A thought occurred to me the other day as I was looking at the filings page on the IndexUniverse weekly ETF Watch. It might be interesting to create a portfolio from some of the funds that are in registration. To be clear these funds do no exist (yet) and many of the filings are so old that it is quite clear to me that, assuming they are still active filings, some of the funds will never list but I'd very probably be a buyer of the WisdomTree Chilean Peso ETF if it ever listed. For purposes of this post I won't speculate on the likelihood that any filing will become a fund.
The approach will be to build at the sector level as best as I can which could be difficult for some funds where index composition is not available somewhere unless it is otherwise obvious by the name of the fund.
Financials
iShares MSCI New Zealand Investable Market Index Fund
iShares MSCI Egypt Investable Market Index Fund
Tech
First Trust Nasdaq CEA Smartphone Index Fund
sShares FTSE Environmental Technologies Index ETF
Industrial
SPDR Transportation ETF
SPDR Aerospace & Defense ETF
Healthcare
RevenueShares S&P 500 Health Care Sector Fund
EG Shares DJ Emerging Markets Titans Healthcare ETF
Energy
IQ Global Crude Oil Small Cap Equity ETF
IQ Global Natural Gas Small Cap Equity ETF
Consumer
Claymore China Consumer ETF
iShares MSCI New Zealand Investable Market Index Fund
Materials
GlobalX Fishing ETF
Market Vectors Minor Metals ETF
Telecom
EG Shares DJ Emerging Markets Titans Telecom Fund
Utilities
GlobalX Brazil Utilities
For the financial ETFs I was not able to find the constituents of the particular New Zealand ETF but the benchmark NZ 50 Index is very heavy in financial sector stocks and of those many are real estate stocks. The reason that the NZ ETF is also listed in with consumer stocks is that there are even more stocks from that sector in the NZ 50. Interestingly there are relatively few agricultural stocks in the index. Likewise I was not able to find the constituents of the Egypt index but the Market Vectors Egypt Index ETF (EGPT) is almost 50% in financial stocks.
The Smartphone ETF is a very recent listing and will clearly be a very popular trading vehicle and can play a role in the explore part of a portfolio for people with positive expectation for the group and also looking to add a little volatility. Yeah, I've never heard of sShares either.
The two industrial ETFs have a chance to offer some pretty good diversification within the sector. Transportation stocks tend to be more economically sensitive than defense contractors and this played out in 2H 2007 as the already existing iShares Transportation ETF (IYT) started rolling over months before the iShares Aerospace & Defense ETF (ITA).
The RevenueShares Healthcare fund takes the SPX healthcare stocks and weights them by revenue. Quite a few of their funds do well performance wise versus competing funds. The index components of the EG Shares Healthcare fund are available on the site. Like many of their sector funds it is BRIC heavy but interestingly Hungary is one of the larger countries at 9%. Something like this fund could offer meaningful exposure to medical tourism although that appears not to be the case; I don't believe there are a ton of those stocks out there.
Energy lends itself to a lot of themes but maybe a lot of the funds already exist based the lack of anything very interesting (read new) in the filings.
The increase in disposable income for consumers in emerging markets like China and Brazil and in a couple of years the CIVETS countries is a well known theme and there are already a couple of funds out there to capture this idea. Consumers in these countries will have more to spend in the coming years, indeed this trend has already started, and it seems reasonable to think that stocks in this space would benefit, they may not do well but it is a reasonable thesis. The consumer sector in New Zealand captures an economy that is less volatile than many of the countries we all talk about and read about and I believe NZ is a country that is in its own world--a term I think I can take credit for that I used to write about more often. By that I mean the economy just chugs along playing a small role in the world economic order with its relatively large trade deficit and generally higher interest rates than most destinations.
The materials sector offers a lot of potential for access to "new" parts of the market. Long time readers won't be surprised to see my continued interest in the GlobalX Fishing ETF which I hope will come and capture some of the very difficult to access stocks I've mentioned before (hopefully excluding Chinese reverse mergers). We'll have to see if it even lists. Minor metals also has potential to be very interesting as we all learn more about them and see demand continue to grow. The difficult thing about this sector is that it has a very small weighting in most broad benchmarks making even a 10% in the sector a huge overweight.
Telecom and Utilities are simple enough and stand to benefit from a flourishing middleclass, maybe utilities a little more so. To the extent someone wants more yield then individual stocks would make more sense. For example Marc Faber has mentioned a company called Thai Tap Water (TTAPF) a couple of times (that I have seen) in the last few months maybe longer. It has been a great performer and yields 6% even after going up a lot. Unfortunately the stock is very difficult to access but it makes the point that at some point investors will benefit from owning more than just ETFs.
I got a little pushback at Seeking Alpha on the dividend idea from the other day questioning the utility of posts like this which is reasonable of course but I do believe this sort of thing can be constructive. One concept that gets very little attention elsewhere (correct me if I am wrong) is how the blending together of holdings creates a portfolio with characteristics that can be managed in small increments and big changes. I believe this has contributed mightily to the result we have achieved over the last six plus years of composite returns.
To the extent this site is about sharing process I spend time looking at all sorts of stocks, assessing how they might blend in, following them and maybe at some point working a couple of new names in based on this. I go through this with far more stocks than actually get added to the portfolio. Additionally after reading the mention of Thai Tap Water, which I do not own, some of you will research it, no doubt find other names you don't know to look at and thus you've learned a little more about the water theme and while Thai Tap Water might not be an ideal candidate for inclusion a little more info about the theme is a productive use of time.
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Wikinvest Wire
Tuesday, August 31, 2010
Monday, August 30, 2010
Dark Side Of The Equities Moon
Albert Edwards was quoted (or maybe paraphrased is a better word) this weekend by both Alan Abelson and Prieur du Plessis with some dire price targets for the S&P 500. Neither post provided links but there were two different numbers; Abelson said Edwards was targeting SPX 250 or almost 80% below current levels and Prieur cited a target of 450 for the S&P 500.
The general idea here is that true "revulsion" doesn't does not happen until PE ratios compress into the single digits as they did in the early 1980s. Edwards writes “as the equity bloodbath of the last decade enters its final, even bloodier phase..." so we have that to look forward to.
The argument relies on reversion to the mean which is backward looking. If this secular bear is to have a "third act" there is no reason it has to take the S&P 500 down to 450 just as there is no reason it has to stop at 450. Another point is that wherever a decline might bottom (450, 850, 150) it will probably not spend much time there. During the worst of the recent (current?) bear market the S&P 500 spent 23 days below 800 from February 17 to March 20. There was also one close in November below 800 and I bet you don't remember that one but the S&P 500 dropped 6.6% on November 20, 2008 to close at 752 and bounced back the next day to close at exactly 800.
There are many other instances of bear market lows being very quick despite the panic they engender. The point here is that for people who do not heed warnings from the market and lighten up early then whenever a low does come that means from there it goes higher, even if it takes a long time, so it is crucial to resist the urge to panic--try to remember the emotion in the market in March of 2008, go read the comments from whatever blogs you like from that time as a reminder because if the market scares down it means people will be scared (intended to be a very obvious comment).
In many posts I have noted my belief that the longer term outlook for US growth and by extension equities is not great, that I expect many foreign markets to outperform over a period of years. Should there be another or final washout as Edwards is looking for it will surely take down just about every other foreign market, there will be no decoupling such that during a 30% drop in the SPX other markets will go up. This was true in 2008 and would be true again. However it is also true, this is a point I made before the 2008 declines started and it worked out this way, that many of these markets will go down less, go down on different timelines and come back sooner.
As I said a couple of years ago the important thing is to mentally prepare for a large decline. The current fundamentals stink, the bond market is visibly distorted and demand for equities is currently unhealthy (IMO anytime the SPX is below its 200 DMA demand is unhealthy). As John Hussman might say current conditions favor downside risk over reward at the moment. Maybe equities won't go lower from here ever again but that outcome is not what needs to be protected against (either in terms of trades placed or mental preparation to avoid panic selling).
I find it truly astounding how many professionals appear to be caught off guard by large downturns yet it always happens and will happen again even if the next downturn does not come until the next cycle. The biggest mistakes get made during times of panic, lack of readiness sets the stage for mistakes that get made during times of panic. This is universally true.
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The general idea here is that true "revulsion" doesn't does not happen until PE ratios compress into the single digits as they did in the early 1980s. Edwards writes “as the equity bloodbath of the last decade enters its final, even bloodier phase..." so we have that to look forward to.
The argument relies on reversion to the mean which is backward looking. If this secular bear is to have a "third act" there is no reason it has to take the S&P 500 down to 450 just as there is no reason it has to stop at 450. Another point is that wherever a decline might bottom (450, 850, 150) it will probably not spend much time there. During the worst of the recent (current?) bear market the S&P 500 spent 23 days below 800 from February 17 to March 20. There was also one close in November below 800 and I bet you don't remember that one but the S&P 500 dropped 6.6% on November 20, 2008 to close at 752 and bounced back the next day to close at exactly 800.
