Apparently yesterday's post came in the middle of this week's blogosphere hot topic; Black Swan Funds/disaster strategies. New York Times Deal Book had a lengthy write up on the subject yesterday.
Generally I am not a fan of extreme portfolios. My willingness to take defensive action is not, I don't think, a bet on an extreme outcome with a low probability. Aside from the cliche about betting on the end of the world can only payoff once I think the returns from various foreign markets over the last ten years tells us that something akin to "regular" portfolio construction still works.
The ideas like 90% t-bills/go berserk with the rest are interesting on some level but not necessarily practical.
For whatever one of these black swan funds might cost, someone with enough motivation could probably come up with something on their own for much less money. While anyone who actually wants to do this should remember Montier's advice that you have to decide which tail you are trying to protect against I think a do it yourselfer would probably want a healthy dose of TIPs exposure. 2008 was rough on the ETFs in this space but I don't think the panic from back then is likely happen again. But even so I would suggest going shorter in maturity and now there are a couple of ETFs that offer short dated TIPS exposure include the iShares Barclays 0-5 TIPS Bond Fund (STIP). The foreign TIP space is also intriguing, the new iShares International Inflation Linked Bond Fund (ITIP) could be interesting.
If not foreign TIPS then some other foreign exposure either with currency or bond funds or if you have access-- actual foreign bonds. Unless the tail you are hedging against is the dollar imploding then some mix between USD and forex exposure might make sense as for now the dollar still goes up during times of panic. I would think the Aussie dollar (FXA), Canadian dollar (FXC) or Swiss franc (FXF) would work here.
Commodity exposure no doubt has a place at this table but it is not clear to be that gold should be the answer. Some sort of legitimate food shortage and gold might not be the answer, again I think this depends on what tail is trying to be exploited.
Another space that might be relevant is merger arbitrage. Credit Suisse has a few ETNs out there, my wife owns the Merger Fund (MERFX) in one of her IRAs and there are other products out there. There is a pretty good track record with these for inching higher over time in a very boring fashion which is probably ideal for this conversation.
For anyone who would consider buying a fund that spends some portion of the AUM repeatedly on out of the money put options (that will often expire worthless) then they might also consider a broad based inverse index fund. If you look at a large sample of them (again, very broad, not sector funds) you'll see that many of them "work" over longer periods of time and have been "working" for a while now. Of course they may not "work" in the future over some extended period but the result would not likely be worse than continually buying puts that usually expire worthless.
There are obviously more areas to talk about but the bigger idea is that there are enough ETPs out there to create your own end of the world portfolio and do so relatively cheaply. The most expensive thing mentioned is MERFX which has a 1.45% expense ratio.
For what it is worth I still think a relatively normal equity and fixed income portfolio with the occasional defensive action is the best way to go.
Read more!
Wikinvest Wire
Thursday, June 30, 2011
Wednesday, June 29, 2011
What About Cash?
James Montier (hat tip Cullen Roche) has a paper out on tail risk with some ideas on how to protect against it and a bit of a warning about the saturation of products now at investors' disposal. While not necessarily the focus of my post I would point out that Montier rightfully places a lot of importance making sure you know what tail risk you are hedging against. For example, if your primary concern is hyperinflation then you don't want to load up on TLT or a bunch of long bonds.
I like that Montier is skeptical about all the "tail risk" products, even the fund that Nassim Taleb advises may come out with a black swan ETF. I generally believe in trying to protect portfolios against large declines in the market. In the past this has included cash (raised from selling some positions), inverse index funds and market neutral/absolute return funds. Where the market neutral/absolute return funds are concerned I have sought out what I believe to be relatively simple products.
Montier points out the utility of cash in this context. In terms of incorrect positioning too much long exposure is worse than too much cash. People often get impatient holding cash although I think they become more accepting when they see the market endure a large decline while they have a large cash position.
It would be great to be correct with every decision, all in or all out. As this is not possible the question becomes what is possible or reasonable? Obviously heeding something like a breach of the 200 DMA requires no ability to correctly assess what is happening, just recognize that something is happening. Heeding the 200 DMA in late 2007 by raising cash would have obviously avoided a lot of pain. While some profited one way or another from the declines that ensued in the financial crisis, I think avoiding most of it would have been a great outcome.
It would have been those folks with the ability to analyze what was going on, IE pick the correct tail, who profited. These folks could have used various complicated products (and a few simple one) to benefit from the decline but it doesn't get much simpler than cash and simple cash, as proactive tool, can be very effective.
Very few of us are going to be the guy who makes $1 billion correctly shorting the next crisis. But many of us can raise cash based on some objective trigger point and avoid a meaningful portion of the next crisis.
Read more!
I like that Montier is skeptical about all the "tail risk" products, even the fund that Nassim Taleb advises may come out with a black swan ETF. I generally believe in trying to protect portfolios against large declines in the market. In the past this has included cash (raised from selling some positions), inverse index funds and market neutral/absolute return funds. Where the market neutral/absolute return funds are concerned I have sought out what I believe to be relatively simple products.
Montier points out the utility of cash in this context. In terms of incorrect positioning too much long exposure is worse than too much cash. People often get impatient holding cash although I think they become more accepting when they see the market endure a large decline while they have a large cash position.
It would be great to be correct with every decision, all in or all out. As this is not possible the question becomes what is possible or reasonable? Obviously heeding something like a breach of the 200 DMA requires no ability to correctly assess what is happening, just recognize that something is happening. Heeding the 200 DMA in late 2007 by raising cash would have obviously avoided a lot of pain. While some profited one way or another from the declines that ensued in the financial crisis, I think avoiding most of it would have been a great outcome.
It would have been those folks with the ability to analyze what was going on, IE pick the correct tail, who profited. These folks could have used various complicated products (and a few simple one) to benefit from the decline but it doesn't get much simpler than cash and simple cash, as proactive tool, can be very effective.
Very few of us are going to be the guy who makes $1 billion correctly shorting the next crisis. But many of us can raise cash based on some objective trigger point and avoid a meaningful portion of the next crisis.
Read more!
Monday, June 27, 2011
ETPs Should Be Scrutinized
Michael Santoli took a couple of shots at the ETF industry this weekend referring to fund providers as being opportunistic and making some fun of the many ETPs that track the VIX index one way or another. Opportunistic may or may not be the best word but in general the investment product industry is trying to make money. There is potentially an adversarial relationship between the end user the the product company. I'm not sure it is correct to think of this as good or bad because either way the companies are trying to make money and either way there is the potential adversarial relationship.
The more important thing is knowing these things. There is nothing wrong with coming at the use of investment products with a skeptical eye. For someone who invests from the top down, part of the process is choosing the best way in. Sticking with the VIX, maybe after sifting through the ETPs the option contracts on VIX would actually be better? The ETPs have a lot of moving parts--they are far from plain vanilla but I don't think anything track VIX can be plain vanilla. I don't think any of the ETPs are created with the intent to deceive or otherwise harm investors but that does not mean that some levered product tracking an index that is often oversimplified an poorly understood will work, often these things don't work as investors hope.
This is often about investors not actually understanding the product as anything else but that does not change the fact that we are talking about a product issued by a company looking to make basis points from some portion of your assets.
Also true is that if the Market Vectors Mongolia ETF ever lists then anyone wanting to buy that country must seriously consider the fund as there are very few individual stocks to choose from.
ETPs are simply access. No form of access is perfect. That ETPs are not perfect is not news and should not catch anyone off guard. Successful use of the product means understanding the drawbacks and integrating that understanding into the decision making process versus understanding the drawbacks of other choices you might consider. Personally the totality of the VIX ETP situation leaves me expecting to never use these particular products.
ETPs that are plain vanilla baskets of stocks is something I am comfortable with and so in considering something new for the portfolio I look at any ETF that might be related. If I think a plain vanilla basket of stocks is the best way to go then that is the way I will go, if I think an individual stock is better then I will go that way.
All the while it remains true that the ETF provider wants to collect basis points and they put their interests above that of the fund holders. They probably don't want to screw their fund holders because then there would be no fundholders and no AUM to collect basis points from but again, this is neither good nor bad, it just is and knowing this should allow for safer navigation with these products.
Read more!
The more important thing is knowing these things. There is nothing wrong with coming at the use of investment products with a skeptical eye. For someone who invests from the top down, part of the process is choosing the best way in. Sticking with the VIX, maybe after sifting through the ETPs the option contracts on VIX would actually be better? The ETPs have a lot of moving parts--they are far from plain vanilla but I don't think anything track VIX can be plain vanilla. I don't think any of the ETPs are created with the intent to deceive or otherwise harm investors but that does not mean that some levered product tracking an index that is often oversimplified an poorly understood will work, often these things don't work as investors hope.
This is often about investors not actually understanding the product as anything else but that does not change the fact that we are talking about a product issued by a company looking to make basis points from some portion of your assets.
Also true is that if the Market Vectors Mongolia ETF ever lists then anyone wanting to buy that country must seriously consider the fund as there are very few individual stocks to choose from.
ETPs are simply access. No form of access is perfect. That ETPs are not perfect is not news and should not catch anyone off guard. Successful use of the product means understanding the drawbacks and integrating that understanding into the decision making process versus understanding the drawbacks of other choices you might consider. Personally the totality of the VIX ETP situation leaves me expecting to never use these particular products.
ETPs that are plain vanilla baskets of stocks is something I am comfortable with and so in considering something new for the portfolio I look at any ETF that might be related. If I think a plain vanilla basket of stocks is the best way to go then that is the way I will go, if I think an individual stock is better then I will go that way.
All the while it remains true that the ETF provider wants to collect basis points and they put their interests above that of the fund holders. They probably don't want to screw their fund holders because then there would be no fundholders and no AUM to collect basis points from but again, this is neither good nor bad, it just is and knowing this should allow for safer navigation with these products.
Read more!
Saturday, June 25, 2011
The Big Picture for the Week of June 26, 2011
The US equity market appears to be deteriorating. This could be because of deteriorating macro factors or shorter term micro factors or some combo of both. That sentence is intentionally vague because in terms of sticking to a defensive strategy devised before there was any hint of trouble the reason why is of secondary importance to sticking to your strategy.
We can easily chronicle the deteriorating macro factors and shorter term micro factors but can't necessarily know with certainty which is more important right here right now. My opinion is that the macro factors are more important but I take a longer term approach.
What has been interesting to me is the dance that the S&P 500 has done at the 200 DMA, or close to it anyway. Up to this point the 200 DMA has acted as support even as it has moved slightly higher (look at a chart and you will see it is likely to keep inching higher).
There is no way to know whether it will hold the 200 DMA or if it does breach the 200 DMA if that will be a head fake or the real deal. Knowing this ahead of time is obviously not in anyone's control but staying disciplined is within our control. I generally have something in mind should circumstance dictate taking defensive action but that is subject to change.
The big idea here is reducing net long exposure in case the market goes down a lot but not being so aggressive that you get whipsawed with the entire portfolio, this is why we start gradually. True bear markets start slowly (look at 2000 and late 2007-early 2008) giving plenty of time to get out. Ken Fisher has referred to the 2% rule where the market averages a 2% decline three months in a row as being a good tell that a bear has started. In the last two months the market is down 6.76% (per Google Finance) so we'll see what this turns out to be but riding a 7% decline all the way down and then taking defensive action in front of what turns out to be a 30-40% decline is a pretty good outcome in the context of trying to avoid the full brunt of down a lot.
After taking initial defensive action (again, if it comes to that) the plan is, as it has been, to continue to get defensive if the market shows signs of further deterioration. In both recent instances of the market cutting in half there were many months to get out before fear, panic and market cratering occurred.
Read more!
We can easily chronicle the deteriorating macro factors and shorter term micro factors but can't necessarily know with certainty which is more important right here right now. My opinion is that the macro factors are more important but I take a longer term approach.
What has been interesting to me is the dance that the S&P 500 has done at the 200 DMA, or close to it anyway. Up to this point the 200 DMA has acted as support even as it has moved slightly higher (look at a chart and you will see it is likely to keep inching higher).
There is no way to know whether it will hold the 200 DMA or if it does breach the 200 DMA if that will be a head fake or the real deal. Knowing this ahead of time is obviously not in anyone's control but staying disciplined is within our control. I generally have something in mind should circumstance dictate taking defensive action but that is subject to change.
The big idea here is reducing net long exposure in case the market goes down a lot but not being so aggressive that you get whipsawed with the entire portfolio, this is why we start gradually. True bear markets start slowly (look at 2000 and late 2007-early 2008) giving plenty of time to get out. Ken Fisher has referred to the 2% rule where the market averages a 2% decline three months in a row as being a good tell that a bear has started. In the last two months the market is down 6.76% (per Google Finance) so we'll see what this turns out to be but riding a 7% decline all the way down and then taking defensive action in front of what turns out to be a 30-40% decline is a pretty good outcome in the context of trying to avoid the full brunt of down a lot.
After taking initial defensive action (again, if it comes to that) the plan is, as it has been, to continue to get defensive if the market shows signs of further deterioration. In both recent instances of the market cutting in half there were many months to get out before fear, panic and market cratering occurred.
Read more!
Friday, June 24, 2011
The Rest of the EM Sector Funds Are Here
Emerging Global Shares, after a long time gap, filled out its suite of emerging market sector ETFs. There is some rebranding of the line and symbol changes for most of the existing funds that you can go to the website to learn more about if you are interested in that, I am more interested in whether or not there is any utility to the funds.
From the big picture, the idea is that for investors willing to make sector decisions, being able to choose from domestic, developed foreign and developing foreign allows for a more precise allocation. Obviously thematic ETFs are part of this discussion too.
Generally the group of EG funds is heavy in BRIC countries and South Africa with some other countries mixed in varying amounts, Mexico features prominently in a couple of funds. In eyeballing the funds some look very useful and some I wouldn't have much interest in.
The materials fund makes a great first impression. It is heaviest in South Africa followed by Russia, Brazil and China. It is a who's who of platinum miners, industrial metals miners and coal companies with client holding Vale (VALE) being the largest name in the fund.
I also like the telecom fund. It allocates 18% to China, 13% to Mexico and 11% each to South Africa and Brazil. If you look at the holdings you will see they cover a lot of ground in terms of small holdings from other countries. This sector, more than most of the others, should be able to easily cover a lot of ground because just about every country has a big phone company. Not so with technology and so that fund has about 44% each in India and China. The industrial sector fund looks interesting to me, it is heavy in India and cement companies.
For an account size where going to the sector level makes sense but three or four holdings for each sector does not then an investor can use a combo of different types of funds (domestic, developed, emerging) to build a portfolio that covers a lot of geography. For example (just an example) it might make sense for tech, staples, utilities and healthcare to be domestic, for discretionary, industrials and energy to be developed and for telecom, financials and materials to be emerging.
Also in this vein there might be a country fund that presumably you like that could serve a proxy for one or two sectors. So instead of needing to buy ten funds the for "right" sector specific portfolio it could have eight or nine holdings. Although we are out of Australia now, generically speaking the iShares Australia ETF (EWA) could serve as a proxy for financials and materials.
