complete mess, and there are no clear paths to a quick solution. Until voters force politicians into making tough unpopular decisions, or leaders come together with forward looking answers, the default position will be to keep kicking the fiscal can issues down the road. In the absence of political leadership, eventually the crisis will naturally force tough decisions to be made. Until then, I will go on explaining to others how the European dog ate my homework.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds (including commodities, inflation protection, floating rate bonds, real estate, dividend, and alternative investment ETFs), but at the time of publishing SCM had no direct position in AIG, JNJ, Bear Stearns, Lehman Brothers, 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 with the Sentiment Pendulum
Article is an excerpt from Sidoxia Capital Management’s complementary May 2012 newsletter. Subscribe on right side of page.
The last five years have been historic in many respects. Not only have governments and central banks around the world undertaken unprecedented actions in response to the global financial crisis, but investors have ridden an emotional rollercoaster in response to historically unparalleled uncertainties.
While the nature of this past crisis has been unique, experienced investors know these fears continually manifest themselves in different forms over various cycles in time. Despite the more than doubling in equity market values over the last few years, as measured by the S&P 500 index, the emotional pendulum of investor sentiment has only partially corrected. Investor temperament has thankfully swung away from “Panic,” but has only moved closer to “Fear” and “Skepticism.” Here are some of the issues contributing to investors’ current sour mood:
The Next European Domino: The fear of the Greek domino toppling the larger Spanish and Italian economies has investors nervously chewing their finger-nails, and political turmoil in France and the Netherlands isn’t creating any additional warm and fuzzies.
Job Additions Losing Steam: New job creation here in the U.S. weakened to a lethargic monthly rate of +120,000 new jobs in March, while the unemployment rate remains stubbornly high at an 8.2% level.
Domestic Growth Losing Mojo: GDP (Gross Domestic Product) growth of +2.2% during the first quarter of 2012 also opened the door for the pessimists. Consumers are still spending (+2.9% growth), but government spending, business investment, and housing are taking wind out of the economy’s sails.
Emerging Markets Submerging: Unspectacular growth in the U.S. is not receiving any favors from slowing emerging markets like China and Brazil, which took fiscal and monetary actions to slow inflation and housing speculation in 2011.
Humpty Dumpty Politics: Presidential elections, tax policy, and deficit reduction are all concerns that carry the possibility of pushing the economic Humpty Dumpty off the wall, and as a result potentially lead to a great fall. The determination of Humpty Dumpty’s fate will likely have to wait until year-end or 2013.
Any student of history knows these fears and other concerns never go away – they simply change. But like supply and demand, gravitational forces eventually swing the emotional pendulum in the opposite direction. As Sir John Templeton so aptly stated, “Bull markets are born on pessimism, grow on skepticism, mature on optimism and die on euphoria.” Or in other words, escalating bull markets must climb the proverbial “Wall of Worry” in order to sustain upward momentum. If there was nothing to worry about, then all the buyers would already be in the markets. We are nowhere close to experiencing “Euphoria” like we saw in stocks during the late-1990s or in the housing market around 2005.
Positively Climbing the “Wall of Worry”
With all this bad news out there, surprisingly there are some glimmers of hope chipping away at the “Wall of Worry.” Here are some of the positive factors helping turn pessimist frowns upside down:
Slow & Steady Wins the Race: The economic recovery has been weaker than hoped, but I can think of worse scenarios than 11 consecutive quarters of GDP growth and 25 straight months of private job creation, which has reduced the unemployment rate from 10.0% in October 2009 to 8.2% last month.
Earnings Machine Keeps Chugging Along: With the majority of S&P 500 companies having reported their quarterly results for the first quarter, three-fourths of the companies are beating forecasted earnings, which are currently registering in at a respectable +7.1% rate (Thomson Reuters). One company epitomizing this trend is Apple Inc. (AAPL). The near doubling in Apple’s profits during the quarter, thanks to explosive iPhone sales, pushed Apple’s shares over $600 and helped drive the NASDAQ index to its best day of the year.
Super Ben to the Rescue: The Federal Reserve has already stated their intention of keeping interest rates near 0% until 2014. The potential of additional monetary stimulus spearheaded by Federal Reserve Chairman Ben Bernanke, in the form of QE3 (Quantitative Easing Part III), may provide further needed support to the stock market (a.k.a., the “Bernanke Put”).