There are many other instances of bear market lows being very quick despite the panic they engender. The point here is that for people who do not heed warnings from the market and lighten up early then whenever a low does come that means from there it goes higher, even if it takes a long time, so it is crucial to resist the urge to panic--try to remember the emotion in the market in March of 2008, go read the comments from whatever blogs you like from that time as a reminder because if the market scares down it means people will be scared (intended to be a very obvious comment).In many posts I have noted my belief that the longer term outlook for US growth and by extension equities is not great, that I expect many foreign markets to outperform over a period of years. Should there be another or final washout as Edwards is looking for it will surely take down just about every other foreign market, there will be no decoupling such that during a 30% drop in the SPX other markets will go up. This was true in 2008 and would be true again. However it is also true, this is a point I made before the 2008 declines started and it worked out this way, that many of these markets will go down less, go down on different timelines and come back sooner.
As I said a couple of years ago the important thing is to mentally prepare for a large decline. The current fundamentals stink, the bond market is visibly distorted and demand for equities is currently unhealthy (IMO anytime the SPX is below its 200 DMA demand is unhealthy). As John Hussman might say current conditions favor downside risk over reward at the moment. Maybe equities won't go lower from here ever again but that outcome is not what needs to be protected against (either in terms of trades placed or mental preparation to avoid panic selling).
I find it truly astounding how many professionals appear to be caught off guard by large downturns yet it always happens and will happen again even if the next downturn does not come until the next cycle. The biggest mistakes get made during times of panic, lack of readiness sets the stage for mistakes that get made during times of panic. This is universally true.
Read more!
Sunday, August 29, 2010
Sunday Morning Coffee
I wanted to carry the dividends idea forward a little bit. There are some enormous dividends out there to be had. What I thought I would do is construct a portfolio where for each sector there is one very high yielding stock and one ETF. For compliance reasons I need to shy away from specific percentages allocated to each holding as the rules around this stuff assume that people add 2+2, get 22 and go out an implement the portfolio.
Financials
Westpack Banking (WBK) yields 5.80%
iShares S&P Global Financials (IXG) yields 2.16%
Healthcare
Merck (MRK) yields 4.40%
Pfizer (PFE) yields 4.50%
Energy
YPF Sociedad Anonima (YPF) yields 7.10%
Energy Sector SPDR (XLE) yields 1.87%
Industrials
Nordic American Tanker (NAT) yields 8.90%
Industrial Sector SPDR (XLI) yields 1.91%
Staples
Kimberly Clark (KMB) yields 4.10%
Staples Sector SPDR (XLP) yields 2.74%
Discretionary
VF Corp (VFC) yields 3.20%
Time Warner (TWX) yields 2.80%
Tech
Intel (INTC) yields 3.40%
Taiwan Semi (TSM) yields 3.90%
Utilities
National Grid (NGG) yields 6.70%
Utilities Sector SPDR (XLU) yields 4.14%
Materials
Lafarge (LFRGY) yields 5.74%
BASF (BASFY) yields 4.28%
Telecom
AT&T (T) yields 6.30%
NZ Telecom (NZT) yields 9.80%
For a couple of the sectors I used two stocks instead of one stock and one ETF. A couple of the yields are very high, it would make me very nervous if every stock I owned yielded more than 7%. The way I did the math the mix yields 4.2% but you can play around with the numbers and weight this out however makes sense to you or better yet look at names in the context that are of interest to you. In general terms the payout ratios are very reasonable other than maybe NZT and WBK. The debt levels for these companies is generally decent except for sectors where you typically see high debt levels like telecom, utilities and financials.
A rundown of sorts on these stocks; WBK did not go down anywhere near as much as a broad financial sector ETF during the worst of the bear market and is now much farther ahead, both PFE and MRK did much worse than a broad sector fund during the worst of the bear and are still quite a ways behind, YPF did about the same as XLE in terms of decline but on a slightly different timetable and has come back much quicker, NAT went down much less than XLI but both are down the same 30% from the peak, KMB has done a little worse than XLP since the peak, VFC did a little better than a broad sector fund and TWX has done a little worse, INTC had performed very similarly to a broad tech fund trailing off lately while TSM has done much better, NGG has done quite a bit worse than XLU, LFRGY has done much worse and BASFY about the same as a broad materials fund and finally T did a little better and NZT quite a bit worse than IYZ.
The purpose of that last paragraph is to demonstrate how a portfolio of semi randomly chosen (I believe all of them are decent companies even if I don't own any of them) high yielding stocks chosen as the Red Sox were losing in extra innings fared through what might turn out to be the worst stretch for equities for a long time. So using the bear market as a barometer of sorts. Assuming none of the are fraudulent companies and there are no dramatic changes to the structure (good or bad) of these companies what you'd see if you charted all of them could give a reasonable idea in the event of another top down market scare.
With a little more time and thought there should be more foreign names in the mix more specifically better country diversification. There are more and more CIVETS stocks with ADRs such that maybe one or two could be worked in. I would note that a portfolio full of American and Western European dividend payers bears out as not being very desirable here. Other than NZT this is were most of the laggards are from (I was surprised that KMB lagged a little).
This really was just a thought exercise, notice no need for any ownership disclosures, as many people seem to love the idea of buying "great companies with high dividends" and just holding on which I disagree with. Buying and hoping to hold is valid but market conditions sometimes dictate reducing net long exposure.
Read more!
Financials
Westpack Banking (WBK) yields 5.80%
iShares S&P Global Financials (IXG) yields 2.16%
Healthcare
Merck (MRK) yields 4.40%
Pfizer (PFE) yields 4.50%
Energy
YPF Sociedad Anonima (YPF) yields 7.10%
Energy Sector SPDR (XLE) yields 1.87%
Industrials
Nordic American Tanker (NAT) yields 8.90%
Industrial Sector SPDR (XLI) yields 1.91%
Staples
Kimberly Clark (KMB) yields 4.10%
Staples Sector SPDR (XLP) yields 2.74%
Discretionary
VF Corp (VFC) yields 3.20%
Time Warner (TWX) yields 2.80%
Tech
Intel (INTC) yields 3.40%
Taiwan Semi (TSM) yields 3.90%
Utilities
National Grid (NGG) yields 6.70%
Utilities Sector SPDR (XLU) yields 4.14%
Materials
Lafarge (LFRGY) yields 5.74%
BASF (BASFY) yields 4.28%
Telecom
AT&T (T) yields 6.30%
NZ Telecom (NZT) yields 9.80%
For a couple of the sectors I used two stocks instead of one stock and one ETF. A couple of the yields are very high, it would make me very nervous if every stock I owned yielded more than 7%. The way I did the math the mix yields 4.2% but you can play around with the numbers and weight this out however makes sense to you or better yet look at names in the context that are of interest to you. In general terms the payout ratios are very reasonable other than maybe NZT and WBK. The debt levels for these companies is generally decent except for sectors where you typically see high debt levels like telecom, utilities and financials.
A rundown of sorts on these stocks; WBK did not go down anywhere near as much as a broad financial sector ETF during the worst of the bear market and is now much farther ahead, both PFE and MRK did much worse than a broad sector fund during the worst of the bear and are still quite a ways behind, YPF did about the same as XLE in terms of decline but on a slightly different timetable and has come back much quicker, NAT went down much less than XLI but both are down the same 30% from the peak, KMB has done a little worse than XLP since the peak, VFC did a little better than a broad sector fund and TWX has done a little worse, INTC had performed very similarly to a broad tech fund trailing off lately while TSM has done much better, NGG has done quite a bit worse than XLU, LFRGY has done much worse and BASFY about the same as a broad materials fund and finally T did a little better and NZT quite a bit worse than IYZ.
The purpose of that last paragraph is to demonstrate how a portfolio of semi randomly chosen (I believe all of them are decent companies even if I don't own any of them) high yielding stocks chosen as the Red Sox were losing in extra innings fared through what might turn out to be the worst stretch for equities for a long time. So using the bear market as a barometer of sorts. Assuming none of the are fraudulent companies and there are no dramatic changes to the structure (good or bad) of these companies what you'd see if you charted all of them could give a reasonable idea in the event of another top down market scare.
With a little more time and thought there should be more foreign names in the mix more specifically better country diversification. There are more and more CIVETS stocks with ADRs such that maybe one or two could be worked in. I would note that a portfolio full of American and Western European dividend payers bears out as not being very desirable here. Other than NZT this is were most of the laggards are from (I was surprised that KMB lagged a little).This really was just a thought exercise, notice no need for any ownership disclosures, as many people seem to love the idea of buying "great companies with high dividends" and just holding on which I disagree with. Buying and hoping to hold is valid but market conditions sometimes dictate reducing net long exposure.
Read more!
Saturday, August 28, 2010
The Big Picture for the Week of August 29, 2010
A couple of observations about a couple of individual stocks.The first stock to mention is Intel (INTC). It made news yesterday for a revenue warning and it made news a few days ago for its intention to buy McAfee (MFE). The idea behind the take over, as I understand it, is to embed security directly into the chip. The stock has long been a titan in the tech world at least in stature even if not performance for the last ten years. Prior to the last decade it generally was a very good performer as the world began to adopt, and upgrade, personal computers with Intel chips.
The stock price topped out ten years ago, almost to the day actually, at about $72 and closed yesterday at $18.37. Intel is not the only tech mega cap to be down that much over the last decade. Obviously the highs from ten years ago were a product of the bubble and on a slightly more fundamental level computers and the internet have already changed our lives. The growth in the future may be good or bad, this applies to many of these stocks, but the impact on our lives from here is now more likely to be evolutionary not revolutionary like it was 10, 12, 14 years ago.