In portfolios where multiple holdings for sectors make sense then an even more specific allocation can be built which gets closer to holding individual stocks (many people are reluctant to go with individual stocks and although I think individual stocks should be part of the mix for a large enough account I realize many people will not do this).
The energy sector lends itself to this multi-fund blending. Like telecom, the energy sector is an easy way to go foreign because many countries have a large oil company. A combo of any broad foreign energy ETF as sort of an anchor and maybe for some yield, the Emerging Market Energy ETF with new symbol OGEM would probably have very little overlap and offer more direct access to areas where energy demand is increasing the most. Pair those two with something thematic like the Global X Uranium ETF (URA) and again very little overlap and despite what Germany plans to do I think nuclear will still exist. Perhaps somewhere in this mix something like the PowerShares Small Cap Energy ETF (PSCE) can fit in for a little domestic exposure. Again, a country fund could make sense as well; Thailand has a lot more energy than you might think (obviously the dynamics of the country and fund need to make sense, this is just an example).
Hopefully the post gives an idea of the wide range of possibilities that investors who put the time in have at their disposal. A lot of these product lines from different providers won't realistically make for a complete portfolio (no one is going to buy all ten emerging market sector funds) but implementing with funds from many families is realistic.
We are well into the 2011 College World Series. I've been watching this for years and we even went in 2007. One of the great things about this event was that no lead was ever safe. 10-1 in the ninth inning and the trailing team had a shot. This season they have changed the bats and the run production is down meaningfully and that has removed some of the excitement. Any other CWS fans feel this way?
Read more!
From the big picture, the idea is that for investors willing to make sector decisions, being able to choose from domestic, developed foreign and developing foreign allows for a more precise allocation. Obviously thematic ETFs are part of this discussion too.
Generally the group of EG funds is heavy in BRIC countries and South Africa with some other countries mixed in varying amounts, Mexico features prominently in a couple of funds. In eyeballing the funds some look very useful and some I wouldn't have much interest in.
The materials fund makes a great first impression. It is heaviest in South Africa followed by Russia, Brazil and China. It is a who's who of platinum miners, industrial metals miners and coal companies with client holding Vale (VALE) being the largest name in the fund.
I also like the telecom fund. It allocates 18% to China, 13% to Mexico and 11% each to South Africa and Brazil. If you look at the holdings you will see they cover a lot of ground in terms of small holdings from other countries. This sector, more than most of the others, should be able to easily cover a lot of ground because just about every country has a big phone company. Not so with technology and so that fund has about 44% each in India and China. The industrial sector fund looks interesting to me, it is heavy in India and cement companies.
For an account size where going to the sector level makes sense but three or four holdings for each sector does not then an investor can use a combo of different types of funds (domestic, developed, emerging) to build a portfolio that covers a lot of geography. For example (just an example) it might make sense for tech, staples, utilities and healthcare to be domestic, for discretionary, industrials and energy to be developed and for telecom, financials and materials to be emerging.
Also in this vein there might be a country fund that presumably you like that could serve a proxy for one or two sectors. So instead of needing to buy ten funds the for "right" sector specific portfolio it could have eight or nine holdings. Although we are out of Australia now, generically speaking the iShares Australia ETF (EWA) could serve as a proxy for financials and materials.
In portfolios where multiple holdings for sectors make sense then an even more specific allocation can be built which gets closer to holding individual stocks (many people are reluctant to go with individual stocks and although I think individual stocks should be part of the mix for a large enough account I realize many people will not do this).
The energy sector lends itself to this multi-fund blending. Like telecom, the energy sector is an easy way to go foreign because many countries have a large oil company. A combo of any broad foreign energy ETF as sort of an anchor and maybe for some yield, the Emerging Market Energy ETF with new symbol OGEM would probably have very little overlap and offer more direct access to areas where energy demand is increasing the most. Pair those two with something thematic like the Global X Uranium ETF (URA) and again very little overlap and despite what Germany plans to do I think nuclear will still exist. Perhaps somewhere in this mix something like the PowerShares Small Cap Energy ETF (PSCE) can fit in for a little domestic exposure. Again, a country fund could make sense as well; Thailand has a lot more energy than you might think (obviously the dynamics of the country and fund need to make sense, this is just an example).
Hopefully the post gives an idea of the wide range of possibilities that investors who put the time in have at their disposal. A lot of these product lines from different providers won't realistically make for a complete portfolio (no one is going to buy all ten emerging market sector funds) but implementing with funds from many families is realistic.
We are well into the 2011 College World Series. I've been watching this for years and we even went in 2007. One of the great things about this event was that no lead was ever safe. 10-1 in the ninth inning and the trailing team had a shot. This season they have changed the bats and the run production is down meaningfully and that has removed some of the excitement. Any other CWS fans feel this way?
Read more!
Thursday, June 23, 2011
The Gartman ETF
Dennis Gartman manages an ETF that trades in Canada for Horizons. Someone mentioned it in a tweet the other day and while I knew that he managed a fund, for some reason I've never looked at it. The fund is called the Horizons AlphaPro Gartman ETF, it trades in Canada with ticker symbol HAG. I could not find a pink sheet symbol for US trading (I believe US based investors can't trade Canadian funds in US brokerage accounts).
The description page of the fund is very concise and clear as to what the fund does and sets an expectation for a lot of activity. The fund factsheet was the only place I saw where you could get an inkling of the holdings--the holding were as of May 31, 2011. Also on the factsheet is this which tells you much of what you need to know;
The benchmark is the one year Canadian t-bill so it appears that the fund should be thought of as absolute return vehicle. As of May 31 the fund was long 84% short 37% and hedged -29%. The largest long positions was the Aberdeen Asia Pacific Income Fund with some other large holdings being Pengrowth Energy (PGH) and Molycorp (MCP). If Aberdeen Asia Pacific Income Fund is what I think it is (not sure if there is some Canadian version) then it has ticker FAX and some of our clients own that one. The largest short positions were in yen and euro futures.
Since its inception in late 2009 it is down 7.7%. It came out of the blocks slowly, had a pretty good run from mid 2010 until peaking in early March but since then it is down 14%. After reading the Gartman rules for trading on the info page I am surprised that it is down that much since then. In the time that this fund is down about 14% the Canadian Currency Share (FXC) is down 0.72%, the Energy Sector SPDR (XLE) is down 7.5%, PowerShares Commodity Tracker (DBC) is down 4%, iShares Canada (EWC) is down 9.5%, iShares Australia (EWA) is down 1.2% and FAX is up 6%. Some clients own EWC.
The above may not be proper comparisons (especially considering the benchmark) but these are some of the waters that the fund swims in and the euro and yen would not seem to be up enough to cause that much damage but maybe they are?
Either this is a slump or Gartman's method's may not lend themselves to the structure of a fund. Where the benchmark is a t-bill however, I have to wonder if the fund is using the wrong benchmark. The fund is not very short or hedged compared to the long positions and the notion of the positions as of May 31 looking like something that might add a couple of hundred basis points versus the total return of a one year Canadian t-bill was not apparent to me. Greece notwithstanding it would seem to be very rare to lose 14% in three months on a one year t-bill. Of course we may see a lot more Greeces in the near future.
Read more!
The description page of the fund is very concise and clear as to what the fund does and sets an expectation for a lot of activity. The fund factsheet was the only place I saw where you could get an inkling of the holdings--the holding were as of May 31, 2011. Also on the factsheet is this which tells you much of what you need to know;
The ETF is designed to provide investors with the opportunity for consistent capital appreciation through all market and business cycles.
The benchmark is the one year Canadian t-bill so it appears that the fund should be thought of as absolute return vehicle. As of May 31 the fund was long 84% short 37% and hedged -29%. The largest long positions was the Aberdeen Asia Pacific Income Fund with some other large holdings being Pengrowth Energy (PGH) and Molycorp (MCP). If Aberdeen Asia Pacific Income Fund is what I think it is (not sure if there is some Canadian version) then it has ticker FAX and some of our clients own that one. The largest short positions were in yen and euro futures.
Since its inception in late 2009 it is down 7.7%. It came out of the blocks slowly, had a pretty good run from mid 2010 until peaking in early March but since then it is down 14%. After reading the Gartman rules for trading on the info page I am surprised that it is down that much since then. In the time that this fund is down about 14% the Canadian Currency Share (FXC) is down 0.72%, the Energy Sector SPDR (XLE) is down 7.5%, PowerShares Commodity Tracker (DBC) is down 4%, iShares Canada (EWC) is down 9.5%, iShares Australia (EWA) is down 1.2% and FAX is up 6%. Some clients own EWC.
The above may not be proper comparisons (especially considering the benchmark) but these are some of the waters that the fund swims in and the euro and yen would not seem to be up enough to cause that much damage but maybe they are?
Either this is a slump or Gartman's method's may not lend themselves to the structure of a fund. Where the benchmark is a t-bill however, I have to wonder if the fund is using the wrong benchmark. The fund is not very short or hedged compared to the long positions and the notion of the positions as of May 31 looking like something that might add a couple of hundred basis points versus the total return of a one year Canadian t-bill was not apparent to me. Greece notwithstanding it would seem to be very rare to lose 14% in three months on a one year t-bill. Of course we may see a lot more Greeces in the near future.
Read more!
Wednesday, June 22, 2011
Life Lessons From The Wealthy
Barry Ritholtz' latest from the Washington Post struck a nice philosophical cord this week with the title being 7 Life Lessons From The Very Wealthy. Some of it was common sense like don't leverage yourself up as much as you are able to and some was more about self awareness issues like not being so focused on goals that you focus solely on the destination without enjoying the journey.
Also interesting to me was the idea that to the rich memories matter more than possessions. We all know people with large house payments, giant TVs, expensive cars, a large motor home (or boat) and a couple of $10,000 toys to go with the motor home or boat (ATVs or jet skis or both). That is of course a lot stuff and a lot of monthly payments that have to be covered.
Reasonably speaking the more moving parts (payments) in someone's financial life the more stressers in someone's overall life.
One of the seven that I really have trouble relating to is "having goals is incredibly important." Personally I have very few goals, perhaps this is evidence of too much focus on the journey and not enough on the destination?
There is a difference between the desire to be comfortable relative to modest needs versus being really rich (obviously). People who try to get really rich from their portfolio would seem likely to end up taking inappropriate risks and learning their risks were inappropriate after some unfortunate incident. Very few people are the type of world class investor that will lead them to be really rich. However a lot more people can be moderately successful in their careers, be aggressive savers, maybe have the puck bounce their way a few times (Bruins reference) and end up with a couple of million saved (I'm not saying this would be easy but this can happen for far more people than becoming really rich in the market).
The $80,000 that $2 million would generate (assumes the 4% rule) is not extravagant but could be plenty comfortable for someone who has avoided a big mortgage and a bunch of expensive toys.
This stuff gets into some serious behavioral issues. Many people with large monthly nuts realize they have large monthly nuts but don't see where they could possibly cut back. We were watching an episode of House Hunters the other night. The couple looked to be about my age (maybe a couple of years older), had a huge windfall from selling their home on Oahu and planned to roll that into much more home on Fiji. House #2 had a black and white kitchen that she could not live with (to the point of being very upsetting to her) for this house on the beach in Fiji and the only way should could be happy was gutting that kitchen--House #2 was about $1 million cheaper than the other two. Not gutting what looked like a fine kitchen was a conversation she could not hear.
People would solve a lot of their problems if they took an introspective look at some of their assumptions and recalibrated. I don't think people can hear that from someone else, the need to discover this on their own.
Read more!
Also interesting to me was the idea that to the rich memories matter more than possessions. We all know people with large house payments, giant TVs, expensive cars, a large motor home (or boat) and a couple of $10,000 toys to go with the motor home or boat (ATVs or jet skis or both). That is of course a lot stuff and a lot of monthly payments that have to be covered.
Reasonably speaking the more moving parts (payments) in someone's financial life the more stressers in someone's overall life.
One of the seven that I really have trouble relating to is "having goals is incredibly important." Personally I have very few goals, perhaps this is evidence of too much focus on the journey and not enough on the destination?
There is a difference between the desire to be comfortable relative to modest needs versus being really rich (obviously). People who try to get really rich from their portfolio would seem likely to end up taking inappropriate risks and learning their risks were inappropriate after some unfortunate incident. Very few people are the type of world class investor that will lead them to be really rich. However a lot more people can be moderately successful in their careers, be aggressive savers, maybe have the puck bounce their way a few times (Bruins reference) and end up with a couple of million saved (I'm not saying this would be easy but this can happen for far more people than becoming really rich in the market).
The $80,000 that $2 million would generate (assumes the 4% rule) is not extravagant but could be plenty comfortable for someone who has avoided a big mortgage and a bunch of expensive toys.
This stuff gets into some serious behavioral issues. Many people with large monthly nuts realize they have large monthly nuts but don't see where they could possibly cut back. We were watching an episode of House Hunters the other night. The couple looked to be about my age (maybe a couple of years older), had a huge windfall from selling their home on Oahu and planned to roll that into much more home on Fiji. House #2 had a black and white kitchen that she could not live with (to the point of being very upsetting to her) for this house on the beach in Fiji and the only way should could be happy was gutting that kitchen--House #2 was about $1 million cheaper than the other two. Not gutting what looked like a fine kitchen was a conversation she could not hear.
People would solve a lot of their problems if they took an introspective look at some of their assumptions and recalibrated. I don't think people can hear that from someone else, the need to discover this on their own.
Read more!
Tuesday, June 21, 2011
More Farrell
Paul Farrell's latest takes aim at "Dow 20,000" as being more hype citing all the people who were tragically bullish going into the financial crisis. I would venture to say that for as many people who were incorrectly bullish to start 2008 there were just as many who were incorrectly bearish in 2009.
I will repeat what I said the other day; take in divergent views in conjunction with your own observations and draw your own conclusion.
Read more!
I will repeat what I said the other day; take in divergent views in conjunction with your own observations and draw your own conclusion.
Read more!
MSM Clues In To The Need To Innovate
Smart Money posted an article called Investing Reinvented: A Smart Money Master Plan. The article recaps what has gone wrong with traditional investing including some unintentionally funny quotes from financial advisors and then offers some ideas (without much detail) about how to start making changes.
If this marks a genuine recognition that markets evolve and so portfolio success must evolve then I am all for it. If the article is merely a bit of investment populism then it is less useful but still to the extent the magazine targets people who are just starting out perhaps the article will cause more people to seek out ideas that are more inline with reality.
Reality can still include buy and hold but long term holds sometimes need to go. When I buy a stock or an ETF I certainly hope to hold it forever. Over the years I've blogged about plenty of names that I sold for various reasons (good and bad) or other names where partial sales made sense. I've labeled this as buy and hope to hold. If something gets wildly overvalued, works out badly or somehow changes itself then it needs to be sold. Being in touch with this requires time spent monitoring a portfolio's holdings.
I would add that the buy and hope to hold should probably avoid broad based indexes and countries that seem to be shaky fundamental ground. The ETP industry obviously provides access for all sorts of countries and themes which greatly democratizes the chance for portfolio success which I think the Smart Money article is alluding to.
