Posts tagged ‘taxes’

Super Bowl Blitz – Dow 20,000

team

This article is an excerpt from a previously released Sidoxia Capital Management complimentary newsletter (February 3, 2017). Subscribe on the right side of the page for the complete text.

If you have been following the sports headlines, then you know the Super Bowl 51 NFL football championship game between the four-time champion New England Patriots and the zero-time champion Atlanta Falcons is upon us. It’s that time of the year when more than 100 million people will congregate in front of big screen TVs across our nation and stare at ludicrous commercials (costing $5 million each); watch a semi-entertaining halftime show; and gorge on thousands of calories until stomachs bloat painfully.

The other headlines blasting across the media airwaves relate to the new all-time record milestone of 20,000 achieved by the Dow Jones Industrials Average (a.k.a., “The Dow”). For those people who are not glued to CNBC business television all day, the Dow is a basket of 30 large company stocks subjectively selected by the editors of the Wall Street Journal with the intent of creating an index that can mimic the overall economy. A lot of dynamics in our economy have transformed over the Dow’s 132 year history (1885), so it should come as no surprise that the index’s stock components have changed 51 times since 1896 – the most recent change occurred in March 2015 when Apple Inc. (AAPL) was added to the Dow and AT&T Inc. (T) was dropped.

20,000 Big Deal?

The last time the Dow closed above 10,000 was on March 29, 1999, so it has taken almost 18 years to double to 20,000. Is the Dow reaching the 20,000 landmark level a big deal in the whole scheme of things? The short answer is “No”. It is true the Dow can act as a fairly good barometer of the economy over longer periods of time. Over the 1998 – 2017 timeframe, economic activity has almost doubled to about $18 trillion (as measured by Gross Domestic Product – GDP) with the added help of a declining interest rate tailwind.

In the short-run, stock indexes like the Dow have a spottier record in correlating with economic variables. At the root of short-term stock price distortions are human behavioral biases and emotions, such as fear and greed. Investor panic and euphoria ultimately have a way of causing wild stock price overreactions, which in turn leads to poor decisions and results. We saw this firsthand during the inflation and subsequent bursting of the 2000 technology bubble. If that volatility wasn’t painful enough, last decade’s housing collapse, which resulted in the 2008-2009 financial crisis, is a constant reminder of how extreme emotions can lead to poor decision-making. For professionals, short-term volatility and overreactions provide lucrative opportunities, but casual investors and novices left to their own devices generally destroy wealth.

As I have discussed on my Investing Caffeine blog on numerous occasions, the march towards 20,000 occurred in the middle of arguably the most hated bull market in a generation or two (see The Most Hated Bull Market). It wasn’t until recently that the media began fixating on this arbitrary new all-time record high of 20,000. My frustration with the coverage is that the impressive phenomenon of this multi-year bull market advance has been largely ignored, in favor of gloom and doom, which sells more advertising – Madison Avenue execs enthusiastically say, “Thank you.” While the media hypes these stock records as new, this phenomenon is actually old news. In fact, stocks have been hitting new highs over the last five years (see chart below).

dji-07-17

More specifically, the Dow has hit consecutive, new all-time record highs in each year since 2013. This ignored bull market (see Gallup survey) may not be good for the investment industry, but it can be good for shrewd long-term investors, who react patiently and opportunistically.

Political Football

In Washington, there’s a different game currently going on, and it’s a game of political football. With a hotly contentious 2016 election still fresh in the minds of many voters, a subset of unsatisfied Americans are closely scrutinizing every move of the new administration. Love him or hate him, it is difficult for observers to accuse President Trump of sitting on his hands. In the first 11 days of his presidential term alone, Trump has been very active in enacting almost 20 Executive Orders and Memoranda (see the definitional difference here), as he tries to make supporters whole with his many previous campaign trail promises. The persistently increasing number of policies is rising by the day (…and tweet), and here’s a summarizing list of Trump’s executive actions so far:

  • Refugee Travel Ban
  • Keystone & Dakota Pipelines
  • Border Wall
  • Deportations/Sanctuary Cities
  • Manufacturing Regulation Relief
  • American Steel
  • Environmental Reviews
  • Affordable Care Act Requirements
  • Border Wall
  • Exit TPP Trade Deal
  • Federal Hiring Freeze
  • Federal Abortion Freeze
  • Regulation Freeze
  • Military Review
  • ISIS Fight Plan
  • Reorganization of Security Councils
  • Lobbyist Bans
  • Deregulation for Small Businesses

President Trump has thrown another political football bomb with his recent nomination of Judge Neil Gorsuch (age 49) to the Supreme Court in the hopes that no penalty flags will be thrown by the opposition. Gorsuch, the youngest nominee in 25 years, is a conservative federal appeals judge from Colorado who is looking to fill the seat left open by last year’s death of Justice Antonin Scalia at the age 79.

Politics – Schmolitics

When it comes to the stock market and the economy, many people like to make the president the hero or the scapegoat. Like a quarterback on the football field, the president certainly has influence in shaping the political and economic game plan, but he is not the only player. There is an infinite number of other factors that can (and do) contribute to our country’s success (or lack thereof).

Those economic game-changing factors include, but are not limited to: Congress, the Federal Reserve, Supreme Court, consumer sentiment, trade policy, demographics, regulations, tax policy, business confidence, interest rates, technology proliferation, inflation, capital investment, geopolitics, terrorism, environmental disruptions, immigration, rate of productivity, fiscal policy, foreign relations, sanctions, entitlements, debt levels, bank lending, mergers and acquisitions, labor rules, IPOs (Initial Public Offerings), stock buybacks, foreign exchange rates, local/state/national elections, and many, many, many other factors.

Regardless to which political team you affiliate, if you periodically flip through your social media stream (e.g., Facebook), or turn on the nightly news, you too have likely suffered some sort of political fatigue injury. As Winston Churchill famously stated, “Democracy is the worst form of government except for all the other forms that have been tried from time to time.”

When it comes to your finances, getting excited over Dow 20,000 or despondent over politics is not a useful or efficient strategy. Rather than becoming emotionally volatile, you will be better off by focusing on building (or executing) your long-term investment plan. Not much can be accomplished by yelling at a political charged Facebook rant or screaming at your TV during a football game, so why not calmly concentrate on ways to control your future (financial or otherwise). Actions, not fear, get results. Therefore, if this Super Bowl Sunday you’re not ready to review your asset allocation, budget your annual expenses, or contemplate your investment time horizon, then at least take control of your future by managing some nacho cheese dip and handling plenty of fried chicken.

investment-questions-border

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

www.Sidoxia.com

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in AAPL, T, FB and certain exchange traded funds (ETFs), but at the time of publishing 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.

February 4, 2017 at 8:02 am Leave a comment

Searching for the Growth Stock Holy Grail

Source: Photobucket

Remember Research in Motion (now Blackberry Limited – BBRY)? What about Krispy Kreme Doughnuts? How about Crocs (CROX)? Or maybe even Webvan, the online grocery delivery company that went bankrupt during the bursting of the dot-com bubble? These are all examples of once heralded growth companies that lost their mojo along their growth expansion ways.

Not every stock can grow to the $80+ billion market cap stratosphere like Apple Inc. (AAPL), Starbucks Corp. (SBUX), and Wal-Mart Stores (WMT), so finding companies with the right mixture of growth characteristics can be challenging. Objective stock market observers can disagree on the ingredients of a successful growth stock recipe, but generally speaking, the real explosive appreciation in stock prices come from those companies that can compound earnings growth over longer periods of time.

But how can one discover the Holy Grail of compounding earnings? At Sidoxia Capital Management, there are a handful of key factors we look for in successful growth companies. In the hyper-competitive global marketplace, these are crucial questions we want adequately answered before we invest our clients’ money:

  • Does the company sell a product or service that cuts costs?
  • Does the company offer a product or service with unique entertainment value?
  • Does the company offer a superior product or service compared to its competitors?

Even if a target investment can affirmatively answer two or three of these questions, often the most important question is the following:

  • Does the company have a sustainable competitive advantage in providing a product or service?