Return of the IPO: Initial Public Offerings (IPOs) have gained steam versus last year with more than 53 already coming to market in the first four months of 2012. This is no 1999, but a good number of deals have done quite well over the last month. For example, data analysis company Splunk Inc. (SPLK) share price is already up around 100% and the value of leisure luggage company TUMI Holdings (TUMI) has climbed over +40%. In a few weeks, the highly anticipated blockbuster Facebook (FB) IPO is expected to begin trading its shares, so we can see if the chronicled deal can live up to all the hype.
Dividends Galore: Dividend payments to stockholders are flowing at an extraordinary rate so far in 2012. Companies like IBM (increased its dividend by +13%), Exxon Mobil – (XOM +21%); Goldman Sachs – (GS +31%) are but just a few of the dividend raisers this year. Through the first three months of the year, the number of companies increasing their dividend payments was up +45% as compared to the comparable number for all of 2011.
Emerging Growth Not Dead: While worriers fret over slowing growth in China, companies like Apple grew by more than +100% in this region and collected nearly 20% of its revenues from this Asian country (~$8 billion). Coincidentally, China is expected to surpass an incredible one billion mobile connections in May – many of those iPhones. In other related news, Starbucks Corp. (SBUX) plans to triple its workforce and number of stores in China over the next three years. China has also helped fuel a backlog of Caterpillar Inc. (CAT) that is more than triple the level of 2009. Emerging markets may have slowed down in 2011, but with inflation beginning to stabilize, emerging market central banks and governments are now beginning to ease policies and reduce red-tape. For example, Brazil and India have started to lower key benchmark interest rates, and China has started to reverse capital flow restrictions.
Stay Off the Trampled Path
The mantra of “Sell in May and go away” always gets a lot of playtime around this period of the year. Over the last few years, the temporary spring/summer sell-offs have only been followed by stronger price appreciation. Individuals attempting to time the market (see also Getting Off the Treadmill) generally end up in tears. And for those traders who boast about their excellent timing (like those suspicious friends who brag about always winning in Las Vegas), we all know the truth – nobody buys at the lows and sells at the highs…except for liars.
With all the noise and cross-currents flooding the airwaves, investing for individuals without assistance has never been so difficult. But before hiding in your cave or reacting to the next scary headline about Europe, the economy, or politics, do yourself a favor by reminding yourself these chilling news items are nothing new and are often great contrarian indicators (see also Back to the Future). The emotional pendulum is constantly swinging from fear to greed and investors stand to prosper by adjusting sentiment and actions in the opposite direction. To survive in the investing wild, it is best to realize that the grass is greener and the eating more abundant when you stay off the trampled path of the herd.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds and AAPL, but at the time of publishing SCM had no direct position in SPLK, TUMI, IBM, XOM, GS, SBUX, CAT, 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.
The Fund Flows Paradox
How is it that the stock market has more than doubled over the last three years, when investors have been dumping stocks like they are going out of style? If you don’t believe me, and you think jovial investors are jacking stocks higher, then please explain to me why billions of dollars are hemorrhaging out of equity funds on a monthly basis over the last five years (see Fund Flow data chart below)?
Source: Calafia Beach Pundit
If by small chance you buy my argument that skeptical investors continue to doubt the sustainability of the three-year doubling in the stock market, then why is the Volatility Index (VIX) trading like investors are sunbathing at the beach while licking lollipops? For those not keeping score on the VIX (see also The VIX and the Rule of 16), typically a reading below 20 is interpreted as investor overconfidence and/or complacency. On the flip side, readings above 20 usually indicate pessimism or fear.
As you can see from the chart below, we have spent a good portion of the last few years on both sides of the 20 mph VIX speed limit, and currently at a reading of about 17, investors have slowed down to enjoy the scenery.
Source: Yahoo! Finance
So with massive selling and a cheery reading on the VIX, how can these bipolar data-points be reconciled? Therein lies the “Fund Flows Paradox.”
Take Me Out to the Ballgame
If you equate equity investors to fans at a baseball stadium, the fund flow data clearly shows investors are tired of losing money and have been leaving the game in droves. Instead of staying at the equity baseball stadium, those fatigued stock investors have decided to head over to the adjacent bond arena. The equity stadium will never completely be empty because financial markets always have speculative traders. In baseball terms you can think of these short-term traders as the emotionally volatile die-hard fanatics, who will stick around regardless of whether the home team wins or loses.