In addition to buying and hoping to hold the article makes a point that will be familiar to long time readers of being willing to explore new exposures. There is increasingly more recognition of the importance of minimizing losses during large market downturns. Some of the "new" exposures can help with this--currency funds, hedge fund replicators, absolute return and so on.
The markets evolve, that success in evolving markets requires innovative products and then end users must sift through these innovative products seems like it would be intuitive but apparently it is not. Hopefully articles like the one linked above help mainstream investors start to think about things differently. There is visibility for meaningful change in how people fund their retirement years and investors who will not seek (competent) professional help (this will be most people) need to be more engaged in determining their financial future, much more engaged.
By now you know of the passing of Clarence Clemons from the E Street Band which for whatever reason seems to be far more socially significant than the passing of Danny Federici. I remember the exact moment I first discovered Springsteen, my buddy Dave got his hands on the Born To Run album a couple of years after it came out (we were nine when it first came out) and he and the band have been a music staple ever since. Is there anyone else whose favorite Springsteen song is Rosalita?
Read more!
If this marks a genuine recognition that markets evolve and so portfolio success must evolve then I am all for it. If the article is merely a bit of investment populism then it is less useful but still to the extent the magazine targets people who are just starting out perhaps the article will cause more people to seek out ideas that are more inline with reality.
Reality can still include buy and hold but long term holds sometimes need to go. When I buy a stock or an ETF I certainly hope to hold it forever. Over the years I've blogged about plenty of names that I sold for various reasons (good and bad) or other names where partial sales made sense. I've labeled this as buy and hope to hold. If something gets wildly overvalued, works out badly or somehow changes itself then it needs to be sold. Being in touch with this requires time spent monitoring a portfolio's holdings.
I would add that the buy and hope to hold should probably avoid broad based indexes and countries that seem to be shaky fundamental ground. The ETP industry obviously provides access for all sorts of countries and themes which greatly democratizes the chance for portfolio success which I think the Smart Money article is alluding to.
In addition to buying and hoping to hold the article makes a point that will be familiar to long time readers of being willing to explore new exposures. There is increasingly more recognition of the importance of minimizing losses during large market downturns. Some of the "new" exposures can help with this--currency funds, hedge fund replicators, absolute return and so on.
The markets evolve, that success in evolving markets requires innovative products and then end users must sift through these innovative products seems like it would be intuitive but apparently it is not. Hopefully articles like the one linked above help mainstream investors start to think about things differently. There is visibility for meaningful change in how people fund their retirement years and investors who will not seek (competent) professional help (this will be most people) need to be more engaged in determining their financial future, much more engaged.
By now you know of the passing of Clarence Clemons from the E Street Band which for whatever reason seems to be far more socially significant than the passing of Danny Federici. I remember the exact moment I first discovered Springsteen, my buddy Dave got his hands on the Born To Run album a couple of years after it came out (we were nine when it first came out) and he and the band have been a music staple ever since. Is there anyone else whose favorite Springsteen song is Rosalita?
Read more!
Monday, June 20, 2011
The End of the World As Not Foretold by Wall Street
That title sums up yet another end of the world article by Paul Farrell (hat tip to Jeff from Milan for the link). Basically a crash worse than the other one is coming this year and "they" are lying to us about it.
As much as people like Jim Paulsen and Tobias Levkovich seem incapable of seeing trouble coming and so provide no value when it is most needed, neither do people who never see anything but doom and apocalypse offer value. Talking heads from large brokerage firms seem to mostly have a bear markets are bad for business conflict (except for Albert Edwards and Dylan Grice) and government officials (whom Farrell also goes after in the article) cannot say something that would appear to be talking down the economy because they would make it worse. This is not a defense of the situation just the reality of it.
It is pretty obvious that most people are not aware of these conflicts and I can believe it contributes to the experience that many people have with investing.
Farrell points out that the S&P 500 is not far from where it was ten years ago. As we've covered countless times a decade long round trip to nowhere is not unprecedented and also that while that was happening there were many markets that had "normal" returns for the decade.
The way to navigate this is to take in divergent opinions in conjunction with your own observations to draw your own conclusions. Yes, most people will not do this for one reason or another but you reading a stock market blog are better positioned for whatever reason to do this.
Before the crisis I was very clear that should the yield curve invert that I would heed that as a warning. I also noted that there would be explanations as to why the yield curve no longer mattered but that it would still matter. Whenever the yield curve next inverts the cycle will repeat. The consensus won't learn but you can.
I had trouble following why Farrell is predicting doom specifically this calendar year. As best as I could tell it is because other people that he thinks highly of are predicting bad things for later in the year. Early in 2009 I thought we could be in for some sort of huge snap back rally and at some point in there on the way to doubling I became very skeptical and have been ever since for the simple reason that while the extent of the decline was probably overdone (making some snapback inevitable) much of the market gain and economic growth has come thanks in some measure to desperate action undertaken by the Fed to pump things up. I think skepticism is warranted but trying to predict exactly when it ends probably makes less sense than just having some simple trigger point for taking defensive action (of course for me this is when the SPX breaches its 200 DMA).
The picture is of the Stanley Cup on the pitcher's mound at Fenway from yesterday when the Bruins threw a group first pitch to the Red Sox as the Cup took a victory lap before the Red Sox-Brewers game.
Read more!
As much as people like Jim Paulsen and Tobias Levkovich seem incapable of seeing trouble coming and so provide no value when it is most needed, neither do people who never see anything but doom and apocalypse offer value. Talking heads from large brokerage firms seem to mostly have a bear markets are bad for business conflict (except for Albert Edwards and Dylan Grice) and government officials (whom Farrell also goes after in the article) cannot say something that would appear to be talking down the economy because they would make it worse. This is not a defense of the situation just the reality of it.
It is pretty obvious that most people are not aware of these conflicts and I can believe it contributes to the experience that many people have with investing.Farrell points out that the S&P 500 is not far from where it was ten years ago. As we've covered countless times a decade long round trip to nowhere is not unprecedented and also that while that was happening there were many markets that had "normal" returns for the decade.
The way to navigate this is to take in divergent opinions in conjunction with your own observations to draw your own conclusions. Yes, most people will not do this for one reason or another but you reading a stock market blog are better positioned for whatever reason to do this.
Before the crisis I was very clear that should the yield curve invert that I would heed that as a warning. I also noted that there would be explanations as to why the yield curve no longer mattered but that it would still matter. Whenever the yield curve next inverts the cycle will repeat. The consensus won't learn but you can.
I had trouble following why Farrell is predicting doom specifically this calendar year. As best as I could tell it is because other people that he thinks highly of are predicting bad things for later in the year. Early in 2009 I thought we could be in for some sort of huge snap back rally and at some point in there on the way to doubling I became very skeptical and have been ever since for the simple reason that while the extent of the decline was probably overdone (making some snapback inevitable) much of the market gain and economic growth has come thanks in some measure to desperate action undertaken by the Fed to pump things up. I think skepticism is warranted but trying to predict exactly when it ends probably makes less sense than just having some simple trigger point for taking defensive action (of course for me this is when the SPX breaches its 200 DMA).
The picture is of the Stanley Cup on the pitcher's mound at Fenway from yesterday when the Bruins threw a group first pitch to the Red Sox as the Cup took a victory lap before the Red Sox-Brewers game.
Read more!
Saturday, June 18, 2011
The Big Picture for the Week of June 19, 2011
Hat tip to Mebane Faber for finding this article at Forbes that among other things notes that Universa Investments (the fund that Nassim Taleb advises in some capacity) is mulling a black swan ETF. This evokes curiosity, amusement and befuddlement all at the same time.
Curiosity because the 90% in foreign t-bills and going berserk (my word not his) with the other 10% appeals on some level, amusement because of the jokes about this being a bottom and befuddlement as it would seem that Taleb would benefit from an industry that he probably thinks very little of.
While it is too soon to know if this fund will ever start trading, just as we talked the other day about a dividend tranche to a portfolio, maybe a Taleb Tranche would make sense too? The first time I heard Taleb was on the Connie Mack show on PBS and back then he expressed his concept as 85-90% in t-bills from around the world and then speculate very aggressively with the rest. Universa seems to have taken this idea and tweaked it to be t-bill-like with most of the portfolio (not sure if that means t-bills from around the world or not) and then betting on very extreme outcomes (like the end of the world) with the rest with the expectation that betting on extreme outcomes will lose money the vast majority of the time but when it pays off it will be huge.
Speculation in the context of his original idea is far more interesting than continually buying puts that are 400 points out of the money (I'm sure that is a gross oversimplification of what they do). Speculations like smaller volatile stocks that have some basis for going up in value makes more sense to me. Remember Taleb was talking about 10-15% of a portfolio and I am talking about 10-15% of a slice of a portfolio. This might mean buying something like the Global X Fertilizer/Potash ETF (SOIL), trading options on stocks or buying something like South Gobi Resources (SGQRF).
The t-bills from around the world effect is probably a more interesting thing to ponder. In actually going with t-bills from all over it is an attempt not only avoid volatility but remove currency swings. If we are talking about enough money to own ten currencies then in theory currencies with different attributes could be chosen such that when some go up some should go down. In practice it might not work out as well as for now seemingly every currency goes down against the USD in times of crisis. Perhaps a healthy dose of US t-bills could sterilize this.
In terms of creating the effect there are countless combos of exposure that can be built using ETPs and also traditional mutual funds. Things like hedge fund replicators, currency funds, inflation protected securities funds (recently Shares launched GTIP and ITIP which provide foreign exposure), absolute return products and probably a couple of others that are not coming to mind. In terms of different segments targeting similar results I would prefer spreading it out in case of some one-off event that is not reasonably analyzed. If something crazy happens in the world of merger arbitrage and that is all you own because how well the funds always seem to work then you have a real problem.
Part of why this is interesting to me is that I believe US capital (maybe that should be Capitol) markets are extremely distorted. For fixed income the rates and various "normal" relationships that exist are out of whack and on the equity side I think we have more years of not making any real progress. To repeat from past posts the answer for equities, if the above theory is correct, is more foreign exposure. Fixed income is a little more complicated and perhaps the above could be part of the solution. Right now you need to go out pretty far to get 3% in high grade debt but in the big picture 3% is not all that hot. If some combo of the above can deliver a 3% total return with similar volatility characteristics as fixed income then for people not yet taking income from their portfolio this could be a better way to go for the time being. Or at least with a portion of fixed income.
One other thing to note is that if the US capital markets remain out of sorts for an extended period that doesn't mean perpetual crisis to the point of markets not functioning. If the SPX is at 1115 on December 31, 2019 (that is the level it was at on December 31, 2009) that does not have to mean markets stopped working, I mean literally, in fact ceasing up again is a low probability.
Read more!
Curiosity because the 90% in foreign t-bills and going berserk (my word not his) with the other 10% appeals on some level, amusement because of the jokes about this being a bottom and befuddlement as it would seem that Taleb would benefit from an industry that he probably thinks very little of.
While it is too soon to know if this fund will ever start trading, just as we talked the other day about a dividend tranche to a portfolio, maybe a Taleb Tranche would make sense too? The first time I heard Taleb was on the Connie Mack show on PBS and back then he expressed his concept as 85-90% in t-bills from around the world and then speculate very aggressively with the rest. Universa seems to have taken this idea and tweaked it to be t-bill-like with most of the portfolio (not sure if that means t-bills from around the world or not) and then betting on very extreme outcomes (like the end of the world) with the rest with the expectation that betting on extreme outcomes will lose money the vast majority of the time but when it pays off it will be huge.
Speculation in the context of his original idea is far more interesting than continually buying puts that are 400 points out of the money (I'm sure that is a gross oversimplification of what they do). Speculations like smaller volatile stocks that have some basis for going up in value makes more sense to me. Remember Taleb was talking about 10-15% of a portfolio and I am talking about 10-15% of a slice of a portfolio. This might mean buying something like the Global X Fertilizer/Potash ETF (SOIL), trading options on stocks or buying something like South Gobi Resources (SGQRF).
The t-bills from around the world effect is probably a more interesting thing to ponder. In actually going with t-bills from all over it is an attempt not only avoid volatility but remove currency swings. If we are talking about enough money to own ten currencies then in theory currencies with different attributes could be chosen such that when some go up some should go down. In practice it might not work out as well as for now seemingly every currency goes down against the USD in times of crisis. Perhaps a healthy dose of US t-bills could sterilize this.
In terms of creating the effect there are countless combos of exposure that can be built using ETPs and also traditional mutual funds. Things like hedge fund replicators, currency funds, inflation protected securities funds (recently Shares launched GTIP and ITIP which provide foreign exposure), absolute return products and probably a couple of others that are not coming to mind. In terms of different segments targeting similar results I would prefer spreading it out in case of some one-off event that is not reasonably analyzed. If something crazy happens in the world of merger arbitrage and that is all you own because how well the funds always seem to work then you have a real problem.
Part of why this is interesting to me is that I believe US capital (maybe that should be Capitol) markets are extremely distorted. For fixed income the rates and various "normal" relationships that exist are out of whack and on the equity side I think we have more years of not making any real progress. To repeat from past posts the answer for equities, if the above theory is correct, is more foreign exposure. Fixed income is a little more complicated and perhaps the above could be part of the solution. Right now you need to go out pretty far to get 3% in high grade debt but in the big picture 3% is not all that hot. If some combo of the above can deliver a 3% total return with similar volatility characteristics as fixed income then for people not yet taking income from their portfolio this could be a better way to go for the time being. Or at least with a portion of fixed income.
One other thing to note is that if the US capital markets remain out of sorts for an extended period that doesn't mean perpetual crisis to the point of markets not functioning. If the SPX is at 1115 on December 31, 2019 (that is the level it was at on December 31, 2009) that does not have to mean markets stopped working, I mean literally, in fact ceasing up again is a low probability.
Read more!
Friday, June 17, 2011
Adding Basis Points
A reader left the following on a post the other day;
An important building block to understanding portfolio construction is that historically US markets have returned 9-10% on an annualized basis of which some portion of that return coming from dividend yield. Lately that yield has been in the neighborhood of 2%. A reasonable aspiration for a long term result would be to achieve returns somewhere close to that 9-10% which along with a proper savings rate will be most people's best shot at having enough when they need it.
Once that building block is taken to heart, time ideally is then spent on understanding the various behavioral biases that impede success. Once a little introspection is found I would then move on to understanding the big picture in the world, how and when to look like the world (the broad index that serves as the benchmark) and when not to look like the world. Also part of this can be personal assessment about how to generally navigate market cycles in a manner that allows for sleeping at night.
Against that backdrop I worked through the above process to conclude broad diversification with narrow products (individual issues and specialty ETFs) looking to mostly, repeat term coming, smooth out the ride for clients over the course of the entire stock market cycle was right for me.
If in a overly simplistic example the market returns 10% every year with some portion from gains and some from yield then the more that comes from yield the less volatility the rest of the portfolio needs to be exposed to. In a more practical sense if up a little is the most common outcome in a given year then extra yield can allow for a slightly less volatile portfolio (so a better risk adjusted result) but still allow for what I think of as proper diversification in terms of countries, themes and holdings with varying attributes such that there are no lopsided exposures that could hurt the portfolio in an extreme manner.