If the company does not have some type of durable competitive advantage, then some other company can just copy the product or service, and sell it at a lower price. This sadly leads to margin and P/E (Price-Earnings) multiple compression – both negative outcomes.

The aforementioned factors are not the end-all, be-all for successful growth stocks, but rather the minimum price of admission. Even if the previous criteria boxes are sufficiently checked off, the company being researched must still be fairly or attractively priced. For example, it doesn’t take a genius to figure out Apple is a successful company with unique advantages. More specifically, the company has $240 billion in cash, $50 billion in profits, and $215 billion in revenue. The real question becomes, is the stock fairly or attractively priced?

Although Apple appears attractively valued at current prices, in many other instances that is not the case. Often, great companies have been discovered by a large swath of investors, and therefore trade at significant premiums, which increases the risk profile or reduces the upside potential of the investment.

Sucking the Last Puff

If a company’s product or service isn’t superior, cut costs, or entertain at a reasonable/attractive valuation, then investing is like taking the last puff or drag out of a cigarette butt. Some value investors are good at this craft, but often these managers get caught into so-called “value traps” – ask Bill Ackman about Valeant Pharmaceuticals (VRX). Many value investors thought they found a bargain when they bought Valeant shares after it fell -80% in price. The stock subsequently has fallen another -50%…ouch!.

It’s worth noting that growth can come from many different areas. Even mature industries can produce periods of cyclical growth, however identifying cyclical winners is challenging. The art for the investment manager is determining whether growth in a target investment is sustainable. In many instances, companies temporarily benefit from a rising tide that lifts all boats, before the tide goes out and sinks fundamentals down to lower levels.

Growth investing can be a dangerous hobby for short-term traders because the price volatility stemming from ever-changing earnings growth expectations creates excessive trading, taxes, and transaction costs. However, for long-term investors, the great growth manager, T. Rowe Price, summed it up best here:

“The growth stock theory of investing requires patience, but is less stressful than trading, generally has less risk, and reduces brokerage commissions and income taxes.”

 

Growth investing is both a science and an art, but does not require a degree in rocket science. If you can focus on the important growth criteria, and combine it with a long-term disciplined valuation process, you will be well on your way to discovering the growth stock Holy Grail.

Investment Questions Border

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

www.Sidoxia.com

DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in AAPL and certain exchange traded funds (ETFs), but at the time of publishing had no direct position in VRX, BBRY, SBUX, WMT, CROX, Krispy Kreme, Webvan, 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.

December 24, 2016 at 11:20 am 1 comment

EBITDA: Sniffing Out the Truth

Sharp eyed soft nosed cow, with shallow dof

Financial analysts are constantly seeking the Holy Grail when it comes to financial metrics, and to some financial number crunchers, EBITDA (Earnings Before Interest Taxes Depreciation and Amortization – pronounced “eebit-dah”) fits the bill. On the flip side, Warren Buffett’s right hand man Charlie Munger advises investors to replace EBITDA with the words “bullsh*t earnings” every time you encounter this earnings metric. We’ll explore the good, bad, and ugly attributes of this somewhat controversial financial metric.

The Genesis of EBITDA

The origin of the EBITDA measure can be traced back many years, and rose in popularity during the technology boom of the 1990s. “New Economy” companies were producing very little income, so investment bankers became creative in how they defined profits. Under the guise of comparability, a company with debt (Company X) that was paying high interest expenses could not be compared on an operational profit basis with a closely related company that operated with NO debt (Company Z). In other words, two identical companies could be selling the same number of widgets at the same prices and have the same cost structure and operating income, but the company with debt on their balance sheet would have a different (lower) net income. The investment banker and company X’s answer to this apparent conundrum was to simply compare the operating earnings or EBIT (Earnings Before Interest and Taxes) of each company (X and Z), rather than the disparate net incomes.