Looking forward Intel is clearly in a position to still make computing better in developed countries and more available to developing countries and wherever innovation goes the company can be a part of it and grow nicely and profitably but probably not explosively save for the occasional six or 12 month period. Back in 2000 Intel's PE ratio peaked out near 70, worked lower fairly quickly to around 20 where it stayed for a while, it then shot way up over 100 into late 2002 and early 2003 before going back down again fairly quickly. For most of 2003 it meandered around 45, and then dropped precipitously in 2004 to about 15. From there the PE seemed to be rangebound between 15 and 25 until the low in March 2009. From there it shot up and then rolled over to where it is now at 11 times TTM. The historical info came from BigCharts, you can add PE ratio as one of the lower indicators.
I don't believe PE ratios offer much predictive value as stocks can stay cheap or expensive for a long time but 11x is cheap based on Intel's past. The near term growth estimates are very modest, the company has $18 billion in cash (before buying MFE), $2.5 billion in debt, most of the other stats are decent and the company yields 3.4% which strikes me as very high. The payout ratio for that dividend is around 30%.
Tying in to the post earlier in the week about dividends I have no doubt that should the market go down a lot from here Intel would also go down a lot but maybe a little less for being relatively cheap. The interesting thing is the extent to which the stock, as opposed to the company, has changed over the years from a high flier to a slow grower with a fat, albeit easily covered, dividend. I don't own the name directly and can't envision buying it but that 3.4% is available in this sector is fascinating.
The other stock to mention is 3Par (PAR) and the bidding war that has broken out between Hewlett Packard (HPQ) and Dell (DELL). 3Par is in the cloud computing space which seems like a reasonable next step, or maybe a couple of steps down the road, for the tech industry to take. It would be reasonable to conclude that HPQ and DELL think it is important anyway.
Based on the chart there are pages and pages of headlines to scroll through) after trading at $10 for a long time the first offer came taking the stock up to $18. Then the stock jumped up to $26 and closed yesterday at $32.46. The point here is not the exact prices of the offers or where the stock ultimately gets taken out but how this one has been an exception to a pretty reliable rule of thumb that I have written about, relied on in the past and will rely on in the future should a stock we own for clients get a bid.
I have found that in most instances it doesn't get any better than when news of the offer first hits and the stock has the initial pop. The best example of this from my own experience is from a little over three years ago when news hit that Microsoft was taking a run at Yahoo. Yahoo was a client holding, I woke up that morning, saw the news and sold the name in the pre-market session. This also worked on a personal level, when I was in a different part of the business and pre-blog, selling AOL immediately after the news of the Time Warner merger.
Obviously no single strategy or type of trade can be the best way to go 100% of the time so it is interesting to see the 3Par saga play out in ever higher prices. Had we owned it I would have sold the day of the first offer (maybe the second day for logistics but no later than that).
The picture is from Zion National Park.
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Friday, August 27, 2010
Solving Our Own (Spending) Problems
Yesterday I had a quick but interesting chat with an acquaintance about spending in retirement and the issue that too many people have with spending beyond their means. In the conversation I think I hit on a couple of things that could be useful for people who grapple with this issue.
Take a retired person with an expensive hobby like car restoration, that is buying something old and or sentimental and doing whatever is needed to make it look like new. This could include replacing a lot of the moving parts, the interior and painting the car. This is a labor of love that can be expensive. This same retired person might have a retirement portfolio that provides some portion of their income along with social security. Depending on their involvement in their portfolio they might be aware of the fluctuations of their portfolio and get nervous when it goes down.
If our car restoring enthusiast retired making $10,000 per month they would have been making a fine living but would not necessarily be rich (eye of the beholder on that number). That sort of income probably means the person is living $6500 lifestyle in that maybe about $2000 goes to state and federal taxes and maybe $1000-$1500 to savings. If the numbers in this example are reasonable and this person is collecting $2000/mo from social security then the portfolio needs to have $1.35 million to have a 4% withdrawal rate cover the $4500 per month (taxes in retirement could complicate the numbers but still) , assuming our active hobbyist wants the exact same lifestyle dollar wise.
So this person either has that much or he doesn't. To have the best chance of having enough money the withdrawal rate should be 1% per quarter or less, the further the person goes above that 1% per quarter the more risk of running out of money. If our hobbyist still has a mortgage (more and more retirees do these days) then $6500 might be a nice lifestyle but it is not a lot of money and the restoration projects loom large for this person.
The thing I stumbled upon in my conversation yesterday is that a person in the above situation needs to have their own moment of clarity on their hobby or whatever anyone spends money on beyond the basics. Advisors or concerned family members or whoever else can try but it is very difficult to get through. Perhaps this is obvious but the way it came out as I was saying it was new to me and I think very important. Generally there is a mismatch between what we have saved and what we need to live on in retirement and cover the one-offs that seem to come every month not to mention hobbies like car restoration or buying an RV or an Indian Motorcycle.
People running out of money is certainly nothing new but I think it is reassuring in a way that difficult though it may be a self imposed austerity can be a difference maker in the success or failure of a financial plan. Being in the position to decide to spend less on Civil War reenactment (to pick another example of a hobby that might cost money) of course presumes that there was retirement saving during the working years and there is enough saved to have some shot at a workable plan.
Some of the average 401k balances that are reported (they all seem to be less than $100,000) are not really enough for a retirement plan. Even $200,000 comes far short as $8000 is not a workable number for most folks. But people who made the necessary decisions early on to try to save properly can be in a position to make decisions as opposed to having their circumstance dictate everything.
Someone who needs $700,000 to make their plan work the way they would like but who only has $600,000 is probably in a position to decide what is sacrificed and what stays in the lifestyle. One way where people get in trouble in this sort of scenario is when they think $600,000 makes them rich. It sound like a lot of money alright but using the 4% rule it generates $24,000 per year.
Another part of the thought process here for the spender which came from this conversation is that there are three variables here; the portfolio, the market and personal spending habits. Of those variables what do you have the most control over? Clearly the third one--the context here is spending habits, getting sick or the like is certainly something people need to prepare for but is a different context. So although it can be very difficult, some discipline where discretionary spending is concerned (obvious comment) can be a difference maker but to repeat from above the spender needs to come to this on their own. To apply a generic bit of wisdom from our friend Bill; you can figure it out now or you can figure it out later but if you can figure it out now you'll be much better off.
Read more!
Take a retired person with an expensive hobby like car restoration, that is buying something old and or sentimental and doing whatever is needed to make it look like new. This could include replacing a lot of the moving parts, the interior and painting the car. This is a labor of love that can be expensive. This same retired person might have a retirement portfolio that provides some portion of their income along with social security. Depending on their involvement in their portfolio they might be aware of the fluctuations of their portfolio and get nervous when it goes down.If our car restoring enthusiast retired making $10,000 per month they would have been making a fine living but would not necessarily be rich (eye of the beholder on that number). That sort of income probably means the person is living $6500 lifestyle in that maybe about $2000 goes to state and federal taxes and maybe $1000-$1500 to savings. If the numbers in this example are reasonable and this person is collecting $2000/mo from social security then the portfolio needs to have $1.35 million to have a 4% withdrawal rate cover the $4500 per month (taxes in retirement could complicate the numbers but still) , assuming our active hobbyist wants the exact same lifestyle dollar wise.
So this person either has that much or he doesn't. To have the best chance of having enough money the withdrawal rate should be 1% per quarter or less, the further the person goes above that 1% per quarter the more risk of running out of money. If our hobbyist still has a mortgage (more and more retirees do these days) then $6500 might be a nice lifestyle but it is not a lot of money and the restoration projects loom large for this person.
The thing I stumbled upon in my conversation yesterday is that a person in the above situation needs to have their own moment of clarity on their hobby or whatever anyone spends money on beyond the basics. Advisors or concerned family members or whoever else can try but it is very difficult to get through. Perhaps this is obvious but the way it came out as I was saying it was new to me and I think very important. Generally there is a mismatch between what we have saved and what we need to live on in retirement and cover the one-offs that seem to come every month not to mention hobbies like car restoration or buying an RV or an Indian Motorcycle.People running out of money is certainly nothing new but I think it is reassuring in a way that difficult though it may be a self imposed austerity can be a difference maker in the success or failure of a financial plan. Being in the position to decide to spend less on Civil War reenactment (to pick another example of a hobby that might cost money) of course presumes that there was retirement saving during the working years and there is enough saved to have some shot at a workable plan.
Some of the average 401k balances that are reported (they all seem to be less than $100,000) are not really enough for a retirement plan. Even $200,000 comes far short as $8000 is not a workable number for most folks. But people who made the necessary decisions early on to try to save properly can be in a position to make decisions as opposed to having their circumstance dictate everything.
Someone who needs $700,000 to make their plan work the way they would like but who only has $600,000 is probably in a position to decide what is sacrificed and what stays in the lifestyle. One way where people get in trouble in this sort of scenario is when they think $600,000 makes them rich. It sound like a lot of money alright but using the 4% rule it generates $24,000 per year.