In my experience there a couple of risk factors that go with too large of a yield. One is that if every stock in a portfolio yields 4% then there is a good chance that the portfolio misses all sorts of market segments so then the give up is diversification. The other risk factors, and this is more of a big picture concept is that, as an example, a 6% yield in a 1% world takes some amount of risk. The end user may or may not understand the risk but it is there.
Read more!
" I'm happy if I can add 100 basis points of yield above the benchmark and would be thrilled with 150 basis points "
I would be interested if you could post an analysis of why this is so.
An important building block to understanding portfolio construction is that historically US markets have returned 9-10% on an annualized basis of which some portion of that return coming from dividend yield. Lately that yield has been in the neighborhood of 2%. A reasonable aspiration for a long term result would be to achieve returns somewhere close to that 9-10% which along with a proper savings rate will be most people's best shot at having enough when they need it.
Once that building block is taken to heart, time ideally is then spent on understanding the various behavioral biases that impede success. Once a little introspection is found I would then move on to understanding the big picture in the world, how and when to look like the world (the broad index that serves as the benchmark) and when not to look like the world. Also part of this can be personal assessment about how to generally navigate market cycles in a manner that allows for sleeping at night.
Against that backdrop I worked through the above process to conclude broad diversification with narrow products (individual issues and specialty ETFs) looking to mostly, repeat term coming, smooth out the ride for clients over the course of the entire stock market cycle was right for me.
If in a overly simplistic example the market returns 10% every year with some portion from gains and some from yield then the more that comes from yield the less volatility the rest of the portfolio needs to be exposed to. In a more practical sense if up a little is the most common outcome in a given year then extra yield can allow for a slightly less volatile portfolio (so a better risk adjusted result) but still allow for what I think of as proper diversification in terms of countries, themes and holdings with varying attributes such that there are no lopsided exposures that could hurt the portfolio in an extreme manner.
In my experience there a couple of risk factors that go with too large of a yield. One is that if every stock in a portfolio yields 4% then there is a good chance that the portfolio misses all sorts of market segments so then the give up is diversification. The other risk factors, and this is more of a big picture concept is that, as an example, a 6% yield in a 1% world takes some amount of risk. The end user may or may not understand the risk but it is there.
Read more!
Thursday, June 16, 2011
Broad Based Indexing Evolves
There was an article on Marketwatch titled Investors Warned About Risky Structured Products. It is surprising that complicated products still have any audience at all given the details of the financial crisis and the anguish that many investors went through using them.
Some of these trade on exchanges (or at least they used to) and some don't. When thought of at the portfolio level I think the simpler the better. Simple means individual stocks, individual bonds or plain vanilla ETFs to access these asset classes. This is the building block. On top of that I obviously think a modest allocation to some sort of absolute return strategy which may be a little more complicated is reasonable and does not jeopardize the entire portfolio. In this context I prefer relatively simple like the strategy used in RYMFX (client holding) that is long a commodity or financial future that is above its 7 month moving average and short a commodity or financial future that is below its 7 month moving average as opposed to a very active, black box strategy. But that is just my preference.
For people willing to take the time, the world of plain vanilla continues to expand both with narrow ETFs and now with ETFs that tweak broad indexes. The investor who buys a structured product with a lot of moving parts is looking to delegate some aspect of the task. This is not universally bad but can end badly.
For people unwilling to assume the risks and volatility that go with individual stocks, ETFs have long provided narrow solutions (and the selection continues to improve) along with broad based solutions that remain generally static which allows for better understanding what you own. Many investors can understand the S&P 500. It is broad, covers a lot of sectors, has companies like Apple, Bank of America and Exxon.
Once an investor does understand the S&P 500 (understand is not a synonym for outperform) they can then understand some of the funds that tweak the S&P 500 like the flurry of reduced volatility spins on the index. If you generally understand the SPX you can understand what increases the volatility and what decreases the volatility. This allows for changing the expected behavior of a broad based portfolio in a way that is still transparent (and derived off an index that is relatively easy to understand) but does not rely on complicated and expensive products.
I still prefer using very narrow based products (individual stocks and specialty ETFs) but I've always understood that not everyone will do this, most will not. It is getting easier for those who will not to target more suitable portfolios for their volatility tolerances. Check out PowerShares and Russell ETFs for more on this.
Long time readers may recall that I grew up in Boston so the Bruins winning the cup is a very big deal by itself and also in terms of continuing an incredible run for Boston Sports. During the intermission between the second and third periods I flipped over to Red Sox post game coverage and studio host Tom Carron and Dennis Eckersly were talking about the hockey of course. Carron made a very insightful point in noting that Boston fans no longer expect to lose these games. He is right and that is an amazing shift in sentiment and psychology. There was a moment in the third period last night when Burrows the biter could knocked down and Zdeno Chara, Adam McQuaide and a third Bruin were standing over him and I immediately thought "Big Bad Bruins." I also think that the Bruins invoking Bobby Orr before game four was the end of the Canucks, seriously I think that psyched them out.
Read more!
Some of these trade on exchanges (or at least they used to) and some don't. When thought of at the portfolio level I think the simpler the better. Simple means individual stocks, individual bonds or plain vanilla ETFs to access these asset classes. This is the building block. On top of that I obviously think a modest allocation to some sort of absolute return strategy which may be a little more complicated is reasonable and does not jeopardize the entire portfolio. In this context I prefer relatively simple like the strategy used in RYMFX (client holding) that is long a commodity or financial future that is above its 7 month moving average and short a commodity or financial future that is below its 7 month moving average as opposed to a very active, black box strategy. But that is just my preference.
For people willing to take the time, the world of plain vanilla continues to expand both with narrow ETFs and now with ETFs that tweak broad indexes. The investor who buys a structured product with a lot of moving parts is looking to delegate some aspect of the task. This is not universally bad but can end badly.
For people unwilling to assume the risks and volatility that go with individual stocks, ETFs have long provided narrow solutions (and the selection continues to improve) along with broad based solutions that remain generally static which allows for better understanding what you own. Many investors can understand the S&P 500. It is broad, covers a lot of sectors, has companies like Apple, Bank of America and Exxon.
Once an investor does understand the S&P 500 (understand is not a synonym for outperform) they can then understand some of the funds that tweak the S&P 500 like the flurry of reduced volatility spins on the index. If you generally understand the SPX you can understand what increases the volatility and what decreases the volatility. This allows for changing the expected behavior of a broad based portfolio in a way that is still transparent (and derived off an index that is relatively easy to understand) but does not rely on complicated and expensive products.
I still prefer using very narrow based products (individual stocks and specialty ETFs) but I've always understood that not everyone will do this, most will not. It is getting easier for those who will not to target more suitable portfolios for their volatility tolerances. Check out PowerShares and Russell ETFs for more on this.
Long time readers may recall that I grew up in Boston so the Bruins winning the cup is a very big deal by itself and also in terms of continuing an incredible run for Boston Sports. During the intermission between the second and third periods I flipped over to Red Sox post game coverage and studio host Tom Carron and Dennis Eckersly were talking about the hockey of course. Carron made a very insightful point in noting that Boston fans no longer expect to lose these games. He is right and that is an amazing shift in sentiment and psychology. There was a moment in the third period last night when Burrows the biter could knocked down and Zdeno Chara, Adam McQuaide and a third Bruin were standing over him and I immediately thought "Big Bad Bruins." I also think that the Bruins invoking Bobby Orr before game four was the end of the Canucks, seriously I think that psyched them out.
Read more!
Wednesday, June 15, 2011
The 8 Most Appropriate Strategies
Cullen Roche posted the following list from David Rosenberg for this "ailing" market (hat tip to a tweet from David Merkel).
Hedge funds
Dividend Strategies
Long oil, gold, raw food
Reduce base metal exposures
Short the Euro
Defensive sectors
Low levels of leverage/risk
Focus on quality and liquidity
The list is of course interesting and could be implemented by anyone so inclined, well for the most part anyway.
IndexIQ offers several ETFs that attempt to track hedge fund indexes and there are of course several other absolute return ETPs that are generally in the same neighborhood. These products strive for the same narrow range of outcomes no matter what is going on in the world. Any product that shows the ability to deliver during different market conditions would seem to have utility for any diversified portfolio.
Despite the hornets nest I whipped up over at Seeking Alpha, I am all for targeting a dividend yield higher than the S&P 500 or whatever benchmark you might use, I'm simply not for going all in on any strategy. There are plenty of ETFs that target all manner of dividend ideas and of course countless individual stocks and investment products that offer very good yields. I'm happy if I can add 100 basis points of yield above the benchmark and would be thrilled with 150 basis points (the context being my priority of a diversified portfolio over yield).
The idea of being long oil, gold and raw food would seem to be more of a long term demand story, a long term story I believe in. I guess Rosenberg thinks that even in the short run if his 99% chance of a recession call plays out that stocks in these areas or the underlying commodities will offer relative shelter. That is not an assumption I would make, especially with oil, ag commodities and food related equities. In the last five months of 2008 DBC fell 52%, DBA fell 43%, XLE fell 47% and PBJ fell 16%. PBJ held up pretty well but the others did not offer much protection. That doesn't make them bad long term holds they just would not be areas I would expect to help mitigate the downside.
Reduce base metal exposures kind of contradicts the above bullet point. The thinking of course is that base metals are more sensitive to an economic downturn. In the same period referenced in the above paragraph DBB fell 54% so the others held up a little better but I'm not I would say down 47% is much shelter versus a 54% drop (the 16% for PBJ is).
Anyone wanting to short the euro could buy the ProShares Ultra Short Euro (EUO), I'm not sure if there are other inverse euro funds. Over the last 12 months the Rydex Euro ETF (FXE) is up 18% and EUO is down 32%. While you know the risks of buying levered ETFs by now the 32% drop is pretty close to working long term and of course anyone with a margin account could just short FXE.
Defensive sectors make sense in the face of a recession. If an average bear market decline is 30% for the broad index then it is possible that well chosen stocks from defensive sectors might contain their declines to high single digits. A 9% drop in a down 30% world is pretty optimistic but in general these sectors (utilities, healthcare, staples and certain ma bell telecoms) do go down less.
Lowering risk, or as I might prefer to think of it, looking less like the market after a 90 or 100% gain in just a couple of years will not be the worst thing you ever do in your portfolio.
Focusing on quality can mean all sorts of things with some duplication to the above mentioned defensive sectors and dividend stocks but from the top down it will be difficult to find stocks that go up in the face of a normal bear market/recession decline. Longtime client holding Johnson & Johnson (JNJ) went down about 10% in the face of the S&P 500 dropping 38% in 2008 which I think of as being a fantastic result but it was still down nonetheless. Focusing on quality can make for a good relative result (which I am fine with) but I would not expect a good absolute result.
In addition to the above list from Rosenberg I would add seeking out individual countries that are very unlikely to have any fundamental connection to a US economic recession. For example Chile's economy can chug along just fine in the face of a US recession. I would note that if Rosenberg is right on his timing, so soon after the last recession because it is a balance sheet recession, it will probably not be another global financial crisis and so there may not be so many incidents of correlations going to one, less than in 2008 anyway.
Longer term of course I think investors need to isolate other countries with a more promising fundamental thesis than the US, Western Europe or Japan.
Read more!
Hedge funds
Dividend Strategies
Long oil, gold, raw food
Reduce base metal exposures
Short the Euro
Defensive sectors
Low levels of leverage/risk
Focus on quality and liquidity
The list is of course interesting and could be implemented by anyone so inclined, well for the most part anyway.
IndexIQ offers several ETFs that attempt to track hedge fund indexes and there are of course several other absolute return ETPs that are generally in the same neighborhood. These products strive for the same narrow range of outcomes no matter what is going on in the world. Any product that shows the ability to deliver during different market conditions would seem to have utility for any diversified portfolio.
Despite the hornets nest I whipped up over at Seeking Alpha, I am all for targeting a dividend yield higher than the S&P 500 or whatever benchmark you might use, I'm simply not for going all in on any strategy. There are plenty of ETFs that target all manner of dividend ideas and of course countless individual stocks and investment products that offer very good yields. I'm happy if I can add 100 basis points of yield above the benchmark and would be thrilled with 150 basis points (the context being my priority of a diversified portfolio over yield).
The idea of being long oil, gold and raw food would seem to be more of a long term demand story, a long term story I believe in. I guess Rosenberg thinks that even in the short run if his 99% chance of a recession call plays out that stocks in these areas or the underlying commodities will offer relative shelter. That is not an assumption I would make, especially with oil, ag commodities and food related equities. In the last five months of 2008 DBC fell 52%, DBA fell 43%, XLE fell 47% and PBJ fell 16%. PBJ held up pretty well but the others did not offer much protection. That doesn't make them bad long term holds they just would not be areas I would expect to help mitigate the downside.
Reduce base metal exposures kind of contradicts the above bullet point. The thinking of course is that base metals are more sensitive to an economic downturn. In the same period referenced in the above paragraph DBB fell 54% so the others held up a little better but I'm not I would say down 47% is much shelter versus a 54% drop (the 16% for PBJ is).
Anyone wanting to short the euro could buy the ProShares Ultra Short Euro (EUO), I'm not sure if there are other inverse euro funds. Over the last 12 months the Rydex Euro ETF (FXE) is up 18% and EUO is down 32%. While you know the risks of buying levered ETFs by now the 32% drop is pretty close to working long term and of course anyone with a margin account could just short FXE.
Defensive sectors make sense in the face of a recession. If an average bear market decline is 30% for the broad index then it is possible that well chosen stocks from defensive sectors might contain their declines to high single digits. A 9% drop in a down 30% world is pretty optimistic but in general these sectors (utilities, healthcare, staples and certain ma bell telecoms) do go down less.
Lowering risk, or as I might prefer to think of it, looking less like the market after a 90 or 100% gain in just a couple of years will not be the worst thing you ever do in your portfolio.
Focusing on quality can mean all sorts of things with some duplication to the above mentioned defensive sectors and dividend stocks but from the top down it will be difficult to find stocks that go up in the face of a normal bear market/recession decline. Longtime client holding Johnson & Johnson (JNJ) went down about 10% in the face of the S&P 500 dropping 38% in 2008 which I think of as being a fantastic result but it was still down nonetheless. Focusing on quality can make for a good relative result (which I am fine with) but I would not expect a good absolute result.
In addition to the above list from Rosenberg I would add seeking out individual countries that are very unlikely to have any fundamental connection to a US economic recession. For example Chile's economy can chug along just fine in the face of a US recession. I would note that if Rosenberg is right on his timing, so soon after the last recession because it is a balance sheet recession, it will probably not be another global financial crisis and so there may not be so many incidents of correlations going to one, less than in 2008 anyway.
Longer term of course I think investors need to isolate other countries with a more promising fundamental thesis than the US, Western Europe or Japan.
Read more!
Tuesday, June 14, 2011
Morningstar STILL Does Not Get It
The crew at ETFReplay.com was kind enough to send me a link to the press release from Morningstar about their new fund rating system that they say will now be forward looking. So it turns out after all these years of collecting various fees from investors, backward looking wasn't the way to go?