The Advantages of EBITDA

Although there is no silver bullet metric in financial statement analysis, nevertheless there are numerous benefits to using EBITDA. Here are a few:

  • Operational Comparability:  As implied above, EBITDA allows comparability across a wide swath of companies. Accounting standards provide leniency in the application of financial statements, therefore using EBITDA allows apples-to-apples comparisons and relieves accounting discrepancies on items such as depreciation, tax rates, and financing choice.
  • Cash Flow Proxy:Since the income statement traditionally is the financial statement of choice, EBITDA can be easily derived from this statement and provides a simple proxy for cash generation in the absence of other data.
  • Debt Coverage Ratios:In many lender contracts, certain debt provisions require specific levels of income cushion above the required interest expense payments. Evaluating EBITDA coverage ratios across companies assists analysts in determining which businesses are more likely to default on their debt obligations.

The Disadvantages of EBITDA

While EBITDA offers some benefits in comparing a broader set of companies across industries, the metric also carries some drawbacks.

  • Overstates Income:  To Charlie Munger’s point about the B.S. factor, EBITDA distorts reality by measuring income before a bunch of expenses. From an equity holder’s standpoint, in most instances, investors are most concerned about the level of income and cash flow available AFTERaccounting for all expenses, including interest expense, depreciation expense, and income tax expense.
  • Neglects Working Capital Requirements: EBITDA may actually be a decent proxy for cash flows for many companies, however this profit measure does not account for the working capital needs of a business. For example, companies reporting high EBITDA figures may actually have dramatically lower cash flows once working capital requirements (i.e., inventories, receivables, payables) are tabulated.
  • Poor for ValuationInvestment bankers push for more generous EBITDA valuation multiples because it serves the bankers’ and clients’ best interests. However, the fact of the matter is that companies with debt or aggressive depreciation schedules do deserve lower valuations compared to debt-free counterparts (assuming all else equal).

Wading through the treacherous waters of accounting metrics can be a dangerous game. Despite some of EBITDA’s comparability benefits, and as much as bankers and analysts would like to use this very forgiving income metric, beware of EBITDA’s shortcomings. Although most analysts are looking for the one-size-fits-all number, the reality of the situation is a variety of methods need to be used to gain a more accurate financial picture of a company. If EBITDA is the only calculation driving your analysis, I urge you to follow Charlie Munger’s advice and plug your nose.

investment-questions-border

Wade W. Slome, CFA, CFP®

www.Sidoxia.com

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 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.

 

September 17, 2016 at 11:44 pm 4 comments

Speculative Animal (Hamster) Spirits on the Rise

Hamster Wheel

“Winning is a habit. Unfortunately, so is losing.”

– Vince Lombardi

And one thing is for sure…day traders have a habit of losing. Like a hamster on a spinning wheel, day traders use a lot of energy in creating loads of activity, but end up getting nowhere in the process. This subject is important because the animal (hamster) spirits are on the rise as evidenced by the 22% and 17% increase in average client trades per day reported last month by TD Ameritrade (TD) and Charles Schwab (SCHW), respectively.

The statistics speak for themselves, and the numbers are not pretty. An often cited study by Terrence Odeon (U.C. Berkely) and Brad Barber (U.C. Davis) showed that 80% of active traders lose money. The duo came to this conclusion over six years of research by studying 66,465 accounts. More importantly, they “found that if you were to look at the past performance of these traders, only 1 percent of them could be called predictably profitable.” Uggh!

How can this horrendous performance be? Especially when we are continually bombarded with the endless commercials of talking babies and perpetual software bells & whistles that shamelessly promote and pledge a simple path to prosperity. The answer to why active trading fails for the overwhelming masses is the following:

  • Taxes/Capital Gains
  • Transactions costs/commissions
  • Research costs/software
  • Lack of institutional advantages (speed, beneficial rates, I.T./automation, execution, etc.)
  • Impact costs (buying handicaps returns by pushing purchase prices higher, and selling handicaps returns by pushing sale prices lower)
  • Absence from participation in long-term upward drift in equity prices

After considering the horrible odds stacked against the active trader, the atrocious results are not surprising.