Another part of the thought process here for the spender which came from this conversation is that there are three variables here; the portfolio, the market and personal spending habits. Of those variables what do you have the most control over? Clearly the third one--the context here is spending habits, getting sick or the like is certainly something people need to prepare for but is a different context. So although it can be very difficult, some discipline where discretionary spending is concerned (obvious comment) can be a difference maker but to repeat from above the spender needs to come to this on their own. To apply a generic bit of wisdom from our friend Bill; you can figure it out now or you can figure it out later but if you can figure it out now you'll be much better off.
Read more!
Thursday, August 26, 2010
James Montier Loves Dividends
Barry Ritholtz posted a commentary from James Montier about dividends that is a useful read and has some handy data. To a large extent I am a big fan of dividends but there are limits to what they can provide. If you think in terms of the S&P 500 having yielded close to 2% for quite a while now (it yielded much more in decades past), a portfolio that yields the same 2% is relying on price appreciation for a lot of the return. The more a portfolio relies on price appreciation the more the person running the portfolio has to be correct about selecting countries, sectors, stocks, themes and so on. The higher the yield the less reliance the portfolio has on the manager being right.
At the same time though a portfolio full of 4-5 percenters is probably not going to be a very well diversified portfolio. In most years this won't matter but in a year like 2003 or 2009 a dividend centric portfolio will likely lag. In 2009 the SPX was up 29%, SDY was up 20% and DVY was up 11%. In 2008 DVY did a tad worse than the S&P 500 but SDY did quite a bit better. From the peak in October 2007 to what is hopefully the low in March 2009 the SPX dropped 56%, SDY 55% and DVY 62%. The reason to mention DVY and SDY is that they use different methodologies.
In terms of what dividends cannot do for you, a portfolio of great dividend payers that go down 40% in a down 56% world paying 4% is a poor substitute for the top down decision to reduce, not eliminate, equity exposure in the face of an unhealthy market (for anyone new we take defensive action when the S&P 500 goes below its 200 DMA).
Top down in its simplest form calls for getting out of the market when conditions favor the downside with the idea being it is unlikely that an investor can find the few stocks that will go up during a 50% decline and relevant to this conversation a 4% dividend does not provide much solace.
However in a market that is down a little like maybe 5-10% the shelter offered by dividends becomes much more compelling. Again though too much exposure to fat, albeit healthy, yields increases the likelihood of getting left behind during a great up year and there are few enough of those that getting left behind in 2003 is a very bad idea when you consider that in most bull cycles a disproportionately large amount of the cycle's up move comes in only one year.
IMO a properly diversified portfolio owns all different types of stocks including some high yielders and some zero yielders (and others in between). If a diversified portfolio includes several 4-5 percenters and maybe one MLP (or the like) and then a few that are close to the market's 2% then the portfolio has a good chance of having the overall yield coming in at 3% and while that may not sound like much more than the market, 100 basis points of "extra" yield puts less pressure, as mentioned above, on the rest of the portfolio but should do a better job going along for the ride when the market is up a lot, assuming it is reasonably well constructed.
Dividends are also one of the benefits of foreign investing. Many markets typically have larger dividends than the US market. For example iShares Singapore (EWS) yields 3.05%, client and personal holding iShares Australia (EWA) yields 3.79% and iShares Brazil (EWZ) yields 3.66%. I would note those are trailing yields and future payouts might be much different.
Another positive for dividends is the accumulation over long periods of time. As noted EWA yields 3.79%. Most clients own Australia and New Zealand Bank (ANZBY) for exposure to the country, I first bought it in September 2003 and have held it ever since. Throughout most of that time as the stock has had its ups and downs it has yielded 5% except when the market was panicking down when the yield was in the neighborhood of 10%.
For purposes of this post I did not look up the exact date of purchase nor do I have the exact price but on Sept 15 2003 the ADR closed at a split adjusted $12.10. Since I've owned it has done fabulously well at some points, went down a lot during the panic, went up a lot during the snapback all of which leaves the original purchase up $7.56 as of yesterday's close which works out to a 62% price appreciation versus a 1.8% gain for the S&P 500 (SPX closed at 1036 on September 15 2003). While I think that is good, clients who bought back then have also collected $6.92 in dividends making the total gain $14.48 or 119%.
While that was a warm story about a boy and his dividends it is just one example there are countless others and this sort of thing is part of the argument that the dividend-only crowd relies on but it is still no substitute in my opinion for defensive action in the face of a troubled market. While this may seem contradictory I believe it is more of an all things in moderation approach. I mentioned top down in its simplest would have someone completely out of the market but that is not practical for several reasons. This has been a name that I bought with the hope holding forever and so far so good.
Over that long period of time I believe the result in the one bank stock combined with other top down things done have helped with the long term result. However just as important has been another foreign stock held almost as long that I have mentioned many times before that is up about 700% going back to September 2003 (up a little over 200% since I bought in 2005) but is not much of a dividend payer. Again there are countless others that have done something similar. I would expect any well diversified portfolio to have a couple like the dividend paying bank and the other foreign stock that is up a lot.
From the standpoint of investing for the entire cycle, or with the idea of giving yourself the best chance possible of having enough money when you need it, it makes sense (repeated for emphasis) to own different types of stocks with with different attributes.
Read more!
At the same time though a portfolio full of 4-5 percenters is probably not going to be a very well diversified portfolio. In most years this won't matter but in a year like 2003 or 2009 a dividend centric portfolio will likely lag. In 2009 the SPX was up 29%, SDY was up 20% and DVY was up 11%. In 2008 DVY did a tad worse than the S&P 500 but SDY did quite a bit better. From the peak in October 2007 to what is hopefully the low in March 2009 the SPX dropped 56%, SDY 55% and DVY 62%. The reason to mention DVY and SDY is that they use different methodologies.
In terms of what dividends cannot do for you, a portfolio of great dividend payers that go down 40% in a down 56% world paying 4% is a poor substitute for the top down decision to reduce, not eliminate, equity exposure in the face of an unhealthy market (for anyone new we take defensive action when the S&P 500 goes below its 200 DMA).
Top down in its simplest form calls for getting out of the market when conditions favor the downside with the idea being it is unlikely that an investor can find the few stocks that will go up during a 50% decline and relevant to this conversation a 4% dividend does not provide much solace.
However in a market that is down a little like maybe 5-10% the shelter offered by dividends becomes much more compelling. Again though too much exposure to fat, albeit healthy, yields increases the likelihood of getting left behind during a great up year and there are few enough of those that getting left behind in 2003 is a very bad idea when you consider that in most bull cycles a disproportionately large amount of the cycle's up move comes in only one year.
IMO a properly diversified portfolio owns all different types of stocks including some high yielders and some zero yielders (and others in between). If a diversified portfolio includes several 4-5 percenters and maybe one MLP (or the like) and then a few that are close to the market's 2% then the portfolio has a good chance of having the overall yield coming in at 3% and while that may not sound like much more than the market, 100 basis points of "extra" yield puts less pressure, as mentioned above, on the rest of the portfolio but should do a better job going along for the ride when the market is up a lot, assuming it is reasonably well constructed.Dividends are also one of the benefits of foreign investing. Many markets typically have larger dividends than the US market. For example iShares Singapore (EWS) yields 3.05%, client and personal holding iShares Australia (EWA) yields 3.79% and iShares Brazil (EWZ) yields 3.66%. I would note those are trailing yields and future payouts might be much different.
Another positive for dividends is the accumulation over long periods of time. As noted EWA yields 3.79%. Most clients own Australia and New Zealand Bank (ANZBY) for exposure to the country, I first bought it in September 2003 and have held it ever since. Throughout most of that time as the stock has had its ups and downs it has yielded 5% except when the market was panicking down when the yield was in the neighborhood of 10%.
For purposes of this post I did not look up the exact date of purchase nor do I have the exact price but on Sept 15 2003 the ADR closed at a split adjusted $12.10. Since I've owned it has done fabulously well at some points, went down a lot during the panic, went up a lot during the snapback all of which leaves the original purchase up $7.56 as of yesterday's close which works out to a 62% price appreciation versus a 1.8% gain for the S&P 500 (SPX closed at 1036 on September 15 2003). While I think that is good, clients who bought back then have also collected $6.92 in dividends making the total gain $14.48 or 119%.
While that was a warm story about a boy and his dividends it is just one example there are countless others and this sort of thing is part of the argument that the dividend-only crowd relies on but it is still no substitute in my opinion for defensive action in the face of a troubled market. While this may seem contradictory I believe it is more of an all things in moderation approach. I mentioned top down in its simplest would have someone completely out of the market but that is not practical for several reasons. This has been a name that I bought with the hope holding forever and so far so good.
Over that long period of time I believe the result in the one bank stock combined with other top down things done have helped with the long term result. However just as important has been another foreign stock held almost as long that I have mentioned many times before that is up about 700% going back to September 2003 (up a little over 200% since I bought in 2005) but is not much of a dividend payer. Again there are countless others that have done something similar. I would expect any well diversified portfolio to have a couple like the dividend paying bank and the other foreign stock that is up a lot.
From the standpoint of investing for the entire cycle, or with the idea of giving yourself the best chance possible of having enough money when you need it, it makes sense (repeated for emphasis) to own different types of stocks with with different attributes.
Read more!