The new system will be called Morningstar Analyst RatingTM (I believe they have added the word analyst) that will be based on the following "Pillars"; People, Process, Parent, Performance, and Price. Further down in the (very lengthy) press release it says that people are the managers and their tenure, process is the investment process, parent is the parent company and the last two probably don't need explanation.
Oh-boy.
Where the context is actively managed funds there is no way to look forward. "We think the manager will make a good call on industrials and other cyclically sensitive stocks in the fourth quarter." It is not credible to me that had this process been in place before they would have told people to sell Bill Miller's fund or Bruce Berkowitz' fund.
Assessing investment process is potentially interesting. Plain language about top down/bottom up, growth/value, some sort of screening process or anything else like this, if it is not provided already, would help people better understand what they own. It is not clear how this can be universally forward looking. Maybe something like "their screening process fared poorly in 2004 and we think 2011 is a lot like 2004" could add value (totally made up example in every respect).
The forward looking nature of the other three is lost on me unless people use technical analysis on actively managed mutual funds.
As a source of data the site is quite useful. As best as I can tell, after being peculiarly slow to try to do anything with ETFs they still appear to not really understand how to use the product (I was on a panel with Scott Burns once and he knows the mechanics extremely well).
There is simply no way to know what an active manager will do in the future or what might happen in his life that could somehow affect his job. Think about it, what stock or fund will you buy six months from now? If you don't know that for yourself then I assure you Morningstar can't know it for some actively managed mutual fund, let alone a whole universe of them.
The boiler plate of every fund provides a warning about past performance but how likely are you to buy a serial underperformer? The fund's past performance will, at a minimum, be a major driver in the decision. I don't find that dynamic particularly appealing and so I am not a fan of the wrapper but plenty of people are and part of the equation is an unquantifiable faith in the manager.
Read more!
The new system will be called Morningstar Analyst RatingTM (I believe they have added the word analyst) that will be based on the following "Pillars"; People, Process, Parent, Performance, and Price. Further down in the (very lengthy) press release it says that people are the managers and their tenure, process is the investment process, parent is the parent company and the last two probably don't need explanation.
Oh-boy.
Where the context is actively managed funds there is no way to look forward. "We think the manager will make a good call on industrials and other cyclically sensitive stocks in the fourth quarter." It is not credible to me that had this process been in place before they would have told people to sell Bill Miller's fund or Bruce Berkowitz' fund.
Assessing investment process is potentially interesting. Plain language about top down/bottom up, growth/value, some sort of screening process or anything else like this, if it is not provided already, would help people better understand what they own. It is not clear how this can be universally forward looking. Maybe something like "their screening process fared poorly in 2004 and we think 2011 is a lot like 2004" could add value (totally made up example in every respect).
The forward looking nature of the other three is lost on me unless people use technical analysis on actively managed mutual funds.
As a source of data the site is quite useful. As best as I can tell, after being peculiarly slow to try to do anything with ETFs they still appear to not really understand how to use the product (I was on a panel with Scott Burns once and he knows the mechanics extremely well).
There is simply no way to know what an active manager will do in the future or what might happen in his life that could somehow affect his job. Think about it, what stock or fund will you buy six months from now? If you don't know that for yourself then I assure you Morningstar can't know it for some actively managed mutual fund, let alone a whole universe of them.
The boiler plate of every fund provides a warning about past performance but how likely are you to buy a serial underperformer? The fund's past performance will, at a minimum, be a major driver in the decision. I don't find that dynamic particularly appealing and so I am not a fan of the wrapper but plenty of people are and part of the equation is an unquantifiable faith in the manager.
Read more!
Monday, June 13, 2011
More Dividends and Diversification
As a followup to Saturday's post I wanted to outline some ideas for building a dividend tranche for a portfolio where someone might have different buckets within a portfolio. So high yielders might be one bucket, themes another, core another and so on. I could see where it might be easier for some people to think of their portfolio this way. Although not my preference it is perfectly reasonable.
Anyone going down this road might want to own high yielders from various parts of the market to capture some business diversification or maybe cyclical diversification. The following are just examples, I don't own any of them for clients.
First is Brookfield Infrastructure Partners (BIP). This is sort of an investment product as opposed to a company. It manages a portfolio of infrastructure assets and it turns the assets over. I wrote about this for theStreet.com a few years ago when it came out and while some of the assets are still the same several are new. The current yield is 5.4% but the company is committed to steadily increasing the payout. The major assets now include utilities assets in Australia, New Zealand, Canada and Chile. BIP also has timber assets in Canada, gas pipelines and storage all over the place and a hospital. The revenue stream seems like it will be reliable but like many of these types of things it carries a lot of debt.
Next is AT&T. It currently yields 5.6% which is well covered. The market cap is enormous as you know, estimates for earnings look to grow 7% with revenue growing a little less. You already know the stock, more often than not it is boring, slow moving and high yielding--but not always.
I've mentioned American Campus Communities (ACC) a few times over the years but have never owned it. It owns apartments near college campuses in 30 states and two Canadian provinces. It has a low beta, a fair bit of debt, the trailing yield is 3.95% and is well covered. The story is simple when compared to other types of apartment stocks which is that the elasticity of demand should be more favorable with college based rentals.
Energy Transfer Partners (ETP) is one of the larger MLPs. You've heard of the name, the yield is 7.5% and the dividends have been very steady. It has a low beta, high debt and the growth estimates for revenue and earnings look pretty good and the dividend looks like it can be maintained.
Bill Gross recommended Annaly Mortgage (NLY) in this week's Barron's Mid Year Round Table. He notes it yields 14% (13.6% per Yahoo). Relative to the world of mortgage REITs this one is well regarded and it has been around for a long time.
I've always been intrigued by the tanker stocks but never owned one. Nordic American Tankers (NAT) seems to be one of the more visible names in the space. It is well off its high and the dividend has been volatile of late. On the plus side, the company cut the dividend when that was the right thing to do and will raise the dividend when (if) that becomes the right thing to do. Over the years I've read a couple of very bearish posts on this company (sorry, no links). The CEO is on TV a lot and there is something about his "performance" that makes me uncomfortable but I don't know what it is. The space is valid but I think actually picking a name here is difficult given the volatility of the group both in terms of the actual business and the stock prices.
The last name to put here is the NFJ Dividend Interest & Premium Fund (NFJ). This fund drastically cut its dividend during the crisis and more recently restored it, it is now at $0.45 per quarter (but it can always change) making the yield pretty close to 10%. I used to write about these a lot, we owned one and the group collectively got crushed during the crisis. If you want to swim in these waters, an important thing to keep an eye on and understand how much of the payout is a return of capital. And with any CEF you need to know how much leverage the fund uses.
The above are a list that simply represents high yield form disparate parts of the market and could comprise a high yield bucket but not a portfolio IMO. I don't own any of them, I've not researched any of them in a way I think of as being thorough so don't add 1+1 and get 11.
Some of the names might be great holds but if not, there are other names from those groups that would be and building in this type of exposure (bucket) as part of a diversified portfolio makes a lot of sense. I picked the above because they are all somewhat fondly regarded in their respective spaces and get a fair bit of attention (NFJ may not get a lot of attention but the AUM is almost $2 billion) so these holdings could easily make it into a diversified portfolio.
The companies are all real (as best as I can tell) and survived the crisis, their dividends are high and in some cases increasing (even if they were cut along the way during the crisis) but none of that prevented the companies (and other related companies in these spaces) from getting crushed during the crisis. The best performer dropped 33% from the October 2007 peak to March 2009 and the worst fell 61% in that time. NLY was on a different timetable, from its peak to trough it fell 31%, the dividend remained surprisingly healthy during the crisis but it endured a serious and prolonged dividend cut from September 2005-March 2008.
The point here is to understand what a dividend can do and cannot and mesh that in with how your brain works during times of market panic. A dividend portfolio should not be expected to be immune from large market declines nor will these types of stocks lead on the way up. Often the more defensive dividend yielders will go down a lot less but that is more likely because of the sector they are in; staples, utilities and healthcare are likely to go down less than other sectors.
If you can truly mentally prepare for going down 30% in a down 50% world then maybe a lopsided exposure to dividend payers is for you but it needs to be understood that the next crisis for the market will be lead by some other segment and if it somehow turns out to be dividend payers then the DZs will be badly shaken. The can't-miss expectation that some seem to have should be altered. Hindsight bias notwithstanding, internet stocks were can't-miss as was housing.
Read more!
Anyone going down this road might want to own high yielders from various parts of the market to capture some business diversification or maybe cyclical diversification. The following are just examples, I don't own any of them for clients.
First is Brookfield Infrastructure Partners (BIP). This is sort of an investment product as opposed to a company. It manages a portfolio of infrastructure assets and it turns the assets over. I wrote about this for theStreet.com a few years ago when it came out and while some of the assets are still the same several are new. The current yield is 5.4% but the company is committed to steadily increasing the payout. The major assets now include utilities assets in Australia, New Zealand, Canada and Chile. BIP also has timber assets in Canada, gas pipelines and storage all over the place and a hospital. The revenue stream seems like it will be reliable but like many of these types of things it carries a lot of debt.
Next is AT&T. It currently yields 5.6% which is well covered. The market cap is enormous as you know, estimates for earnings look to grow 7% with revenue growing a little less. You already know the stock, more often than not it is boring, slow moving and high yielding--but not always.
I've mentioned American Campus Communities (ACC) a few times over the years but have never owned it. It owns apartments near college campuses in 30 states and two Canadian provinces. It has a low beta, a fair bit of debt, the trailing yield is 3.95% and is well covered. The story is simple when compared to other types of apartment stocks which is that the elasticity of demand should be more favorable with college based rentals.
Energy Transfer Partners (ETP) is one of the larger MLPs. You've heard of the name, the yield is 7.5% and the dividends have been very steady. It has a low beta, high debt and the growth estimates for revenue and earnings look pretty good and the dividend looks like it can be maintained.
Bill Gross recommended Annaly Mortgage (NLY) in this week's Barron's Mid Year Round Table. He notes it yields 14% (13.6% per Yahoo). Relative to the world of mortgage REITs this one is well regarded and it has been around for a long time.
I've always been intrigued by the tanker stocks but never owned one. Nordic American Tankers (NAT) seems to be one of the more visible names in the space. It is well off its high and the dividend has been volatile of late. On the plus side, the company cut the dividend when that was the right thing to do and will raise the dividend when (if) that becomes the right thing to do. Over the years I've read a couple of very bearish posts on this company (sorry, no links). The CEO is on TV a lot and there is something about his "performance" that makes me uncomfortable but I don't know what it is. The space is valid but I think actually picking a name here is difficult given the volatility of the group both in terms of the actual business and the stock prices.
The last name to put here is the NFJ Dividend Interest & Premium Fund (NFJ). This fund drastically cut its dividend during the crisis and more recently restored it, it is now at $0.45 per quarter (but it can always change) making the yield pretty close to 10%. I used to write about these a lot, we owned one and the group collectively got crushed during the crisis. If you want to swim in these waters, an important thing to keep an eye on and understand how much of the payout is a return of capital. And with any CEF you need to know how much leverage the fund uses.
The above are a list that simply represents high yield form disparate parts of the market and could comprise a high yield bucket but not a portfolio IMO. I don't own any of them, I've not researched any of them in a way I think of as being thorough so don't add 1+1 and get 11.
Some of the names might be great holds but if not, there are other names from those groups that would be and building in this type of exposure (bucket) as part of a diversified portfolio makes a lot of sense. I picked the above because they are all somewhat fondly regarded in their respective spaces and get a fair bit of attention (NFJ may not get a lot of attention but the AUM is almost $2 billion) so these holdings could easily make it into a diversified portfolio.
The companies are all real (as best as I can tell) and survived the crisis, their dividends are high and in some cases increasing (even if they were cut along the way during the crisis) but none of that prevented the companies (and other related companies in these spaces) from getting crushed during the crisis. The best performer dropped 33% from the October 2007 peak to March 2009 and the worst fell 61% in that time. NLY was on a different timetable, from its peak to trough it fell 31%, the dividend remained surprisingly healthy during the crisis but it endured a serious and prolonged dividend cut from September 2005-March 2008.
The point here is to understand what a dividend can do and cannot and mesh that in with how your brain works during times of market panic. A dividend portfolio should not be expected to be immune from large market declines nor will these types of stocks lead on the way up. Often the more defensive dividend yielders will go down a lot less but that is more likely because of the sector they are in; staples, utilities and healthcare are likely to go down less than other sectors.
If you can truly mentally prepare for going down 30% in a down 50% world then maybe a lopsided exposure to dividend payers is for you but it needs to be understood that the next crisis for the market will be lead by some other segment and if it somehow turns out to be dividend payers then the DZs will be badly shaken. The can't-miss expectation that some seem to have should be altered. Hindsight bias notwithstanding, internet stocks were can't-miss as was housing.
Read more!
Saturday, June 11, 2011
The Big Picture for the Week of June 12, 2011
There were a couple of interesting comments on the blog earlier this week about what I've called dividend zealots, DZ for short. The way some of the articles and comments by the DZs read it would seem buying companies with long histories of increasing their dividends is an infallible investment strategy. Owning nothing but dividend growers is far from the worst strategy one can implement and while it should be obvious that plenty of people do have success with this there are people who have success with all other types of strategies. Whatever you think is the worst possible way to invest/trade, I promise you someone is having success with it.
It should also be obvious that any strategy can fail for whatever reason. Constructing a portfolio of stocks that have some lengthy track record for dividend increases still requires picking stocks each of which has their own risks and rewards and the balance of these risks and rewards can change at any time. Dividends can get cut after all, while I am not certain I would think there would have been at least a couple of financials that would have passed various dividend screens meeting some preferred criteria and if any did pass these screens 2008 still hurt them.
My take on dividends is that they are very important most of the time. In my opinion getting an extra 1-2% portfolio yield above the SPX in a year like 2008 means next to nothing when the market drops 38%, similarly they take on less importance in a year like 2009 where the market goes up 25%. Beyond those occasional huge years extra yield matters a lot but not more than proper diversification. In my CNBC appearance this past week they flashed a stat that over the last 80 years, 55% of equity returns have come from dividends (that was a new one to me), the one I am more familiar with is 42% of returns coming from dividends from since 1950 (I think it is 1950, but you get the idea).
I think of dividends at the portfolio level. The higher the yield versus the SPX the better, up to a point. More important to me than the yield is proper diversification. Being properly diversified gives a better chance of reducing portfolio volatility than being extremely lopsided in stocks that would seem to have many of the same attributes. With a little time spent I'm sure a portfolio could be assembled with 20 stocks that yield five or more percent and work out most of the time but every so often something would come along and decimate the portfolio. Yes the portfolio would probably recover but a healthy dividend yielding portfolio is not immune to large drawdowns.
For quite a few years now the SPX has yielded pretty close to 2% either way. We've been pretty close to a 3% yield either way and getting there is not that difficult in terms of remaining properly diversified (the way I think of it anyway). Four or five years ago I wrote an article for Real Money where I tried to assemble a portfolio that was diversified in the way I think a portfolio should be diversified that would yield 4% but I came up a few basis points short.