So while sentiment gauges like the VIX, or sentiment surveys conducted by AAII (American Association of Individual Investors) may be temporarily flashing contrarian bearish signals, one should be cognizant that these data points do not include the petrified opinions of investors who have raced out of the stadium. Eventually when the home team’s winning streak is long enough, investors will return back to the stadium from the bond arena. While there is no sign of individual investors coming back to the stock game anytime soon, in the meantime patient and disciplined investors have had plenty of opportunities to take advantage of. With massive numbers of individual investors and sellers sitting on the sidelines, the markets require relatively little buying to push prices higher.
Over the last few years, not only have equity valuations been broadly reasonable, volatility spikes during the last few summers have also created amplified opportunities. With the wall of worries currently blanketing traditional and new media headlines (i.e., European crisis, U.S. election uncertainty, unsustainable and slowing profits, pending tax cut expirations, Mideast turmoil, etc.) there is no sense of urgency to pile back in to the equity markets.
The doubling in stock prices have occurred on low volumes, largely on the backs of a smaller institutional investor base, not to mention high frequency traders and speculators. While sentiment surveys may currently provide some insight into short-term equity trader attitudes, don’t let these volatile and unreliable data cloud the true underlying pessimism of the masses who have left the stock stadium in large numbers. Trillions of dollars remain on the sidelines as potential fuel for future equity appreciation, once confidence returns.
Opinions are interesting, but actions speak louder than words. Spend more time looking at the actions of the fund flow data, rather than the opinions of various short-term sentiment surveys or short-term options trader statistics. Adjusting your focus to investor actions and behavior will provide a truer gauge of overall investor sentiment and assist you in solving the “Fund Flows Paradox.”
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, but at the time of publishing SCM had no direct position in VXX, 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.
Cash Security Blanket Turns Into Tourniquet
Article is an excerpt from Sidoxia Capital Management’s April 2012 newsletter. Subscribe on right side of page.
That warm safety blanket of cash that millions of Americans have clutched on to during the 2008-09 financial crisis; the 2010 “Flash Crash”; and the 2011 U.S. credit downgrade felt cozy during the bumpy ride we experienced over the last three years. Now with domestic stocks (S&P 500) up +12% in the first quarter of 2012, that same comfy blanket of CDs, money market, and checking accounts is switching into a painful tourniquet, cutting off the lucrative blood and oxygen supply to millions of Americans’ future retirement plans.
Earning next to nothing by stuffing your money under the mattress (0.7% average CD rate – Bankrate.com) isn’t going to make many financial dreams a reality. The truth of the matter is that due to inflation (running +2% to +3% per year), blanket holders are losing about -2% per year in the true value of their savings.
Your Choice: 3 Years or 107 years?
If you like to accumulate money, would you prefer doubling your money in 3 years or 107 years? Although the S&P 500 has more than doubled over the last three years, based on fund flows data and cash balances at the banks, apparently more individuals prefer waiting until the year 2119 (107 years from now) for their money to double – SEE CHART BELOW.
Obviously the massive underperformance of CDs cherry picks the time-period a bit, given the superb performance of stocks from 2009 – 2012 year-to-date. Over 1999-2012 stock performance hasn’t been as spectacular, but what we do know is that despite the lackluster performance of stocks over the last 12 years, corporate profits have about doubled in a similar timeframe, making equity prices that much more attractive relative to 1999.
With the economy and employment picture improving, some doomsday scenarios have temporarily been put on the backburner. As the recovery has gained some steam, many people are opening their bank statements with the painful realization, “I just made $31.49 on my checking maximizer account last year! Wow, how incredible…I can now go out and buy a half-tank of gas.” Never mind that healthcare premiums are exploding, food costs are skyrocketing, and that vacation you were planning is now out of reach. If you’re a mega-millionaire, perhaps you can make these stingy rates work for you, but for most of the other people, successful retirements will require more efficient use of their investment dollars. Or of course you can always work at Wal-Mart (WMT) as a greeter in your 80s.
Rationalizing with a Teen
Some people get it and some don’t. Trying to time the market, by getting in and out at the right times is a losing battle (see Getting Off the Market Timing Treadmill). Even the smartest professionals in the industry have little accuracy and cannot consistently predict the direction of the markets. Rationalizing the ups and downs of the financial markets is equivalent to rationalizing the actions of a teenager. Sometimes the outcomes are explainable, but most of the times they are not.