The Blemished Investing Brain

So far, we’ve discussed the mechanics behind the money-losing results of active trading, but the underlying reasons can be further explained by the three-pound, 100,000,000,000 amalgamation of cells located between our ears. Evolution has formed our brains to seek pleasure and avoid pain, and trading stocks can create a rush like no other activity. Similar to the orgasmic emotions triggered by making a quick buck at the blackjack table in Las Vegas or scratching off a winning number on a lottery ticket, buying and selling stocks creates comparable effects.

Through the use of high-powered, multi-million imaging technology (i.e., functional-MRI), Brian Knutson, a professor of neuroscience and psychology at Stanford University discovered that active trading for money impacts the brain in a similar fashion as do sex and drugs. The data is pretty compelling because you can see the pleasure center images of the brain light up dynamically in real time.

To put the results of his human trading experiments in context, Knutson noted:

“We very quickly found out that nothing had an effect on people like money — not naked bodies, not corpses. It got people riled up. Like food provides motivation for dogs, money provides it for people.”

Brokerage firms and casinos have figured out the greed-seeking weakness in human brains and exploited this vulnerability to the maximum. By rigging the system in their favor, mega-billion dollar financial institutions and gaming empires continue to sprawl around the globe.

The emotional high experienced by day traders is one explanation for the excessive trading, but there is another contributing factor. The inherent human cognitive bias that behavioral finance academics call overconfidence (or illusory superiority) helps fuel the destructive behavior. Surveys that ask people if they are above-average drivers highlight the overconfidence phenomenon by showing the mathematical impossibility of having 93% of a population as above-average drivers. Similarly, a study of Stanford MBA students showed 87% of the respondents rating their academic performance above median.

Even, arguably the greatest trader of all-time, Jesse Livermore realized the negative impacts of emotions and active trading when he said, “It was never my thinking that made big money for me. It always was my sitting.” As I’ve written in the past, active trading is hazardous to your long-term wealth. Rather than succumbing to the endless pitfalls of day trading and getting nowhere like a hamster on a spinning wheel, it’s better to use a long-term, objective and unemotional investing process to achieve investment success.

See also: Brain Scans Show Link Between Lust for Sex and Money

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 discretionary position in TD, SCHW, 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.

March 8, 2014 at 1:28 pm Leave a comment

Bernanke: Santa Claus or Grinch?

Santa - Grinch

I’ve written plenty about my thoughts on the Fed (see Fed Fatigue) and all the blathering from the media talking heads. Debates about the timing and probability of a Fed “taper” decision came to a crescendo in the recent week. As is often the case, the exact opposite of what the pundits expected actually happened. It was not a huge surprise the Federal Reserve initiated a $10 billion tapering of its $85 billion monthly bond buying program, but going into this week’s announcement, the betting money was putting their dollars on the status quo.

With the holiday season upon us, investors must determine whether the tapered QE1/QE2/QE3 gifts delivered by Bernanke are a cause for concern. So the key question is, will this Santa Claus rally prance into 2014, or will the Grinch use the taper as an excuse to steal this multi-year bull market gift away?

Regardless of your viewpoint, what we did learn from this week’s Fed announcement is that this initial move by the Fed will be a baby step, reducing mortgage-backed and Treasury security purchases by a measly $5 billion each. I say that tongue in cheek because the total global bond market has been estimated at about $80,000,000,000,000 (that’s $80 trillion).

As I’ve pointed out in the past, the Fed gets way too much credit (blame) for their impact on interest rates (see Interest Rates: Perception vs Reality). Interest rates even before this announcement were as high/higher than when QE1 was instituted. What’s more, if the Fed has such artificial influence over interest rates, then why do Austria, Belgium, Canada, Denmark, Finland, France, Germany, Japan, Netherlands, Sweden, and Switzerland all have lower 10-year yields than the U.S.? Maybe their central banks are just more powerful than our Fed? Unlikely.