In terms of why not to be too narrowly focused on, in this case, dividends I'll use Vale (VALE) as an example. I'm not sure of the exact date of purchase (and I can't call my assistant at this hour and ask her) but I know we had it to start 2005. Eyeballing a Yahoo chart (Google Finance doesn't go back this far with VALE) VALE is up about 375% since the start of 2005 versus a gain of about about 7% for the SPX on a price basis. We still own VALE.
VALE pays dividends, they are not usually very high but they most certainly are lumpy as is the case with many foreign stocks. Many foreign companies have what could be thought of as a dividend policy where they pay some percentage of earnings, so if earnings go up the dividend goes up and if they go down the dividend goes down. There obviously can be other factors but you get the idea. VALE is no hidden gem. At one pointed I disclosed that one of the reasons we bought it is because it kept getting mentioned in the Barron's Roundtable, it has also been one of the largest holdings in iShares Brazil (EWZ) for a long time. If the whole demand for commodities made any sense to you in the middle of the last decade then you probably at least looked at this company and ruling it out for lack of consistent dividend growth would have been to misunderstand what was happening globally and how one of the largest miners in the world might benefit.
A less dramatic example would be Statoil which we have owned since late 2004 (we've sold a little twice and bought a little more once). It is up a little over 60% on a price basis in that time and has paid a dividend every spring that as usually been in the 4-5% range (the dividend info at Google Finance is wrong). That the dividend might have grown every year was never the priority, it has actually gone up and down since we've owned it. It offers access that I believe I understand, a product whose demand is going up, a country I know I want to own and the dividend is pretty good. That is a decent thesis behind a stock pick.
I've used these two stocks as examples before because they both capture a forest for the trees idea that I think many DZs miss.
Read more!
It should also be obvious that any strategy can fail for whatever reason. Constructing a portfolio of stocks that have some lengthy track record for dividend increases still requires picking stocks each of which has their own risks and rewards and the balance of these risks and rewards can change at any time. Dividends can get cut after all, while I am not certain I would think there would have been at least a couple of financials that would have passed various dividend screens meeting some preferred criteria and if any did pass these screens 2008 still hurt them.
My take on dividends is that they are very important most of the time. In my opinion getting an extra 1-2% portfolio yield above the SPX in a year like 2008 means next to nothing when the market drops 38%, similarly they take on less importance in a year like 2009 where the market goes up 25%. Beyond those occasional huge years extra yield matters a lot but not more than proper diversification. In my CNBC appearance this past week they flashed a stat that over the last 80 years, 55% of equity returns have come from dividends (that was a new one to me), the one I am more familiar with is 42% of returns coming from dividends from since 1950 (I think it is 1950, but you get the idea).I think of dividends at the portfolio level. The higher the yield versus the SPX the better, up to a point. More important to me than the yield is proper diversification. Being properly diversified gives a better chance of reducing portfolio volatility than being extremely lopsided in stocks that would seem to have many of the same attributes. With a little time spent I'm sure a portfolio could be assembled with 20 stocks that yield five or more percent and work out most of the time but every so often something would come along and decimate the portfolio. Yes the portfolio would probably recover but a healthy dividend yielding portfolio is not immune to large drawdowns.
For quite a few years now the SPX has yielded pretty close to 2% either way. We've been pretty close to a 3% yield either way and getting there is not that difficult in terms of remaining properly diversified (the way I think of it anyway). Four or five years ago I wrote an article for Real Money where I tried to assemble a portfolio that was diversified in the way I think a portfolio should be diversified that would yield 4% but I came up a few basis points short.
In terms of why not to be too narrowly focused on, in this case, dividends I'll use Vale (VALE) as an example. I'm not sure of the exact date of purchase (and I can't call my assistant at this hour and ask her) but I know we had it to start 2005. Eyeballing a Yahoo chart (Google Finance doesn't go back this far with VALE) VALE is up about 375% since the start of 2005 versus a gain of about about 7% for the SPX on a price basis. We still own VALE.
VALE pays dividends, they are not usually very high but they most certainly are lumpy as is the case with many foreign stocks. Many foreign companies have what could be thought of as a dividend policy where they pay some percentage of earnings, so if earnings go up the dividend goes up and if they go down the dividend goes down. There obviously can be other factors but you get the idea. VALE is no hidden gem. At one pointed I disclosed that one of the reasons we bought it is because it kept getting mentioned in the Barron's Roundtable, it has also been one of the largest holdings in iShares Brazil (EWZ) for a long time. If the whole demand for commodities made any sense to you in the middle of the last decade then you probably at least looked at this company and ruling it out for lack of consistent dividend growth would have been to misunderstand what was happening globally and how one of the largest miners in the world might benefit.
A less dramatic example would be Statoil which we have owned since late 2004 (we've sold a little twice and bought a little more once). It is up a little over 60% on a price basis in that time and has paid a dividend every spring that as usually been in the 4-5% range (the dividend info at Google Finance is wrong). That the dividend might have grown every year was never the priority, it has actually gone up and down since we've owned it. It offers access that I believe I understand, a product whose demand is going up, a country I know I want to own and the dividend is pretty good. That is a decent thesis behind a stock pick.
I've used these two stocks as examples before because they both capture a forest for the trees idea that I think many DZs miss.
Read more!
Friday, June 10, 2011
And Now For Some Funds No One Will Use
Deutsche Bank came out with the following ETFs;
db-X MSCI Japan Currency-Hedged Equity Fund (DBJP)
db-X MSCI Brazil Currency-Hedged Equity Fund (DBBR)
db-X MSCI Canada Currency-Hedged Equity Fund (DBCN)
db-X MSCI EAFE Currency-Hedged Equity Fund (DBEF)
db-X MSCI Emerging Markets Currency-Hedged Equity Fund (DBEM)
I am aware of one other similar fund, the WisdomTree International Hedged Equity (HEDJ) which is a broad based fund that hedges currency. HEDJ just made Ron Rowland's ETF Deathwatch for low volume, Ron reports the assets are at $21 million. There is so little activity in the one that DB thought a whole suite of them, including one that looks like it would be similar to the apparently unpopular (or misunderstood?) HEDJ, might be a good idea.
As a stretch there might be some application for a pairs trade looking for some sort of absolute return. YTD a long EFA short HEDJ combo looks like it would have returned about 4.6% which would have come mostly from a gain in EFA, HEDJ is about flat for the year. For what it is worth just buying the WisdomTree Managed Futures ETF (WDTI) has returned 4.09% so a much simpler trade with 50 basis points less in return up to this point.
Eye of the beholder on that but of course long EFA short HEDJ could have lost money. The pair trade requires the end user being correct about the currency as opposed to WDTI simply needing to function the way it usually does--no guarantees there either but it is simpler for the end user.
I am all for throwing as much at the wall as possible and letting the market decide what sticks. Occasionally something will come along that will so obviously gain no traction and this idea is one of them. To paraphrase something someone retweeted, if I'm wrong I'll eat this blog--I don't know what it means either but it is kind of funny.
Read more!
db-X MSCI Japan Currency-Hedged Equity Fund (DBJP)
db-X MSCI Brazil Currency-Hedged Equity Fund (DBBR)
db-X MSCI Canada Currency-Hedged Equity Fund (DBCN)
db-X MSCI EAFE Currency-Hedged Equity Fund (DBEF)
db-X MSCI Emerging Markets Currency-Hedged Equity Fund (DBEM)
I am aware of one other similar fund, the WisdomTree International Hedged Equity (HEDJ) which is a broad based fund that hedges currency. HEDJ just made Ron Rowland's ETF Deathwatch for low volume, Ron reports the assets are at $21 million. There is so little activity in the one that DB thought a whole suite of them, including one that looks like it would be similar to the apparently unpopular (or misunderstood?) HEDJ, might be a good idea.
As a stretch there might be some application for a pairs trade looking for some sort of absolute return. YTD a long EFA short HEDJ combo looks like it would have returned about 4.6% which would have come mostly from a gain in EFA, HEDJ is about flat for the year. For what it is worth just buying the WisdomTree Managed Futures ETF (WDTI) has returned 4.09% so a much simpler trade with 50 basis points less in return up to this point.Eye of the beholder on that but of course long EFA short HEDJ could have lost money. The pair trade requires the end user being correct about the currency as opposed to WDTI simply needing to function the way it usually does--no guarantees there either but it is simpler for the end user.
I am all for throwing as much at the wall as possible and letting the market decide what sticks. Occasionally something will come along that will so obviously gain no traction and this idea is one of them. To paraphrase something someone retweeted, if I'm wrong I'll eat this blog--I don't know what it means either but it is kind of funny.
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Thursday, June 09, 2011
Blending Country Funds
Recently I disclosed selling out of Australia (which I expect to be temporary) over concerns about the housing market coming to fruition. We obviously can't know with certainty if there will be any meaningful fallout to the Aussie banks if things get ugly but the visibility is there so it just made sense to simply avoid the space for now so that neither clients nor I need to worry about.
Also disclosed in that post was that I had been using the WisdomTree Pacific Ex Japan ETF (DNH) for a lot of small accounts as a proxy for foreign where one or two ETFs is appropriate for the entire foreign exposure. I mentioned that I replaced DNH with a combo of iShares Canada (EWC) and Global X Nordic 30 (GXF). Part of the story here is that the broad foreign funds, like EFA, are heaviest in countries that are probably no better off than the US. It would not make sense for anyone agreeing with this line of thinking to buy EFA, instead it would make sense to create foreign exposure some other way.
In trying to approach this by blending together countries with different fundamental attributes and funds that have different sector make-ups under the hood. If the countries are too similar or if the funds are too similar then there is less diversification bang for the buck. Obviously in picking two countries in this manner you have to be favorably disposed to the countries.
Not to get too pancake and a smoke but here are a couple of examples of what this could look like. Norway and Singapore: Norway is obviously an energy based economy and Singapore obviously is tiny and more of a financial hub and with some manufacturing. The countries are clearly different enough and over short periods of time there is some zigzag effect between the two countries' stock markets but the sector make up of the Global X Norway Fund (NORW) and iShares Singapore (EWS) may not diverge enough.
On the plus side for this combo NORW has 41% in energy and 8% in materials. EWS has no energy or materials but has 25% in industrials and is much heavier in consumer and telecom. These differences are good, in the context of this conversation, but they are each heavy in financials with NORW having 23% and EWS having 44% (down from 49% BTW).
Chile and Switzerland appear to be quite different from each other. iShares Chile's (ECH) top sectors are utilities 22%, industrials 19%, materials 19%, staples 14% and financials 11% (ECH client and personal holding). iShares Switzerland is 26% healthcare, 22% financials, 22% staples and 10% industrials.
One last example is New Zealand and Thailand. The largest sectors for iShares New Zealand (ENZL) has 24% in materials, 15% in telecom, 14% in discretionary, 12% in industrials and 11% in utilities. iShares Thailand (THD) has 32% in financials, 31% in energy, 8% in staples and 8% in materials.
The focus here should not be the specific examples (I am not suggesting 50% of a foreign portfolio into Thailand) but the notion of blending things together to achieve a desired result. The blended sector examples are pretty good in terms of not being lopsided. Obviously the funds in this post have been large cap for their respective countries and of course providers like IndexIQ, Market Vectors and EG Shares offer small and mid-cap exposure to many countries too.
One point I've made before about ETFs is that they offer the chance to create some pretty well constructed and efficient portfolios. There does not seem to be too many people writing about ETFs this way although I am quite certain there are people using ETFs this way. If this appeals to you then spend some time on it, if not then don't. Obviously this could be done with more than just two funds but the real focus here should be blending; getting a little more out of the product wrapper. Maybe in a few years the combo will be Mongolia and Slovakia?
On a personal note this has been a crazy week. On Tuesday on the drive back from the studio in Phoenix a fire call came in, it turned out to be and abandoned campfire that wasn't even smoldering but the nature of our fire seasons are such that we must always respond in force to anything. Then yesterday while I was at the gym we had a medical call come in at the campgrounds near by and right after that we met with a recruit looking to volunteer with our department. Busy is good but it'd be ok if it slowed down for the rest of the week too.
Read more!
Also disclosed in that post was that I had been using the WisdomTree Pacific Ex Japan ETF (DNH) for a lot of small accounts as a proxy for foreign where one or two ETFs is appropriate for the entire foreign exposure. I mentioned that I replaced DNH with a combo of iShares Canada (EWC) and Global X Nordic 30 (GXF). Part of the story here is that the broad foreign funds, like EFA, are heaviest in countries that are probably no better off than the US. It would not make sense for anyone agreeing with this line of thinking to buy EFA, instead it would make sense to create foreign exposure some other way.
In trying to approach this by blending together countries with different fundamental attributes and funds that have different sector make-ups under the hood. If the countries are too similar or if the funds are too similar then there is less diversification bang for the buck. Obviously in picking two countries in this manner you have to be favorably disposed to the countries.
Not to get too pancake and a smoke but here are a couple of examples of what this could look like. Norway and Singapore: Norway is obviously an energy based economy and Singapore obviously is tiny and more of a financial hub and with some manufacturing. The countries are clearly different enough and over short periods of time there is some zigzag effect between the two countries' stock markets but the sector make up of the Global X Norway Fund (NORW) and iShares Singapore (EWS) may not diverge enough.On the plus side for this combo NORW has 41% in energy and 8% in materials. EWS has no energy or materials but has 25% in industrials and is much heavier in consumer and telecom. These differences are good, in the context of this conversation, but they are each heavy in financials with NORW having 23% and EWS having 44% (down from 49% BTW).
Chile and Switzerland appear to be quite different from each other. iShares Chile's (ECH) top sectors are utilities 22%, industrials 19%, materials 19%, staples 14% and financials 11% (ECH client and personal holding). iShares Switzerland is 26% healthcare, 22% financials, 22% staples and 10% industrials.
One last example is New Zealand and Thailand. The largest sectors for iShares New Zealand (ENZL) has 24% in materials, 15% in telecom, 14% in discretionary, 12% in industrials and 11% in utilities. iShares Thailand (THD) has 32% in financials, 31% in energy, 8% in staples and 8% in materials.
The focus here should not be the specific examples (I am not suggesting 50% of a foreign portfolio into Thailand) but the notion of blending things together to achieve a desired result. The blended sector examples are pretty good in terms of not being lopsided. Obviously the funds in this post have been large cap for their respective countries and of course providers like IndexIQ, Market Vectors and EG Shares offer small and mid-cap exposure to many countries too.
One point I've made before about ETFs is that they offer the chance to create some pretty well constructed and efficient portfolios. There does not seem to be too many people writing about ETFs this way although I am quite certain there are people using ETFs this way. If this appeals to you then spend some time on it, if not then don't. Obviously this could be done with more than just two funds but the real focus here should be blending; getting a little more out of the product wrapper. Maybe in a few years the combo will be Mongolia and Slovakia?
On a personal note this has been a crazy week. On Tuesday on the drive back from the studio in Phoenix a fire call came in, it turned out to be and abandoned campfire that wasn't even smoldering but the nature of our fire seasons are such that we must always respond in force to anything. Then yesterday while I was at the gym we had a medical call come in at the campgrounds near by and right after that we met with a recruit looking to volunteer with our department. Busy is good but it'd be ok if it slowed down for the rest of the week too.