What an astute investor does know is that higher long-term returns come with higher volatility. So while the last four years have been a bumpy ride for investors, this is nothing new for an experienced investor who has studied the history of financial markets. There have been a dozen or so recessions since World War II, and we’ll have a dozen or so more over the next 50-60 years. Wars, banking crises, currency crises, and political turmoil have been a constant over history. Despite all these setbacks, the equity markets have climbed over +1,300% over the last 30 years or so. The smartest financial minds on the planet (e.g., the Ben Bernankes and Alan Greenspans of the world) haven’t been able to figure it out, so if they couldn’t do it, how is an average Joe supposed to be able to time the market? The answer is nobody can predict the direction of the market reliably.
As my clients and Investing Caffeine followers know, for those individuals with adequate savings and shorter time horizons, much of this conversation is irrelevant. However, based on our country’s low savings rate and the demographics of longer Baby Boomer life expectancies, most individuals can’t afford to stuff all their money under the mattress. As famous investor Sir John Templeton stated, “The only way to avoid mistakes is not to invest – which is the biggest mistake of all.” Earning 0.7% on your nest egg is difficult to call investing.
Ignoring the Experts
Why is the investing game so difficult? For starters, individuals are constantly bombarded by so-called experts through television, radio, and newspapers. Not only did Federal Reserve Chairmen Alan Greenspan and Ben Bernanke get the economy, financial markets, and housing markets wrong, the most powerful and smart financial institution CEOs were dead wrong as well. Look no further than Lehman Brothers (Dick Fuld), Citigroup Inc. (Chuck Prince), and American International Group (Martin Sullivan), which were believed to house some of the shrewdest executives – they too completely missed the financial crisis.
Rather than listening to shoddy predictions from pundits who have little to no investing experience, it makes more sense to listen to successful long-term investors who have survived multiple investment cycles and lived to tell the tale. Those people include the great fund manager Peter Lynch who said it is better to “assume the market is going nowhere and invest accordingly,” rather than try to time the market.
What You Hear
As the market has more than doubled over the last 37 months, here are some clouds of pessimism that these same shoddy economists, strategists, and analysts have described for investors:
* Europe and Greece’s impending fiscal domino collapse
* Excessive money printing at the Federal Reserve through quantitative easing and other programs
* Imminent government disintegration due to unresolved structural debts and deficits
* Elevated unemployment rates and pathetic job creation statistics
* Rigged high frequency trading and “Flash Crash”
* Credit downgrade and political turmoil in Washington
* Looming Chinese real estate bubble and subsequent hard economic landing
Unfortunately, many investors got sucked up in these ominous warnings and missed most, if not all, of the recent doubling in equity markets.
What You Don’t Hear
What you haven’t heard from the popular press are the following headlines:
* 10 consecutive quarters of GDP growth
* Record corporate profits and profit margins
* Equity valuations attractively priced below 50-year average (14.4 < 16.6 via Calafia Beach Pundit)
* Rising dividends with yields approaching 3%, if you consider recent bank announcements
* Record low interest rates and moderate inflation make earnings streams and dividends that much more valuable
* Four million new jobs created over the last three years
* S&P Smallcap near all-time highs (21 years); S&P Midcap index near all-time highs (20 years); NASDAQ is at 11-year highs; Dow Jones Industrials and S&P 500 near 4-year-highs.
* Record retail sales with a consumer that has reduced household debt
Source: Calafia Beach Pundit
Given the massive upward run in the stock market over the last few years (and a complacent short-term VIX reading of 15), stocks are ripe for a breather. With that said, I would advise any blanket holders to not get too comfy with that money decaying away in a CD, money market, or savings account. Waiting too long may turn that security blanket into a tourniquet – forcing investors to amputate a portion of their future retirement savings.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds and WMT, but at the time of publishing SCM had no direct position in C, AIG, RATE, Lehman Brothers, 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.
Sweating Your Way to Investment Success
Source: StopSweatyArmpits.com
There are many ways to make money in the financial markets, but if this was such an easy endeavor, then everybody would be trading while drinking umbrella drinks on their private islands. I mean with all the bright blinking lights, talking baby day traders, and software bells and whistles, how difficult could it actually be?