Dow 128,000 in 2053

Readers of Investing Caffeine know I have followed the lead of investing greats like Warren Buffett and Peter Lynch, who believe trying to time the markets is a waste of your time. In a recent Lynch interview, earlier this month, Charlie Rose asked for Lynch’s opinion regarding the stock market, given the current record high levels. Here’s what he had to say:

“I think the market is fairly priced on what is happening right now. You have to say to yourself, is five years from now, 10 years from now, corporate profits are growing about 7 or 8% a year. That means they double, including dividends, about every 10 years, quadruple every 20, go up 8-fold every 40. That’s the kind of numbers you are interested in. The 10-year bond today is a little over 2%. So I think the stock market is the best place to be for the next 10, 20, 30 years. The next two years? No idea. I’ve never known what the next two years are going to bring.”

READ MORE ABOUT PETER LYNCH HERE

Guessing is Fun but Fruitless

I freely admit it. I’m a stock-a-holic and member of S.A. (Stock-a-holic’s Anonymous). I enjoy debating the future direction of the economy and financial markets, not only because it is fun, but also because without these topics my blog would likely go extinct. The reality of the situation is that my hobby of thinking and writing about the financial markets has no direct impact on my investment decisions for me or my clients.

There is no question that stocks go down during recessions, and an average investor will likely live through at least another half-dozen recessions in their lifetime. Unfortunately, speculators have learned firsthand about the dangers of trading based on economic and/or political headlines during volatile cycles. That doesn’t mean everyone should buy and do nothing. If done properly, it can be quite advantageous to periodically rebalance your portfolio through the use of various valuation and macro metrics as a means to objectively protect/enhance your portfolio’s performance. For example, cutting exposure to cyclical and debt-laden companies going into an economic downturn is probably wise. Reducing long-term Treasury positions during a period of near-record low interest rates (see Confessions of a Bond Hater) as the economy strengthens is also likely a shrewd move.

As we have seen over the last five years, the net result of investor portfolio shuffling has been a lot of pain. The acts of panic-selling caused damaging losses for numerous reasons, including a combination of agonizing transactions costs; increased inflation-decaying cash positions; burdensome taxes; and a mass migration into low-yielding bonds. After major indexes have virtually tripled from the 2009 lows, many investors are now left with the gut-wrenching decision of whether to get back into stocks as the markets reach new highs.

As the bulls continue to point to the scores of gifts still lying under the Christmas tree, the bears are left hoping that new Fed Grinch Yellen will come and steal all the presents, trees, and food from the planned 2014 economic feast. There are still six trading days left in the year, so Santa Bernanke cannot finish wrapping up his +30% S&P 500 total return gift quite yet. Nevertheless, ever since the initial taper announcement, stocks have moved higher and Bernanke has equity investors singing “Joy to the World!

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.

December 22, 2013 at 1:45 am Leave a comment

Who Said Gridlock is Bad?

??????????

Living in Southern California is extraordinary, but just like anything else, there are always tradeoffs, including traffic. Living in the United States is extraordinary too, but one of the detrimental tradeoffs is political gridlock…or is it? I am just as frustrated as anybody else that the knucklehead politicians in Washington can’t get their act together (especially on bipartisan issues such as taxes/immigration/deficits, etc.), but as it turns out, gridlock has created a significant financial silver lining.

Let’s take a look at some of the positive impacts of gridlock:

1)  Federal Spending as % of GDP Declines

Source: Calafia Beach Pundit

Source: Calafia Beach Pundit

The demands of both Tax-and-Spend Democrats and Tea-Partier Republicans fell on deaf ears thanks to gridlock. The U.S. didn’t institute the depth of austerity that the far-right wanted, and Congress didn’t implement the additional fiscal stimulus the far-left desired. The result has been a slow but steady recovery, which has brought spending closer to historical averages.

2)  Private vs. Public Sector

Source: Calafia Beach Pundit

Source: Calafia Beach Pundit

The implementation of more responsible (or less irresponsible) government spending has freed up resources and allowed the private sector to slowly add jobs. The next wave of sequestration spending cuts may unleash some more pain on the public sector and delay overall economic recovery further, but just like dieting, we will feel much better once we have shed more debt and spending – at least as a percentage of GDP.

3)  Deficit Reduced Significantly

Source: Calafia Beach Pundit

Source: Calafia Beach Pundit

The chart above is closely tied to point #1 (government spending), but as you can see, revenues have climbed significantly since 2010. I would argue plain economic cyclicality has more impact on the volatility of revenues. Blaming the current administration on the collapse or crediting them for the rebound is probably overstated. Comprehensive tax reform would likely have a lot more impact on the slope of revenues relative to the recent tax policy changes.