Read more!
Tuesday, June 07, 2011
CNBC Appearance
I am scheduled to appear on CNBC today about 45 minutes before the US close (give or take a few minutes). Unlike the appearance pictured to the left the I will not be explaining why "aarrrggghhhh, fire bad." The topic today should be dividend stocks.
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Are We Running Out Of ETF Ideas?
Not really of course but there has been a flurry of new funds and interesting listings, several of which I've been talking about for ages. As funds come out some will have an obvious use and some will be headscratchers.
Something like the Global X Fertilizer ETF (SOIL) has an obvious purpose. It would not be shocking to do a little research and conclude that the long term prospects for agribusiness look pretty good and draw a narrower conclusion that fertilizer might be something to focus on. It would also seem reasonable to prefer a narrow fund over a stock because some of the names in the group are very volatile and while the fund should also prove out to be volatile it should usually be less volatile than the constituent holdings.
The above paragraph relates to any narrow based equity ETP; a top down decision is made about some theme and then time is spent figuring the best way in. An ETF simply broadens the choices available but as I have mentioned before it is not logical that an ETF can be the best choice for all themes.
From the headscratcher department comes the recently listed PowerShares DB Japanese Govt Bond Futures ETN (JGBL) and the 3X version that has symbol JGBT. There must be some purpose to these that the issuer has in mind but I don't know what it is. They've been trading for a little over two months and while that might be too short of a time frame for the following observation to stand up; they both appear to less volatile than the Rydex Yen Currency Shares (FXY). Does anyone need a less volatile way into what amounts to exposure to the yen? I might have this all wrong but again, I have no idea what use an end user in the ETP market would have for these.
Of the ideas I've talked about most over the years, a couple have listed and a couple more there has been no movement. As much as I would like to see a toll road ETF and a cement ETF I am surprised there has not been a publicly traded exchange ETF (the capital markets ETFs have asset managers and investment banks in them). There are many countries with a publicly traded exchange and they continue to come; recently the Warsaw Exchange went public. Additionally there is a lot of M & A activity in the space and people, I think, love to trade these names. Given how pathetic the banks might be there are probably plenty of investors looking for ways into the financial sector without US, European, Japanese for Chinese bank exposure.
I would like to see the specialized funds continue to proliferate. Jack Bogle and Morningstar will never be fans but there is value in having an ETF among the choices of individual stocks in narrow themes.
Read more!
Something like the Global X Fertilizer ETF (SOIL) has an obvious purpose. It would not be shocking to do a little research and conclude that the long term prospects for agribusiness look pretty good and draw a narrower conclusion that fertilizer might be something to focus on. It would also seem reasonable to prefer a narrow fund over a stock because some of the names in the group are very volatile and while the fund should also prove out to be volatile it should usually be less volatile than the constituent holdings.
The above paragraph relates to any narrow based equity ETP; a top down decision is made about some theme and then time is spent figuring the best way in. An ETF simply broadens the choices available but as I have mentioned before it is not logical that an ETF can be the best choice for all themes.
From the headscratcher department comes the recently listed PowerShares DB Japanese Govt Bond Futures ETN (JGBL) and the 3X version that has symbol JGBT. There must be some purpose to these that the issuer has in mind but I don't know what it is. They've been trading for a little over two months and while that might be too short of a time frame for the following observation to stand up; they both appear to less volatile than the Rydex Yen Currency Shares (FXY). Does anyone need a less volatile way into what amounts to exposure to the yen? I might have this all wrong but again, I have no idea what use an end user in the ETP market would have for these.
Of the ideas I've talked about most over the years, a couple have listed and a couple more there has been no movement. As much as I would like to see a toll road ETF and a cement ETF I am surprised there has not been a publicly traded exchange ETF (the capital markets ETFs have asset managers and investment banks in them). There are many countries with a publicly traded exchange and they continue to come; recently the Warsaw Exchange went public. Additionally there is a lot of M & A activity in the space and people, I think, love to trade these names. Given how pathetic the banks might be there are probably plenty of investors looking for ways into the financial sector without US, European, Japanese for Chinese bank exposure.
I would like to see the specialized funds continue to proliferate. Jack Bogle and Morningstar will never be fans but there is value in having an ETF among the choices of individual stocks in narrow themes.
Read more!
Monday, June 06, 2011
How Many Of Us Really Understand Risk?
Institutional Investor excerpted a little from Howard Marks from Oaktree Capital Management writing about risk. The article covers just about every aspect of risk and provides a little validation for some of the ideas I write about. The article is a must read.
Instead of dissecting the article I'll just add a couple of thoughts. The excerpt devotes very little to how people take their perception of risk and then mismanage it. Someone left a comment on a post of mine at Seeking Alpha that he has 40% in closed end funds. I don't know if closed end funds are new for this person or not but every few years there is the right type of negative event in the market that generally crushes closed end funds, unjustifiably so. A 40% weighting is a crushing waiting to happen.
Invariably, while things are going well, like now (on a price basis, things have been going well), no one says "oh yeah, the next time the market goes down a lot I am going to get caught with too much exposure to the wrong thing and I am going to panic sell big time." No, when things are going well people say "of course markets correct, everyone knows that, I won't panic."
No doubt the person with 40% in closed end funds thinks he has mitigated his risk and for all I know he may have somehow mitigated his exposure to more volatility than he really wants but this is a thing that too many people miss. To my way of thinking the time between the market cutting in half from 2000-2002 and then again starting in 2007 was short enough that more people should have remembered that the market can drop that much. This second decline was either the wrong type of volatility for people who don't need the money soon (mostly younger people) or the consequence of risk for people who need the money very soon (mostly those just then retiring) but either way people were shocked when the market went down so much and got caught very long many wrong parts of the market. This sort of thing is why I prefer an objective trigger point for defensive action. It requires far less insight than it does discipline.
Marks made one comment that is very similar to something I have talked about before that I don't see addressed very often. In my example I talk about the fictitious person who put 100% of his portfolio into Amazon (AMZN) the day of the IPO and sold at the April 23, 1999 peak. They would have made 5900% in 23 months. The person (we'll call him fictitious person number two) who bought from fictitious person number 1 with 100% of his portfolio lost 84% over the next 23 months. Hopefully it is obvious they each took the exact same risk. In one instance it worked out well and in the other it did not.
The key, I think, is first figuring your own tolerances (if you've been reading this site for a while hopefully you've done this some) and then figuring how to build a risk or volatility characteristic into your portfolio that you can live with but that still gives you a decent shot of having enough money when you need it. The sooner you can figure this out the easier time you'll have navigating the stock market cycle and hopefully you will achieve a better risk adjusted result.
Read more!
Instead of dissecting the article I'll just add a couple of thoughts. The excerpt devotes very little to how people take their perception of risk and then mismanage it. Someone left a comment on a post of mine at Seeking Alpha that he has 40% in closed end funds. I don't know if closed end funds are new for this person or not but every few years there is the right type of negative event in the market that generally crushes closed end funds, unjustifiably so. A 40% weighting is a crushing waiting to happen.
Invariably, while things are going well, like now (on a price basis, things have been going well), no one says "oh yeah, the next time the market goes down a lot I am going to get caught with too much exposure to the wrong thing and I am going to panic sell big time." No, when things are going well people say "of course markets correct, everyone knows that, I won't panic."
No doubt the person with 40% in closed end funds thinks he has mitigated his risk and for all I know he may have somehow mitigated his exposure to more volatility than he really wants but this is a thing that too many people miss. To my way of thinking the time between the market cutting in half from 2000-2002 and then again starting in 2007 was short enough that more people should have remembered that the market can drop that much. This second decline was either the wrong type of volatility for people who don't need the money soon (mostly younger people) or the consequence of risk for people who need the money very soon (mostly those just then retiring) but either way people were shocked when the market went down so much and got caught very long many wrong parts of the market. This sort of thing is why I prefer an objective trigger point for defensive action. It requires far less insight than it does discipline.
Marks made one comment that is very similar to something I have talked about before that I don't see addressed very often. In my example I talk about the fictitious person who put 100% of his portfolio into Amazon (AMZN) the day of the IPO and sold at the April 23, 1999 peak. They would have made 5900% in 23 months. The person (we'll call him fictitious person number two) who bought from fictitious person number 1 with 100% of his portfolio lost 84% over the next 23 months. Hopefully it is obvious they each took the exact same risk. In one instance it worked out well and in the other it did not.
The key, I think, is first figuring your own tolerances (if you've been reading this site for a while hopefully you've done this some) and then figuring how to build a risk or volatility characteristic into your portfolio that you can live with but that still gives you a decent shot of having enough money when you need it. The sooner you can figure this out the easier time you'll have navigating the stock market cycle and hopefully you will achieve a better risk adjusted result.
Read more!
Sunday, June 05, 2011
Sunday Morning Coffee
Trader Mark tweeted this link to a story about a 100 year old woman in Ohio who has a savings account that was opened for her by her father in 1913 with $6.11. She still has the first passbook from when the account was opened. I think this story is awesome. 1913?
In the article was this little nugget from her father, a farmer, that she's held onto all this time;
This is similar to Taleb saying that we learned everything we need to know about finance from our grandmothers; don't borrow money, don't lend money and save as much as you can. Obviously I would add live below your means.
The odds of accumulating a lot of money, like well into the seven figures or greater, are pretty slim with probably several things beyond one's control. I think a person has a much better chance of success by living in a modest home, having no credit card debt, driving cars for ten years instead of five or in other words keeping the monthly nut relatively low. A $100,000 income is pretty low in the context of a $3500 mortgage, $1200 worth of car payments and some credit card debt but is enough to live phat with no mortgage, one car payment and no credit cards.
The first example would make for a lot of financial stress, if you want no part of that stress then hopefully you are a lot closer to the second scenario.
The Pink Car has been returned!
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In the article was this little nugget from her father, a farmer, that she's held onto all this time;
That's what he (her father) always taught us: to stay out of debt and save our money and not buy anything until we had the money to pay for it.
This is similar to Taleb saying that we learned everything we need to know about finance from our grandmothers; don't borrow money, don't lend money and save as much as you can. Obviously I would add live below your means.
The odds of accumulating a lot of money, like well into the seven figures or greater, are pretty slim with probably several things beyond one's control. I think a person has a much better chance of success by living in a modest home, having no credit card debt, driving cars for ten years instead of five or in other words keeping the monthly nut relatively low. A $100,000 income is pretty low in the context of a $3500 mortgage, $1200 worth of car payments and some credit card debt but is enough to live phat with no mortgage, one car payment and no credit cards.The first example would make for a lot of financial stress, if you want no part of that stress then hopefully you are a lot closer to the second scenario.
The Pink Car has been returned!
Read more!
Saturday, June 04, 2011
The Big Picture for the Week of June 5, 2011
The jobs report printed yesterday and it stunk in every direction. There is a lot to digest right now in terms of whether there is an honest recovery or not, all aspects of QE are being second guessed and dissected, the housing market has legitimately double dipped, at the very least there is reason to be skeptical that the banks are really getting healthier all of which contributes support to the idea I've been talking about which is that the worst financial crisis in 80 years will not wrap up all neat and tidy in just a couple of years.
If we were talking about a different country in the context of top down portfolio construction then the issues above along with the debt and Social Security/Medicare issues and it would not take long to conclude it should either be avoided or underweighted.
In my opinion the general top down investment case for US equities has been weak for a long time but of course this has not prevented the market from doubling in two years. Perhaps the decline into March 2009 was an overshoot or perhaps the snapback is the overshoot but it should be obvious that markets and fundamentals diverge and converge all the time. A market or a stock can go up a lot in the face of lousy fundamentals and of course they can go down a lot in the face of great fundamentals.
Internet stocks with essentially no fundamentals went up a lot in 1998 and 1999. In my opinion the fundamentals at Banco de Chile (BCH), the Chilean bank we don't own, did not warrant a 55% decline in the price from March 2008 to October 2008 but that is what happened anyway.
I would think that as a general rule of thumb you would not want too much exposure to holdings whose fundamentals stink. Assessing that the fundamentals for something stink is easier than picking individual stocks to buy. The process of figuring out what to avoid combined with picking ETF that minimize exposure to lousy fundies gives a decent chance of successfully navigating the stock market cycle. On top of that still needs to be some sort of defensive strategy because as noted above good fundamentals will not prevent something from going down in price when everything else is going down.
The bigger point here is the notion that I among others have been writing about for years but which has gotten more attention lately which is minimizing declines in the course of a full stock market cycle. Completely avoiding large declines is not realistic but minimizing them is possible.
Read more!
If we were talking about a different country in the context of top down portfolio construction then the issues above along with the debt and Social Security/Medicare issues and it would not take long to conclude it should either be avoided or underweighted.
In my opinion the general top down investment case for US equities has been weak for a long time but of course this has not prevented the market from doubling in two years. Perhaps the decline into March 2009 was an overshoot or perhaps the snapback is the overshoot but it should be obvious that markets and fundamentals diverge and converge all the time. A market or a stock can go up a lot in the face of lousy fundamentals and of course they can go down a lot in the face of great fundamentals.
Internet stocks with essentially no fundamentals went up a lot in 1998 and 1999. In my opinion the fundamentals at Banco de Chile (BCH), the Chilean bank we don't own, did not warrant a 55% decline in the price from March 2008 to October 2008 but that is what happened anyway.
I would think that as a general rule of thumb you would not want too much exposure to holdings whose fundamentals stink. Assessing that the fundamentals for something stink is easier than picking individual stocks to buy. The process of figuring out what to avoid combined with picking ETF that minimize exposure to lousy fundies gives a decent chance of successfully navigating the stock market cycle. On top of that still needs to be some sort of defensive strategy because as noted above good fundamentals will not prevent something from going down in price when everything else is going down.
The bigger point here is the notion that I among others have been writing about for years but which has gotten more attention lately which is minimizing declines in the course of a full stock market cycle. Completely avoiding large declines is not realistic but minimizing them is possible.
Read more!
Friday, June 03, 2011
More "I Will Never Buy Stocks Again"
CNNMoney ran an article with some statistics about how a preponderance of people surveyed will never buy stocks again. The comments I read at the bottom of the post angrily decried the extent to which the stock market is a scam for various reasons.
There are two things at work here. The first and perhaps less interesting is that people need to save money and get some sort of return on that money. Stocks have usually provided an adequate and competitive return versus other types of investments but that has been put to the test over the last eleven years. If equities offer something akin to a normal return over the some lengthy time period relevant to you, even if this continues to mean more foreign exposure, then less equity exposure will simply require saving more to have a chance of having enough when you need it.
Probably not surprising, I think there is an argument in here for narrower exposure in the equity portfolio. If US equities continue to do relatively poorly along with Western Europe and Japan then investors will need to own other countries. If the financial crisis has lingering effects that last for years (as I think will be the case) then investors (those preferring not to use individual stocks) will need to seek out funds that are not heavy in financials. For that matter how long will the tech wreck continue to plague big technology companies?
To the extent this logic makes sense then that leaves country, thematic and sector funds to build the portfolio--for people willing and able to spend the time.