Wednesday, August 25, 2010
The Market Still Stinks
David Rosenberg is making some new noise about the US being in a depression. He is not alone in this line of thinking but of course he has the ear of much of the investing population. He has generally been on the right side of the trade for the last several years but drew much criticism for missing the rally that started in March 2009. He has been just as right about US treasury bonds as yields have continued to drop in what looks like fear of deflation playing out in the US bond market.
For now the yield of ten year treasury is very low at 2.50% (per the TNX close), the VIX is high, relative to the last month and of course in the last month the S&P 500 is down 5%. The economic numbers that would seem to be most important, those pertaining to housing and jobs, also seem to be deteriorating. One pundit noted that bank stocks have rolled over and are turning lower.
In trying to better understand the magnitude of what is going on I would circle back to a a couple of points made here previously. There was a lot of commentary calling for a V shaped recovery, Tony Dwyer use to be on CNBC a lot calling for a "capital V" recovery. This line of thinking never made a lick of sense to me. As I stated many times over, and it still applies now, if you believe this has been the worst financial crisis in 80 years then there is no way it was going to resolve like other cyclical downturns. Thinking otherwise is to not appreciate the potential magnitude of such a monumental event.
This does not have to mean that from here the market has to go much lower or that there will be some sort of Armageddon scenario. Obviously the market could cut in half but panicked selling does exhaust and while I believe the US market will be feeling this for a while I believe it will look like below average growth as other countries recover faster. This is something I've been saying all along and something that has been playing out of late.
To the point of a depression or not, if it turns out that this period does get labeled as being a depression, at this point, summer of 2010, we are a long way into it.
Another point I would reiterate is that despite some heroic rallies in some of the big American banks most impacted by the crisis it is going to be a long time before they are healthy again; great trades along the way, yes, healthy companies on solid fundamental ground, no.
As the US equity market continues to churn around here in between whatever you want to define as the range it is correcting in terms of time; markets correct in both price and time. The SPX is down 38% from its high almost three years ago. While there have certainly been periods in the last three years of extreme volatility we now three years on and still down a lot. If from here, in the process of sorting through and eventually recovering, the S&P 500 bottoms out at 950 then I don't think history will discern between 1050 and 950. If it goes back to 650, well history will discern that but I do not think the seemingly miserable back drop of a deflation threat, lousy housing data, much we don't know about coming writedowns and an employment situation that is much further behind where it should be by now has to mean equity prices implode.
Not imploding is not a bullish argument to buy 'em with both hands and as I said before while the market could cut in half from here the probability is low as the things I mentioned in the previous paragraph are not secrets and sometimes the market is efficient.
Either way I still come to the same conclusion which is the need to allocate more to foreign markets. It is very difficult to build a case that over a period of years the US is going to be relatively compelling versus a lot of other countries with Western Europe and Japan as possible exceptions. One of the complaints during the meltdown was that decoupling was bogus. Well maybe for six months or a year that is the case but (repeat data coming) during the last decade as the S&P 500 was dropping 24% on a price basis, Brazil was going up 301%, India up 243%, Chile up 194%, Norway up 121%, Israel up 109%, Australia up 51% and Canada up 39%.
You can do your own work to try to figure out what countries will do well in the new decade should my base case of below "normal" growth in the US turn out to be right or if it turns out to be worse than just below normal growth but there will be plenty of countries that out perform. And if you think the US will have normal or better than normal growth then you don't need to worry about country selection.
Read more!
For now the yield of ten year treasury is very low at 2.50% (per the TNX close), the VIX is high, relative to the last month and of course in the last month the S&P 500 is down 5%. The economic numbers that would seem to be most important, those pertaining to housing and jobs, also seem to be deteriorating. One pundit noted that bank stocks have rolled over and are turning lower.
In trying to better understand the magnitude of what is going on I would circle back to a a couple of points made here previously. There was a lot of commentary calling for a V shaped recovery, Tony Dwyer use to be on CNBC a lot calling for a "capital V" recovery. This line of thinking never made a lick of sense to me. As I stated many times over, and it still applies now, if you believe this has been the worst financial crisis in 80 years then there is no way it was going to resolve like other cyclical downturns. Thinking otherwise is to not appreciate the potential magnitude of such a monumental event.
This does not have to mean that from here the market has to go much lower or that there will be some sort of Armageddon scenario. Obviously the market could cut in half but panicked selling does exhaust and while I believe the US market will be feeling this for a while I believe it will look like below average growth as other countries recover faster. This is something I've been saying all along and something that has been playing out of late.
To the point of a depression or not, if it turns out that this period does get labeled as being a depression, at this point, summer of 2010, we are a long way into it.Another point I would reiterate is that despite some heroic rallies in some of the big American banks most impacted by the crisis it is going to be a long time before they are healthy again; great trades along the way, yes, healthy companies on solid fundamental ground, no.
As the US equity market continues to churn around here in between whatever you want to define as the range it is correcting in terms of time; markets correct in both price and time. The SPX is down 38% from its high almost three years ago. While there have certainly been periods in the last three years of extreme volatility we now three years on and still down a lot. If from here, in the process of sorting through and eventually recovering, the S&P 500 bottoms out at 950 then I don't think history will discern between 1050 and 950. If it goes back to 650, well history will discern that but I do not think the seemingly miserable back drop of a deflation threat, lousy housing data, much we don't know about coming writedowns and an employment situation that is much further behind where it should be by now has to mean equity prices implode.
Not imploding is not a bullish argument to buy 'em with both hands and as I said before while the market could cut in half from here the probability is low as the things I mentioned in the previous paragraph are not secrets and sometimes the market is efficient.
Either way I still come to the same conclusion which is the need to allocate more to foreign markets. It is very difficult to build a case that over a period of years the US is going to be relatively compelling versus a lot of other countries with Western Europe and Japan as possible exceptions. One of the complaints during the meltdown was that decoupling was bogus. Well maybe for six months or a year that is the case but (repeat data coming) during the last decade as the S&P 500 was dropping 24% on a price basis, Brazil was going up 301%, India up 243%, Chile up 194%, Norway up 121%, Israel up 109%, Australia up 51% and Canada up 39%.
You can do your own work to try to figure out what countries will do well in the new decade should my base case of below "normal" growth in the US turn out to be right or if it turns out to be worse than just below normal growth but there will be plenty of countries that out perform. And if you think the US will have normal or better than normal growth then you don't need to worry about country selection.
Read more!
Tuesday, August 24, 2010
Predicting The Next Black Swan (Again)
That title is still a joke as by definition a black swan is not reasonably predictable. The Wall Street Journal had sort of a long article on the subject called How To Profit From The Next Black Swan. For most individuals and professionals this has bad idea written all over it.
What the conversation is really about is profiting from the next big market decline. There are a couple of big points here. The first, and bigger, point is that the market does not have huge declines very often and the second is we've just had two in the last ten years. This is not to say the market can't go down a lot very soon but based on probabilities and the freshness of a lousy decade the chances are less.
Much of the concept is attributed to Nassim Taleb, rightfully so IMO, who has talked many times about 85-90% in t-bills and being very aggressive with the rest. This thought has evolved into 85-90% in t-bills with the rest betting on very extreme outcomes via the options market. Anyone interested in Taleb no doubt is aware of his affiliation with Universa which is a fund that that does just that; bets on extreme outcomes mostly with options.
The WSJ article notes several other funds and products that have popped up that do some similar things or seek similar outcomes. The article does cover the extent to which this can be problematic. If you accept that panicked extremes don't show up in asset prices every month or every quarter but there is an ongoing purchase program of out of the money puts, then what results is a (hopefully only) slow drawdown of the asset base. Out of the money puts cost money, even if not a lot, and when the expire worthless there is of course a small loss. After a few months or quarters of no calamities and little losses from puts that go out worthless when a calamity does eventually hit the homerun that might ensue might not cover the losses.
The article quotes William Bernstein as saying "whenever an investment company tells you that they've come up with a product that can protect you from black swans, you should hold onto your wallet." Wall street has long created products based on investor demand which is often triggered very late in the cycle. The supply of product created is often inefficient and leads to investors feeling regret; the best example I can think of is the massive issuance of internet stocks and the frenzy and subsequent bust that ensued.
One hedge fund manager pursuing this strategy is quoted in the article as saying "for what we expect to lose on the premium we're spending, we expect to get a big payoff in a tail-risk event." Assuming he truly understands what a black swan is, he believes he knows how to make you money off of that which cannot be reasonably predicted. Between both of Taleb's books (I only know of two) I'm sure there are a couple of fallacies and biases that address this quote.
For most people, myself included, the best path is not to try to profit from a panic but to avoid getting hurt in one. This brings up an important point. Real market panics are very short lived and often (mostly) retrace very quickly as well.
If you went on a two week vacation where you were not able to connect and found out that while you were gone there was some panic that sent the market down 17% in three days but then rallied 19% over the next four days leaving the market down 1% (that is the math involved) from where it started and your portfolio through all of that netted out to be down 1.1% what would you do? If you had been home or otherwise connected throughout what would you have done?
Real problems for the market do not come from fast panics like 1997 or 1998 or even 1987 but from slow rollovers that don't scare anyone, more correctly don't scare enough people. Relative to the 50% decline from early in the last decade investors had months to get out with very small losses. This was also the case from the peak in October 2007 and these are the market events to be very concerned about, more so than a devaluation of a small emerging market currency. If the current goings on in Vietnam cause a panicked reaction it is a good bet that it would retrace very quickly.