Source: Calafia Beach Pundit

Source: Calafia Beach Pundit

The same picture can be seen from a different angle, as shown above (Deficit as % of GDP). While the absolute dollar amounts are staggeringly high, as a percentage of GDP, the percentage has been chopped by more than half since the peak of the crisis.

Everyone would like to see politicians solve all of our problems, but as we have experienced, deep philosophical differences can lead to political gridlock. When it comes to our nation’s finances, gridlock may not be optimal, but you can also see that a stalemate is not always the worst outcome either. As politicians continue to scream at each other with purple faces, I will monitor the developments from my car radio while in California gridlocked traffic…sunroof open of course. 

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.

August 10, 2013 at 10:00 am Leave a comment

Damned if You Do, and More Damned if You Don’t

Source: Photobucket

Source: Photobucket

In the stock market you are damned if you do, and more damned if you don’t.

There are a million reasons why the market should or can go down, and the press, media, and bears come out with creative explanations every day. The “Flash Crash,” debt ceiling debate, credit downgrades, elections, and fiscal cliff were all credible events supposed to permanently crater the market. Now we have higher taxes (capital gains, income, and payroll), sequester spending cuts, and a nagging recession in Europe. What’s more, the pessimists point to the unsustainable nature of elevated corporate profit margins, and use the ludicrous Robert Shiller 10-year Price-Earnings ratio as evidence of an expensive market (see also Foggy Rearview Mirror). If an apple sold for $10 ten days ago and $0.50 today, would you say, I am not buying an apple today because the 10-day average price is too high? If you followed Robert Shiller’s thinking, this logic would make sense.

Despite the barrage of daily concerns and excuses, the market continues to set new record highs and the S&P 500 is up by more than +130% since the 2009 lows – just a tad higher than the returns earned on cash, gold, and bonds (please note sarcasm). Cash has trickled into equities for the first few months of 2013 after years of outflows, but average investors have only moved from fear to skepticism (see also Investing with the Sentiment Pendulum  ).  With cash and bonds earning next to nothing; gold underperforming for years; and inflationary pressures eroding long-term purchasing power, the vice is only squeezing tighter on the worrywarts.

Are there legitimate reasons to worry? Certainly, and the opportunities are not what they used to be a few years ago (see also Missing the Pre-Party). Although an endangered species, long-term investors understand backwards looking economic news is useless. Or as Peter Lynch wisely stated, “If you spend 13 minutes a year on economics, you’ve wasted 10 minutes.” The fact remains that the market is up 70% of the time, on an annual basis, and has been a great place to beat inflation over time. It’s a tempting endeavor to avoid the down markets that occur 30% of the time, but those who try to time the market fail miserably over the long-run (see also Market Timing Treadmill).

Equity investors would be better served by looking at their investment portfolios like real estate. Homeowners implicitly know the value of their home changes on a daily basis, but there are no accurate, real-time quotes to reference your home value on a minute by minute basis, as you can with stocks. Most property owners know that real estate is a cyclical asset class that is not impacted by daily headlines, and if purchased at a reasonable price, will generally go up in value over many years. Unfortunately, for many average investors, equity portfolios are treated more like gambling bets in Vegas, and get continually traded based on gut instincts.

Volatility is at six-year lows, and investors are getting less uncomfortable with owning stocks. Although everybody and their mother has been waiting for a pullback (myself included), don’t get too myopically focused. For the vast majority of investors, who should have more than a ten year time horizon, you should understand that volatility is normal and recessions will cause stocks to gown significantly, twice every ten years on average. If you are a long-term investor, like you should be, and you understand these dynamics, then you will also understand that you will be more damned if you don’t invest in equities as part of a diversified portfolio.

Wade W. Slome, CFA, CFP®

Plan. Invest. Prosper.

www.Sidoxia.com

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.

March 17, 2013 at 4:47 pm 1 comment

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