Unfortunately, financial markets have a way of driving grown men (and women) to tears, usually when confidence is at or near a peak. The best investors leave their emotions at the door and follow a systematic disciplined process. Investing can be a meat grinder, but the good news is one does not need to have a 90% success rate to make it lucrative. Take it from Peter Lynch, who averaged a +29% return per year while managing the Magellan Fund at Fidelity Investments from 1977-1990. “If you’re terrific in this business you’re right six times out of 10,” says Lynch.
Sweating Way to Success
If investing is so tough, then what is the recipe for investment success? As the saying goes, money management requires 10% inspiration and 90% perspiration. Or as strategist and long-time investor Don Hays notes, “You are only right on your stock purchases and sales when you are sweating.” Buying what’s working and selling what’s not, doesn’t require a lot of thinking or sweating (see Riding the Wave), just basic pattern recognition. Universally loved stocks may enjoy the inertia of upward momentum, but when the music stops for the Wall Street darlings, investors rarely can hit the escape button fast enough. Cutting corners and taking short-cuts may work in the short-run, but usually ends badly.
Real profits are made through unique insights that have not been fully discovered by market participants, or in other words, distancing oneself from the herd. Typically this means investing in reasonably priced companies with significant growth prospects, or cheap out-of-favor investments. Like dieting, this is easy to understand, but difficult to execute. Pulling the trigger on unanimously hated investments or purchasing seemingly expensive growth stocks requires a lot of blood, sweat, and tears. Eating doughnuts won’t generate the conviction necessary to justify the valuation and excess expected return for analyzed securities.
Times Have Changed
Investing in stocks is difficult enough with equity fund flows hemorrhaging out of investor accounts like the asset class is going out of style (See ICI data via The Reformed Broker). Stocks’ popularity haven’t been helped by the heightened volatility, as evidenced by the multi-year trend in the schizophrenic volatility index (VIX) – escalated by the “Flash Crash,” U.S. debt ceiling debate, and European financial crisis. Globalization, which has been accelerated by technology, has only increased correlations between domestic market and international markets. As we have recently experienced, the European tail can wag the U.S. dog for long periods of time. In decades past, concerns over economic activity in Iceland, Dubai, and Greece may not even make the back pages of The Wall Street Journal. Today, news travels at the speed of a “Tweet” for every Angela Merkel – Nicolas Sarkozy breakfast meeting or Chinese currency adjustment, and eventually results in a sprawling front page headline.
The equity investing game may be more difficult today, but investing for retirement has never been more important. Stuffing money under the mattress in Treasuries, money market accounts, CDs, or other conservative investments may feel good in the short run, but will likely not cover inflation associated with rising fuel, food, healthcare, and leisure costs. Regardless of your investment strategy, if your goal is to earn excess returns, you may want to check the moistness of your armpits – successful long-term investing requires a lot of sweat.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds, but at the time of publishing SCM had no direct position in ETFC, VXX, 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.
Sleeping like a Baby with Your Investment Dollars
Amidst the recent, historically high volatility in the financial markets, there have been a large percentage of investors who have been sleeping like a baby – a baby that stays up all night crying! For some, the dream-like doubling of equity returns achieved from the first half of 2009 through the first half of 2011 quickly turned into a nightmare over the last few weeks. We live in an inter-connected, globalized world where news travels instantaneously and fear spreads like a damn-bursting flood. Despite the positive returns earned in recent years, the wounds of 2008-2009 (and 2000 to a lesser extent) remain fresh in investors’ minds. Now, the hundred year flood is expected every minute. Every European debt negotiation, S&P downgrade, or word floating from Federal Reserve Chairman Ben Bernanke’s lips, is expected to trigger the next Lehman Brothers-esque event that will topple the global economy like a chain of dominoes.
Volatility Victims
The few hours of trading that followed the release of the Federal Reserve’s August policy statement is living proof of investors’ edginess. After initially falling approximately -400 points in a 30 minute period late in the day, the Dow Jones Industrial Average then climbed over +600 points in the final hour of trading, before experiencing another -400 point drop in the first hour of trading the next day. Many of the day traders and speculators playing with the explosively leveraged exchange traded funds (e.g., TNA, TZA, FAS, FAZ), suffered the consequences related to the panic selling and buying that comes with a VIX (Volatility Index) that climbed about +175% in 17 days. A VIX reading of 44 or higher has only been reached nine times in the last 25 years (source: Don Hays), and is normally associated with significant bounce-backs from these extreme levels of pessimism. Worth noting is the fact that the 2008-2009 period significantly deteriorated more before improving to a more normalized level.