Some investors obviously can game very fast panics but most of us would end up spending far too much for something that might never come. I'll close with one question do you think the people opening up hedge funds for this are trying to capitalize on peoples' fear?
Read more!
What the conversation is really about is profiting from the next big market decline. There are a couple of big points here. The first, and bigger, point is that the market does not have huge declines very often and the second is we've just had two in the last ten years. This is not to say the market can't go down a lot very soon but based on probabilities and the freshness of a lousy decade the chances are less.
Much of the concept is attributed to Nassim Taleb, rightfully so IMO, who has talked many times about 85-90% in t-bills and being very aggressive with the rest. This thought has evolved into 85-90% in t-bills with the rest betting on very extreme outcomes via the options market. Anyone interested in Taleb no doubt is aware of his affiliation with Universa which is a fund that that does just that; bets on extreme outcomes mostly with options.
The WSJ article notes several other funds and products that have popped up that do some similar things or seek similar outcomes. The article does cover the extent to which this can be problematic. If you accept that panicked extremes don't show up in asset prices every month or every quarter but there is an ongoing purchase program of out of the money puts, then what results is a (hopefully only) slow drawdown of the asset base. Out of the money puts cost money, even if not a lot, and when the expire worthless there is of course a small loss. After a few months or quarters of no calamities and little losses from puts that go out worthless when a calamity does eventually hit the homerun that might ensue might not cover the losses.
The article quotes William Bernstein as saying "whenever an investment company tells you that they've come up with a product that can protect you from black swans, you should hold onto your wallet." Wall street has long created products based on investor demand which is often triggered very late in the cycle. The supply of product created is often inefficient and leads to investors feeling regret; the best example I can think of is the massive issuance of internet stocks and the frenzy and subsequent bust that ensued.
One hedge fund manager pursuing this strategy is quoted in the article as saying "for what we expect to lose on the premium we're spending, we expect to get a big payoff in a tail-risk event." Assuming he truly understands what a black swan is, he believes he knows how to make you money off of that which cannot be reasonably predicted. Between both of Taleb's books (I only know of two) I'm sure there are a couple of fallacies and biases that address this quote.For most people, myself included, the best path is not to try to profit from a panic but to avoid getting hurt in one. This brings up an important point. Real market panics are very short lived and often (mostly) retrace very quickly as well.
If you went on a two week vacation where you were not able to connect and found out that while you were gone there was some panic that sent the market down 17% in three days but then rallied 19% over the next four days leaving the market down 1% (that is the math involved) from where it started and your portfolio through all of that netted out to be down 1.1% what would you do? If you had been home or otherwise connected throughout what would you have done?
Real problems for the market do not come from fast panics like 1997 or 1998 or even 1987 but from slow rollovers that don't scare anyone, more correctly don't scare enough people. Relative to the 50% decline from early in the last decade investors had months to get out with very small losses. This was also the case from the peak in October 2007 and these are the market events to be very concerned about, more so than a devaluation of a small emerging market currency. If the current goings on in Vietnam cause a panicked reaction it is a good bet that it would retrace very quickly.
Some investors obviously can game very fast panics but most of us would end up spending far too much for something that might never come. I'll close with one question do you think the people opening up hedge funds for this are trying to capitalize on peoples' fear?
Read more!
Monday, August 23, 2010
The Psychology Behind Low Yields
Marketwatch had an article over the weekend about the recent success of the junk bond ETFs and some of the reasons why investors have been so keen on this space. Of more interest to me was a quote in the article from Doug Cliggott from Credit Suisse that focused on the investor psychology that has pushed the yield on the ten year US treasury below 3%. Cliggott cited three factors he believes are driving investors in this context.
Reason number one is "investors lowering their U.S. economic growth expectations." This was the weakest of the three in terms of investor psychology which was the point. I say that because no matter anyone's assessment of the current environment the bond market is being distorted by extreme policies that are attempting to stave off deflation.
While I have no doubt that growth expectations are eroding there are many moving parts to the ten year yield being where it is. There are many types of participants buying heavily across the curve like the Fed as recently announced and banks as many people have noted they have capital available to lend but are choosing not to do (borrowing at zero and buying treasuries).
Reason number two has much more psychological meat on the bone which Cliggott says "is good old-fashioned performance chasing." This is a behavior that repeats over and over. In the context of the article this could refer to the price appreciation of the ten year treasuries or the success of the junk bond ETF.
I think that this behavior occurs primarily for two different reasons. One being that there is comfort in seeing that something is doing well and concluding that the market must know something. "Seeing" can mean literally seeing what looks like a healthy chart pattern and feeling validated. This isn't necessarily bad in that some stocks or funds do go up a lot after they have already gone up a lot.
The other reason is probably similar to the first, that people extrapolate recent results. If the SPX goes back down to 1000 I promise there will be a parade of analyst calling for 900 or 850, likewise if we get back to 1150 they will be lining up to predict 1300. I remember early in the year Alec Young from Standard & Poors starting out the year with a somewhat bullish target for the S&P 500, the market got close or maybe hit it and so the target was bumped up. While I believe he has since ratcheted the target back down it underscores a very common thought process. If you think a stock trading today at $80 will be at $100 in one year and it gets there in eight months it could still be at $100 four months later, it doesn't have to keep going up with the same trajectory.
"Third, and perhaps the most important, is many Americans losing their appetite for risk." This is an area I've covered many times before. Assuming Cliggott is correct with this one, and I do agree with him, then what is going on here is that people have learned the hard way that they had the wrong asset allocation target (assumes no objective trigger for defense like a breach of the 200 DMA). During what turned out to be the worst of the market panic I commented that finding out you had too much in equities after a large decline is a very bad place to be. Despite the US market cutting in half at the start of the last decade many investors were caught off guard by the second 50% decline, they seemed to forget what the first 50% decline felt like.
Another point made previously is that too much allocated to something safe eventually becomes risky. Treasuries are "riskless" but buying to much of the wrong type at the wrong time can have disastrous results. Talking generically, for every percentage point that the yield of the ten year goes up, the price goes down about 12%. For an individual bond the holder can hold to maturity, not endure the loss just endure a below market yield. A bond fund like TLT has no par value to return to and a drop in price there could be permanent. Another example; people love MLPs but four years ago the Canadian versions (which were very popular back then) got pounded on news of a tax status change. Before then they were viewed as very safe (maybe they are back to being viewed as safe?).
The task here seems simple. If you favor some segment, done the legwork to decide you want in then you must weigh the consequence of being catastrophically incorrect. Chile is one of my favorite investment destinations. I've made the case as to why many times before so I won't repeat it now but the conclusions I draw could turn out to be wrong for reasons I might never see coming (this is generic and applies to every investment decision made). If that happens with Chile then what is my downside and can I live with that?
If I put 20% into the Chile Fund (CF) and it drops by 2/3s I have a big problem. That big problem would probably be compounded if I had a further 15% in the GobalX Colombia ETF (GXG). Some event that took Chile down that much would probably be bad news for Colombia too. At this point we might be talking deathblow. If on the other hand we are talking 3% to Chile and 2% to Colombia then the consequence becomes more of a drag than anything else. I believe 20% and 15% are way too much. I've had feedback over the years on the blog that the 2-3% per holding that I prefer is too small. Chances are the right numbers for many folks with normal equity tolerances are in between the two extremes. As a side note for long time readers I am moving to 5% per country as a ceiling with one country targeted at 4% right now but not there quite yet.
If you went down a lot in 2008 and into the start of 2009 then you should remember what that felt like and assuming you do not want a repeat you should figure out what you can tolerate without panicking and devise a plan to avoid getting to the point of panic. If whatever you devise has you underweight equities for a long time then so be it.
A couple of random items. Some readers may recall my "don't drink soda" rants; it is terribly bad for you. It turns out Barry Ritholtz appears to be on the same page. I thought that was kind of funny.
The other random item is from yesterday's Red Sox game. There were a couple of rain delays which made for a long game and day at the park for anyone there. Shortly before the game ended the camera found a fan who had fallen asleep. The announcers noted what a long day it had been. A few minutes later the same fan was either hit by a foul ball or it landed close enough to wake him up (presumably within a seat or two). Maybe Nassim Taleb would disagree but that to me is one example of a black swan.
The red you see on the branches are lady bugs.
Read more!
Reason number one is "investors lowering their U.S. economic growth expectations." This was the weakest of the three in terms of investor psychology which was the point. I say that because no matter anyone's assessment of the current environment the bond market is being distorted by extreme policies that are attempting to stave off deflation.
While I have no doubt that growth expectations are eroding there are many moving parts to the ten year yield being where it is. There are many types of participants buying heavily across the curve like the Fed as recently announced and banks as many people have noted they have capital available to lend but are choosing not to do (borrowing at zero and buying treasuries).
Reason number two has much more psychological meat on the bone which Cliggott says "is good old-fashioned performance chasing." This is a behavior that repeats over and over. In the context of the article this could refer to the price appreciation of the ten year treasuries or the success of the junk bond ETF.