The more interesting point could be the anger embedded in the comments. They seem to focus on the rich getting richer at the expense of the poor and how markets are rigged and the rich are all in on it. Based on the comments the resentment runs deep, obviously there is no way to know how representative this sentiment is but we all know it exists. I've made several mentions of my friend on Facebook in the "resentment camp" and he has since de-friended me.
We know that there have always been people who cheat one way or another and hopefully we realize that there will always be people who cheat and by cheat I mean break the law. I would imagine that the amount of people cheating ebbs and flows and I would have no idea whether there are now a lot of cheaters or just a few on a historical basis.
None of that changes the truthism mentioned above; people need to save money and get some sort of return on that money. In a way, if you already know there are cheaters participating in the markets then you would seem to have at least one thing in your corner. If you have one thing then maybe you have more than one thing in your corner.
Market cheaters will not prevent some list of countries available in ETF form from having very good returns over the next five years, nor will cheaters prevent some other countries available in ETF form from having lousy returns over the next five years. If agriculture turns out to be what I think it will be over the next few years then the role cheaters might play will have no long term effect. Looking back, you have no idea if cheaters have ever impacted your holdings unless the cheaters were caught and while I have no idea how many cheaters there are I don't think anyone believes most of them are getting caught.
The historical argument for buying equities, which to repeat was alive and well in the 2000s in other markets, was built with cheaters in there the whole time. There is no defending it, it is unfair when cheaters prosper without getting caught but it happens and markets go up and down all the same and none of this changes the fact that the less you have in equities the higher the savings rate needs to be.
The picture is the latest in the trend of college football fields that are not green. First, I believe, was the smurf turn at Boise State, then the inferno at Eastern Washington and now the above at Central Arkansas.
Read more!
There are two things at work here. The first and perhaps less interesting is that people need to save money and get some sort of return on that money. Stocks have usually provided an adequate and competitive return versus other types of investments but that has been put to the test over the last eleven years. If equities offer something akin to a normal return over the some lengthy time period relevant to you, even if this continues to mean more foreign exposure, then less equity exposure will simply require saving more to have a chance of having enough when you need it.
Probably not surprising, I think there is an argument in here for narrower exposure in the equity portfolio. If US equities continue to do relatively poorly along with Western Europe and Japan then investors will need to own other countries. If the financial crisis has lingering effects that last for years (as I think will be the case) then investors (those preferring not to use individual stocks) will need to seek out funds that are not heavy in financials. For that matter how long will the tech wreck continue to plague big technology companies?To the extent this logic makes sense then that leaves country, thematic and sector funds to build the portfolio--for people willing and able to spend the time.
The more interesting point could be the anger embedded in the comments. They seem to focus on the rich getting richer at the expense of the poor and how markets are rigged and the rich are all in on it. Based on the comments the resentment runs deep, obviously there is no way to know how representative this sentiment is but we all know it exists. I've made several mentions of my friend on Facebook in the "resentment camp" and he has since de-friended me.
We know that there have always been people who cheat one way or another and hopefully we realize that there will always be people who cheat and by cheat I mean break the law. I would imagine that the amount of people cheating ebbs and flows and I would have no idea whether there are now a lot of cheaters or just a few on a historical basis.
None of that changes the truthism mentioned above; people need to save money and get some sort of return on that money. In a way, if you already know there are cheaters participating in the markets then you would seem to have at least one thing in your corner. If you have one thing then maybe you have more than one thing in your corner.
Market cheaters will not prevent some list of countries available in ETF form from having very good returns over the next five years, nor will cheaters prevent some other countries available in ETF form from having lousy returns over the next five years. If agriculture turns out to be what I think it will be over the next few years then the role cheaters might play will have no long term effect. Looking back, you have no idea if cheaters have ever impacted your holdings unless the cheaters were caught and while I have no idea how many cheaters there are I don't think anyone believes most of them are getting caught.
The historical argument for buying equities, which to repeat was alive and well in the 2000s in other markets, was built with cheaters in there the whole time. There is no defending it, it is unfair when cheaters prosper without getting caught but it happens and markets go up and down all the same and none of this changes the fact that the less you have in equities the higher the savings rate needs to be.
The picture is the latest in the trend of college football fields that are not green. First, I believe, was the smurf turn at Boise State, then the inferno at Eastern Washington and now the above at Central Arkansas.
Read more!
Thursday, June 02, 2011
It's Ok To Not Get It
Yesterday David Yablon tweeted that the Fairholme Fund (FAIRX) managed by Bruce Berkowitz is down on the year versus a modest gain for the S&P 500. Per Google Finance FAIRX is down 7.75% and SPY is up 4.87%. For the last ten years (the default time frame at Morningstar for this fund) $10,000 has grown into $26,366 versus $12,631 for the S&P 500.
That long term result is outstanding and has come from a philosophy of having a small number of holdings, low turnover and a high cash balance. While I don't think it is possible to know how good of a stock picker he really is, the numbers are very impressive and he has not somehow become less of a stock picker in the last six months than he was over the last ten years.
The two holdings that people most associate with him, I think, are AIG and the St. Joe Company (JOE). According to Morningstar, AIG accounts for 7.63% of the portfolio and JOE accounts for 3.06% (I'd have thought JOE would have been larger). As far as these two names go AIG is a more controversial pick broadly speaking and JOE was a controversy of his own making for his dealings with the board.
YTD AIG is down 51% and for the last two years (more relevant time frame) JOE is down 11% versus a 48% lift for SPY. We've probably all heard multiple people making the case for AIG and I've never understood any of them or more correctly never agreed with any of them. A big part of the story for JOE, as Berkowitz was telling it, was a new airport in Panama City, FL would would make the panhandle easier to get to which would make all that acreage that JOE owns in the area go up in value. Is the panhandle an area people are clamoring to get to?
Had AIG and JOE turned out to have been great picks then it would have boiled to my not getting it (kind of like the show Glee, tried twice and couldn't last more than five minutes, people love it and I don't get it) which is OK, no one can understanding everything. If you read a lot about investing and you watch a lot of stock market television then a lot of ideas get thrown at you. Aside from the obvious fact that not all of them can be correct, no one can understand all of them.
This requires some self-awareness and a filter. Self-awareness to recognize your blind spots and to leave certain segments alone, not that you should not try to learn about something new to you but learning is different than committing capital. The filter being that if the primary thesis just doesn't make sense to you that you simply avoid the pick. The new panhandle airport simply was never something I was going to buy into and if that is a major catalyst (I think it was the primary one for Berkowitz) then clearly the idea was not for me.
This also means that you will miss things that do well, even be huge winners. AIG and JOE might turn out to be great but if that happens it will be without me. Again, that is ok, some things will go up without us, that is far better than buying things you know you don't really understand.
Read more!
That long term result is outstanding and has come from a philosophy of having a small number of holdings, low turnover and a high cash balance. While I don't think it is possible to know how good of a stock picker he really is, the numbers are very impressive and he has not somehow become less of a stock picker in the last six months than he was over the last ten years.
The two holdings that people most associate with him, I think, are AIG and the St. Joe Company (JOE). According to Morningstar, AIG accounts for 7.63% of the portfolio and JOE accounts for 3.06% (I'd have thought JOE would have been larger). As far as these two names go AIG is a more controversial pick broadly speaking and JOE was a controversy of his own making for his dealings with the board.
YTD AIG is down 51% and for the last two years (more relevant time frame) JOE is down 11% versus a 48% lift for SPY. We've probably all heard multiple people making the case for AIG and I've never understood any of them or more correctly never agreed with any of them. A big part of the story for JOE, as Berkowitz was telling it, was a new airport in Panama City, FL would would make the panhandle easier to get to which would make all that acreage that JOE owns in the area go up in value. Is the panhandle an area people are clamoring to get to?
Had AIG and JOE turned out to have been great picks then it would have boiled to my not getting it (kind of like the show Glee, tried twice and couldn't last more than five minutes, people love it and I don't get it) which is OK, no one can understanding everything. If you read a lot about investing and you watch a lot of stock market television then a lot of ideas get thrown at you. Aside from the obvious fact that not all of them can be correct, no one can understand all of them.
This requires some self-awareness and a filter. Self-awareness to recognize your blind spots and to leave certain segments alone, not that you should not try to learn about something new to you but learning is different than committing capital. The filter being that if the primary thesis just doesn't make sense to you that you simply avoid the pick. The new panhandle airport simply was never something I was going to buy into and if that is a major catalyst (I think it was the primary one for Berkowitz) then clearly the idea was not for me.
This also means that you will miss things that do well, even be huge winners. AIG and JOE might turn out to be great but if that happens it will be without me. Again, that is ok, some things will go up without us, that is far better than buying things you know you don't really understand.
Read more!
Wednesday, June 01, 2011
Maverick Risk
JJ Abodeely (occasional commenter on this blog) had a great post Monday about Maverick Risk. The opening quote from Rob Arnott tells you some about what the term means; The market doesn’t reward comfort. It rewards discomfort.
JJ explores different ways to be unconventional in terms of exposure, weightings and asset classes. Also noted is the synonymous term coined by GMO; career risk. Going with the crowd has an element of comfort because it is better to be wrong in the same manner as everyone else than to be wrong all by yourself. Maverick Risk means being able break free of the fear of being wrong by yourself.
While I might be reading what I want to read I think this idea, in the big picture sense has been a big focus of my writing and more importantly built into client portfolios.
The way I would suggest individuals apply this Maverick Risk is to be willing to entertain allocations that most people will not use. There needs to be an assumption of being willing to spend a certain amount of time on the task.
The mainstream (you can take that as both media and most of the professionals you see on TV and read on the web) is very slow to embrace anything new; Morningstar still doesn't understand ETFs. How many investment managers come on TV recommending domestic mega cap stocks no matter what is going on in the world? How many times have you heard "this will be the year for Japan?" Probably a little less knowable but how many managers do you suppose continue to have portfolios that look a lot like SPY/IWM/EFA?
Think about the last five or ten years and what has done well and what has done poorly. Chances are that if you underweighted the same old-same old you did much better than the comfortably wrong crowd. I would refer you to Bespoke Investment Group's decade numbers for all the markets in the world. I've made the point repeatedly that as the S&P 500 was going down 24% on a price basis and the EFA was annualized out to about 3.5% per year gain there were plenty of markets that had normal decades and plenty others that had much better than normal decades.
Likewise there were some themes that might not have been mainstream five or ten years ago that have done very well and are likely to continue to do very well but broad funds don't capture them. Over the years I have written about all sorts of themes and countries that not too many people have exposure to. Everyone I've ever explored came from something else I read that seemed interesting for one reason or another, some of which I have implemented into client portfolios.
Two ideas I have mentioned a couple of times have been Mongolia and cement. Van Eck has an ETF for Mongolia in the works and if it turns out to be very heavy in resources (some combo of energy and materials) then it might make sense to add that in as a means of increasing volatility of the portfolio at such a time that more volatility is desirable. While there is no cement ETF in the works that I know of it is not impossible that there could be one but as I sit here now it is not clear to me that cement, as part of the materials sector, would be a better place to be than mining, metals or agriculture. To the extent cement is part of the infrastructure theme, of which I am a big believer, I would rather access the theme via some combo of industrials and utilities which are large exposures in the iShares Emerging Market Infrastructure ETF (EMIF) that we own for clients.
All of this plays into top down portfolio construction, at least I think it does. Most of the decisions that I've made in the portfolio over the years have been very obvious when thought of in the big picture. I've joked before about how many times are you going to read that the housing and mortgage markets in Europe and the UK are deteriorating rapidly before you take action (obviously pertains to several years ago)? If you know the track record for a sector growing larger than 20% of the SPX is very bad aren't you going to underweight it? If a country has very little debt and an abundance of something the world must have aren't you going to figure a way in?
The term Maverick Risk has not really been a front burner term in this process. When constructing a portfolio of narrow products it seems only logical that time should be spent figuring out what to avoid, it just makes the task easier. Likewise if you can isolate some very obvious themes were money is going to flow. While maybe this is Maverick Risk, I actually think of it as being less risky.
Read more!
JJ explores different ways to be unconventional in terms of exposure, weightings and asset classes. Also noted is the synonymous term coined by GMO; career risk. Going with the crowd has an element of comfort because it is better to be wrong in the same manner as everyone else than to be wrong all by yourself. Maverick Risk means being able break free of the fear of being wrong by yourself.
While I might be reading what I want to read I think this idea, in the big picture sense has been a big focus of my writing and more importantly built into client portfolios.The way I would suggest individuals apply this Maverick Risk is to be willing to entertain allocations that most people will not use. There needs to be an assumption of being willing to spend a certain amount of time on the task.
The mainstream (you can take that as both media and most of the professionals you see on TV and read on the web) is very slow to embrace anything new; Morningstar still doesn't understand ETFs. How many investment managers come on TV recommending domestic mega cap stocks no matter what is going on in the world? How many times have you heard "this will be the year for Japan?" Probably a little less knowable but how many managers do you suppose continue to have portfolios that look a lot like SPY/IWM/EFA?
Think about the last five or ten years and what has done well and what has done poorly. Chances are that if you underweighted the same old-same old you did much better than the comfortably wrong crowd. I would refer you to Bespoke Investment Group's decade numbers for all the markets in the world. I've made the point repeatedly that as the S&P 500 was going down 24% on a price basis and the EFA was annualized out to about 3.5% per year gain there were plenty of markets that had normal decades and plenty others that had much better than normal decades.
Likewise there were some themes that might not have been mainstream five or ten years ago that have done very well and are likely to continue to do very well but broad funds don't capture them. Over the years I have written about all sorts of themes and countries that not too many people have exposure to. Everyone I've ever explored came from something else I read that seemed interesting for one reason or another, some of which I have implemented into client portfolios.
Two ideas I have mentioned a couple of times have been Mongolia and cement. Van Eck has an ETF for Mongolia in the works and if it turns out to be very heavy in resources (some combo of energy and materials) then it might make sense to add that in as a means of increasing volatility of the portfolio at such a time that more volatility is desirable. While there is no cement ETF in the works that I know of it is not impossible that there could be one but as I sit here now it is not clear to me that cement, as part of the materials sector, would be a better place to be than mining, metals or agriculture. To the extent cement is part of the infrastructure theme, of which I am a big believer, I would rather access the theme via some combo of industrials and utilities which are large exposures in the iShares Emerging Market Infrastructure ETF (EMIF) that we own for clients.
All of this plays into top down portfolio construction, at least I think it does. Most of the decisions that I've made in the portfolio over the years have been very obvious when thought of in the big picture. I've joked before about how many times are you going to read that the housing and mortgage markets in Europe and the UK are deteriorating rapidly before you take action (obviously pertains to several years ago)? If you know the track record for a sector growing larger than 20% of the SPX is very bad aren't you going to underweight it? If a country has very little debt and an abundance of something the world must have aren't you going to figure a way in?
The term Maverick Risk has not really been a front burner term in this process. When constructing a portfolio of narrow products it seems only logical that time should be spent figuring out what to avoid, it just makes the task easier. Likewise if you can isolate some very obvious themes were money is going to flow. While maybe this is Maverick Risk, I actually think of it as being less risky.
Read more!
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