Keys to a Good Night’s Sleep
The nature of the latest debt ceiling negotiations and associated Standard & Poor’s downgrade of the United States hurt investor psyches and did little to boost confidence in an already tepid economic recovery. Investors may have had some difficulty catching some shut-eye during the recent market turmoil, but here are some tips on how to sleep comfortably.
• Panic is Not a Strategy: Panic selling (and buying) is not a sustainable strategy, yet we saw both strategies in full force last week. Emotional decisions are never the right ones, because if they were, investing would be quite easy and everyone would live on their own personal island. Rather than panic-sell, investments should be looked at like goods in a grocery store – successful long-term investors train themselves to understand it is better to buy goods when they are on sale. As famed growth investor Peter Lynch said, “I’m always more depressed by an overpriced market in which many stocks are hitting new highs every day than by a beaten-down market in a recession.”
• Long-Term is Right-Term: Everybody would like to retire at a young age, and once retired, live like royalty. Admirable goals, but both require bookoo bucks. Unless you plan on inheriting a bunch of money, or working until you reach the grave, it behooves investors to pull that money out from under the mattress and invest it wisely. Let’s face it, entitlements are going to be reduced in the future, just as inflation for food, energy, medical, leisure and other critical expenses continue eroding the value of your savings. One reason active traders justify their knee-jerk actions and derogatory description of long-term investors is based on the stagnant performance of U.S. equity markets over the last decade. Nonetheless, the vast number of these speculators fail to recognize a more than tripling in average values in markets like Brazil, India, China, and Russia over similar timeframes. Investing is a global game. If you do not have a disciplined, systematic long-term investment strategy in place, you better pray you don’t lose your job before age 70 and be prepared to eat Mac & Cheese while working as a Wal-Mart (WMT) greeter in your 80s.
• Diversification: Speaking of sleep, the boring topic of diversification often puts investors to sleep, but in periods like these, the power of diversification becomes more evident than ever. Cash, metals, and certain fixed income instruments were among the investments that cushioned the investment blow during the 2008-2009 time period. Maintaining a balanced diversified portfolio across asset classes, styles, size, and geographies is crucial for investment survival. Rebalancing your portfolio periodically will ensure this goal is achieved without taking disproportionate sized risks.
• Tailored Plan Matching Risk Tolerance: An 85 year-old wouldn’t go mountain biking on a tricycle, and a 10 year-old shouldn’t drive a bus to his fifth grade class. Sadly, in volatile times like these, many investors figure out they have an investment portfolio mismatched with their goals and risk tolerance. The average investor loves to take risk in up-markets and shed risk in down-markets (risk in this case defined as equity exposure). Regrettably, this strategy is designed exactly backwards for long-term investors. Historically, actual risk, the probability of permanent losses, is much lower during downturns; however, the perceived risk by average investors is viewed much worse. Indeed, recessions have been the absolute best times to purchase risky assets, given our 11-for-11 successful track record of escaping post World War II downturns. Could this slowdown or downturn last longer than expected and lead to more losses? Absolutely, but if you are planning for 10, 20, or 30 years, in many cases that issue is completely irrelevant – especially if you are still adding funds to your investment portfolio (i.e., dollar-cost averaging). On the flip side, if an investor is retired and entirely dependent upon an investment portfolio for income, then much less attention should be placed on risky assets like equities.
If you are having trouble sleeping, then one of two things is wrong: 1.) You are taking on too much risk and should cut your equity exposure; and/or 2.) You do not understand the risk you are taking. Volatile times like these are great for reevaluating your situation to make sure you are properly positioned to meet your financial goals. Talking heads on TV will tell you this time is different, but the truth is we have been through worse times (see History Never Repeats, but Rhymes), and lived to tell the tale. All this volatility and gloom may create anxiety and cause insomnia, but if you want to quietly sleep through the noise like a content baby, make yourself a long-term financial bed that you can comfortably sleep in during good times and bad. Focusing on the despondent headline of the day, and building a portfolio lacking diversification will only lead to panic selling/buying and results that would keep a baby up all night crying.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients own certain exchange traded funds (including emerging market ETFs) and WMT, but at the time of publishing SCM had no direct position in TNA, TZA, FAS, FAZ, 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.
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