I think that this behavior occurs primarily for two different reasons. One being that there is comfort in seeing that something is doing well and concluding that the market must know something. "Seeing" can mean literally seeing what looks like a healthy chart pattern and feeling validated. This isn't necessarily bad in that some stocks or funds do go up a lot after they have already gone up a lot.
The other reason is probably similar to the first, that people extrapolate recent results. If the SPX goes back down to 1000 I promise there will be a parade of analyst calling for 900 or 850, likewise if we get back to 1150 they will be lining up to predict 1300. I remember early in the year Alec Young from Standard & Poors starting out the year with a somewhat bullish target for the S&P 500, the market got close or maybe hit it and so the target was bumped up. While I believe he has since ratcheted the target back down it underscores a very common thought process. If you think a stock trading today at $80 will be at $100 in one year and it gets there in eight months it could still be at $100 four months later, it doesn't have to keep going up with the same trajectory."Third, and perhaps the most important, is many Americans losing their appetite for risk." This is an area I've covered many times before. Assuming Cliggott is correct with this one, and I do agree with him, then what is going on here is that people have learned the hard way that they had the wrong asset allocation target (assumes no objective trigger for defense like a breach of the 200 DMA). During what turned out to be the worst of the market panic I commented that finding out you had too much in equities after a large decline is a very bad place to be. Despite the US market cutting in half at the start of the last decade many investors were caught off guard by the second 50% decline, they seemed to forget what the first 50% decline felt like.
Another point made previously is that too much allocated to something safe eventually becomes risky. Treasuries are "riskless" but buying to much of the wrong type at the wrong time can have disastrous results. Talking generically, for every percentage point that the yield of the ten year goes up, the price goes down about 12%. For an individual bond the holder can hold to maturity, not endure the loss just endure a below market yield. A bond fund like TLT has no par value to return to and a drop in price there could be permanent. Another example; people love MLPs but four years ago the Canadian versions (which were very popular back then) got pounded on news of a tax status change. Before then they were viewed as very safe (maybe they are back to being viewed as safe?).
The task here seems simple. If you favor some segment, done the legwork to decide you want in then you must weigh the consequence of being catastrophically incorrect. Chile is one of my favorite investment destinations. I've made the case as to why many times before so I won't repeat it now but the conclusions I draw could turn out to be wrong for reasons I might never see coming (this is generic and applies to every investment decision made). If that happens with Chile then what is my downside and can I live with that?
If I put 20% into the Chile Fund (CF) and it drops by 2/3s I have a big problem. That big problem would probably be compounded if I had a further 15% in the GobalX Colombia ETF (GXG). Some event that took Chile down that much would probably be bad news for Colombia too. At this point we might be talking deathblow. If on the other hand we are talking 3% to Chile and 2% to Colombia then the consequence becomes more of a drag than anything else. I believe 20% and 15% are way too much. I've had feedback over the years on the blog that the 2-3% per holding that I prefer is too small. Chances are the right numbers for many folks with normal equity tolerances are in between the two extremes. As a side note for long time readers I am moving to 5% per country as a ceiling with one country targeted at 4% right now but not there quite yet.
If you went down a lot in 2008 and into the start of 2009 then you should remember what that felt like and assuming you do not want a repeat you should figure out what you can tolerate without panicking and devise a plan to avoid getting to the point of panic. If whatever you devise has you underweight equities for a long time then so be it.
A couple of random items. Some readers may recall my "don't drink soda" rants; it is terribly bad for you. It turns out Barry Ritholtz appears to be on the same page. I thought that was kind of funny.
The other random item is from yesterday's Red Sox game. There were a couple of rain delays which made for a long game and day at the park for anyone there. Shortly before the game ended the camera found a fan who had fallen asleep. The announcers noted what a long day it had been. A few minutes later the same fan was either hit by a foul ball or it landed close enough to wake him up (presumably within a seat or two). Maybe Nassim Taleb would disagree but that to me is one example of a black swan.
The red you see on the branches are lady bugs.
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Sunday, August 22, 2010
Sunday Morning Coffee
A reader sent me their version of the permanent portfolio and while I don't think my opinion was being solicited it got me thinking about trying to put together a version that did not rely on the typical funds but instead tweaked the idea. The intent is not to build something to actually implement but maybe to think about the attributes of various market segments beyond the obvious.The original permanent portfolio was conceived by Harry Browne and allocates 25% each to whiskey, gun powder, beef jerky and..oh wait that is something else. The permanent portfolio actually allocates equal portions to gold, US treasury bonds, cash and US equities (via a broad index fund). The reader's idea was less diverse, focusing on various parts of the commodity complex. This post will be truer to the four asset classes.
The first component listed in the Browne original is gold. More than any other metal and more than gold mining stocks I would expect gold to offer the best chance of going up in the face of a panic like in the fall of 2001 and during parts of 2008 but panics are short lived events which opens the possibility of some other commodity that offers a low correlation to equities over longer periods of time.
I looked at ETNs for cotton, tin, nickel, coffee, cocoa, sugar, beef/pork and the ETFS Platinum ETF (PPLT). The two with the most promise were the iPath Coffee ETN (JO) and the iPath Sugar ETN (SGG). Tin and nickel would seem to be the most cyclical of the ones I looked at, I was really checking them to see if there was a surprise there but there wasn't. Cotton would seem to be a little less cyclical, which may be incorrect, but either way it offered very little zigzag versus equities and the platinum ETF might simply be too new.
Coffee, cocoa, sugar and meat all seem to play into the same potential trend of diets changing in emerging market countries. Cocoa and sugar play into dessert, meat the actual meal and coffee just because it is so good (insert smile). Seriously, I have mentioned coffee before with the belief that an uptick in consumption in China and India (from a microscopic number to a slightly less microscopic number) could put meaningful upward pressure on the price. While not a one way trade coffee has generally been doing well which is nice but it also has a negative correlation to the S&P 500 according to the correlation tracker at the SPDR site.
Given that US treasuries are at very high prices they are not attractive to buy and although creating inflation when you need it is very difficult to do the Fed is trying. Bond prices may stay high for a long time but buying high is buying high. The first thing I think of as a substitute is emerging market debt because many of the countries are on better fundamental footing than the US, big Western Europe and Japan. However just because other countries might be better off for now does not mean the dollar can't go up so for purposes of this exercise I would prefer the ETFs that own US dollar denominated debt over the new funds that own debt denominated in the foreign currencies (in a normal portfolio it would be the other way around). The yields are higher and there is no reasonable currency risk (the hopefully-unreasonable risk would be a country blows up for having too much debt denominated in other currencies).
There are two ETFs in this (dollar denominated) space; one from PowerShares with symbol PCY and one from iShares with symbol EMB.
For the cash portion the obvious answer is to seek out a foreign currency, at least for anyone worried about USD devaluation. If someone were going to take currency risk here then I really would avoid it in the fixed income portion because the dollar can go up when it shouldn't and if the all four of the segments are vulnerable to the dollar going up then the diversification is not so great. Between the commodity exposure and foreign equity exposure (below), I think that is enough vulnerability to the dollar going up.
The equity allocation is built on the idea that the US, big Western Europe and Japan will continue to be less attractive than smaller countries around the world. Anyone on board with that thinking could pick a country ETF or some sort of theme. For purposes of the exercise let's just go with one fund but in the real world I don't think there is any need to to have an entire equity allocation in just one fund assuming more than a couple thousand dollars invested.
For countries I would pick from Chile, Brazil, Norway, Australia and maybe one or two others. Each has pluses and minuses. Chile has been a low impact emerging market with constant local equity demand but the economy is vulnerable to a slowdown in copper demand. Brazil is similar except more volatile and more resource diversity. Norway has perhaps the firmest footing of any country out there but the North Sea has been in decline for a while and that will matter at some point. Australia has even more resources, not had a recession since 1991 (this is both good and bad) but the housing market is clearly overpriced (no subprime or equivalent though) and the political landscape has been very rocky of late.
There is an ETF for Chile from iShares with ticker ECH, Brazil has many ETFs, Australia has a couple of pure plays; EWA for large cap and KROO for small cap along with a few other funds out there that are very heavy in Australia. There is no pure play ETF for Norway. ECH and EWA are client and personal holdings.
For themes there is infrastructure, water, food, rare earths and any others you want to add. I would be hard pressed to pick just one from infrastructure, food and water. I threw in rare earths because the are getting more popular but I think the potential political risk due to concentration in China creates a variable that may not be manageable in the context of being the entire equity allocation. Clients have exposure to the three others through EMIF, PHO and MOO.
There are a lot of infrastructure ETFs. EG Shares has made a big commitment to the space, iShares has a couple and there are also funds from First Trust and SPDR and maybe a couple more I am forgetting. Many have different volatility characteristics because they capture very different things; the SPDR fund is very utility heavy and the First Trust fund is mostly engineering and construction.
The difference between the water funds and the agribusiness funds seem to be subtler to me. MOO has a negative correlation to JO and while that might ebb and flow that combo may not be the obvious poor diversification mix that it might seem.
As I think more about it picking just one seems less than ideal so I'll pass on that but feel free to opine in the comments. Anyone picking just one needs to figure the right balance for their own volatility tolerance while still having a chance at some sort normal (or maybe better than normal) equity return.
One reminder is that the concept behind the permanent portfolio is diversification for all seasons, to always have at least one thing going up.
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Saturday, August 21, 2010
The Big Picture for the Week of August 22, 2010
The big personal finance story yesterday seemed to be that 22% of Fidelity 401k participants (not Fido's employees but employees of companies who use Fido for 401k admin services) have loans outstanding against their 401ks which is a high number. Felix Salmon dug a up a quote from someone at Fidelity who noted these loans are being taken to help meet financial hardships.
CNBC talked about this several times yesterday and there were also countless write ups on the internet as well. Also noted by Felix is that the 22% equates to 2.5 million people which strikes me as an astronomical number and that is just one service provider.
Somehow the model for prudent behavior broke down and while that is not a shock to any of you the conversation about all these 401k loans outstanding raises some serious questions about the fate of many Americans personal-finance fate. No 401k, no social security and a lot of debt is a very bad place to wind up at age 63.
I say no social security but what I mean is a means test that will make it more like a welfare program based on how much was earned--let's hope I'm being overly harsh. As far as no 401k let me share an anecdote that befell a friend about ten years ago. He had a loan out against his 401k, got laid off and could not repay the loan which created a tax liability that took several years to clear. While I am not certain about the details of paying off the tax liability, if he was not contributing to his 401k as he was paying the IRS (which is plausible) and never paid back the loan, just the tax (which is also plausible), then he set his financial plan back many years.
Will there be more layoffs that put some of the 401k participants with loans in the same boat as my friend? If so how many of them will follow a path of paying off the IRS, never paying back the loan and not saving while the IRS is being paid? This scenario assumes the person in question can find a job which my friend was able to do back then.
If we generically label the loan phenomena as poor use of the product (I concede that is unfair and there are real hardships that come along) well that is only one aspect of the typical person's financial life. What about credit cards? Here is one link that says the "average household in America with one or more credit cards has nearly $11,000 in credit-card debt." If we assume that number is close to right then it becomes difficult to draw any positive conclusions there either and if we include HELOCs in the this part of the conversation it looks even worse. We've all read more than we've wanted about the extent to which people have also mismanaged their mortgages as well (yes there was predatory lending). Not addressed above or in anything I read or heard about the 401k loans is whether people contribute enough into their 401ks which is a whole other issue.
Obviously this points to financial literacy which has come up before but if we collectively are not financially literate, and behaviors suggest we are not, then for now we just sit around and talk about what we should (save more) and should not (use credit cards) do which does not appear to be very effective but at some point will come the consequence for our collective financial illiteracy.
I have no idea what the fallout will be or what the attempted fixes will be but I would suggest not counting on whatever safety nets (social security or pension) you think you have coming to you. In that light where do you stand? If you don't like the answer then you need to figure out how to fix it on your own. Posts like this often draw criticism for being harsh or "forgetting" about certain circumstances that make what I talk about very difficult to actually do. That is fair enough but I would ask what conclusions do you draw about the math involved in these various things? If any of them are ever going to be actually fixed can you envision a fix that isn't "unfair" to a lot of people? Action taken now to change personal behaviors will mitigate the consequences of "unfair."
Every aspect of someone's financial life is made much easier but having as small a nut as possible. Not having debt is a good way to get the overhead down and obviously oversaving (if there is such a thing) creates a greater margin for error like covering unexpected emergencies or at least partially covering them. I repeat this general theme often because obviously this is important and also hope that it creates more conversations for people which might have a positive impact on the problems that some people have.
Read more!
CNBC talked about this several times yesterday and there were also countless write ups on the internet as well. Also noted by Felix is that the 22% equates to 2.5 million people which strikes me as an astronomical number and that is just one service provider.
Somehow the model for prudent behavior broke down and while that is not a shock to any of you the conversation about all these 401k loans outstanding raises some serious questions about the fate of many Americans personal-finance fate. No 401k, no social security and a lot of debt is a very bad place to wind up at age 63.
I say no social security but what I mean is a means test that will make it more like a welfare program based on how much was earned--let's hope I'm being overly harsh. As far as no 401k let me share an anecdote that befell a friend about ten years ago. He had a loan out against his 401k, got laid off and could not repay the loan which created a tax liability that took several years to clear. While I am not certain about the details of paying off the tax liability, if he was not contributing to his 401k as he was paying the IRS (which is plausible) and never paid back the loan, just the tax (which is also plausible), then he set his financial plan back many years.Will there be more layoffs that put some of the 401k participants with loans in the same boat as my friend? If so how many of them will follow a path of paying off the IRS, never paying back the loan and not saving while the IRS is being paid? This scenario assumes the person in question can find a job which my friend was able to do back then.
If we generically label the loan phenomena as poor use of the product (I concede that is unfair and there are real hardships that come along) well that is only one aspect of the typical person's financial life. What about credit cards? Here is one link that says the "average household in America with one or more credit cards has nearly $11,000 in credit-card debt." If we assume that number is close to right then it becomes difficult to draw any positive conclusions there either and if we include HELOCs in the this part of the conversation it looks even worse. We've all read more than we've wanted about the extent to which people have also mismanaged their mortgages as well (yes there was predatory lending). Not addressed above or in anything I read or heard about the 401k loans is whether people contribute enough into their 401ks which is a whole other issue.
Obviously this points to financial literacy which has come up before but if we collectively are not financially literate, and behaviors suggest we are not, then for now we just sit around and talk about what we should (save more) and should not (use credit cards) do which does not appear to be very effective but at some point will come the consequence for our collective financial illiteracy.
I have no idea what the fallout will be or what the attempted fixes will be but I would suggest not counting on whatever safety nets (social security or pension) you think you have coming to you. In that light where do you stand? If you don't like the answer then you need to figure out how to fix it on your own. Posts like this often draw criticism for being harsh or "forgetting" about certain circumstances that make what I talk about very difficult to actually do. That is fair enough but I would ask what conclusions do you draw about the math involved in these various things? If any of them are ever going to be actually fixed can you envision a fix that isn't "unfair" to a lot of people? Action taken now to change personal behaviors will mitigate the consequences of "unfair."
Every aspect of someone's financial life is made much easier but having as small a nut as possible. Not having debt is a good way to get the overhead down and obviously oversaving (if there is such a thing) creates a greater margin for error like covering unexpected emergencies or at least partially covering them. I repeat this general theme often because obviously this is important and also hope that it creates more conversations for people which might have a positive impact on the problems that some people have.
Read more!
Friday, August 20, 2010
Everyone Into The Bunker!
The title for this post comes from a couple of articles from the other day. One was from The Housing Time Bomb blog (great name) and the other from The Business Insider.
First from Housing Time Bomb, Jeff (the blogger in question) asks the very reasonable question that if someone like Stanley Druckenmiller thinks it is too difficult to navigate through the current market then why should any of us think we can navigate through. Asking the question is practical but completely pulling up stakes may not be, at least I don't think it is.
The big macro of course is that the US equity market has done this before; the 1930s and 1970s to name the most recent two. While I don't know first hand how bad it was in the 1930s I do have some first hand knowledge of the 1970s as do many people reading this post. It was bad, there was concern that it was over for the US (the Businessweek Death of Equities cover) and then it ended. As mentioned many times here before, the details were different but the market behavior was similar, at least up to this point. Following this line of thought this event will end, even if it takes a few more years, and at that point down 24% for another decade becomes a very low-probability event.
As I read the Housing Time Bomb post it seems he is talking about the US markets to which I would reply that, just like last decade, there will be many foreign markets that can still provide normal or closer to normal returns. Another point to add is that if you think in terms of having enough money when you need it then even just having tread water (thanks to a decent allocation to foreign) and having continued to put money away leaves you far ahead of the market which gives you a better chance of having enough when you need it. What I mean here is that the average 9 or 10% annual return over very long periods of time includes decades like the 2000s. If the decline from that sort of period can be mostly avoided then you come out much farther ahead of the market over your investing lifetime--something I have been writing about for a long time.
The Business Insider post was titled 7 Investment Ideas for the Worst Case Scenario. It isolates seven themes with some details on why the particular theme makes sense and ideas on how to access them with stocks and or ETFs.
The themes are farming, water, uranium, gold, rare earth metals, defense companies and alcohol and tobacco. Long time Seeking Alpha contributor Alex Filonov immediately jumped on the SA version saying that for the real worst case scenario you need land where you can grow your own crops, seeds, long dated canned food and durable clothing among other things.
If we focus more on a bad investment environment than a Beyond Thunderdome environment then most of the themes make sense but I'm not too sure about uranium and rare earths. It seems to me that uranium relies on demand for power so even if there will be more nuclear plants in other countries, and there will be, a down and out global economy creates downward pressure on energy demand. And as the article notes the price of uranium is down about 2/3rds in price from its high from a couple of years ago as a very bad scenario, even if not worst case, has been playing out. It might be a great buy, just not sure it fits with the worst case scenario idea.
In talking about rare earth metals the article notes that they are by definition rare. That is not quite right. As I understand it the quantities are vast but very concentrated which adds a political element given that much of the concentration is in China. Rare earths have applications in defense, tech gadgets and batteries (redundant to defense and gadgets) so there is a tie in to defense as mentioned in the list but if we are really talking about the worst case but stopping short of a complete tearing of the social fabric then I would think demand for gadgets and certain types of batteries would drop.
The farm idea is always interesting but in the post in question, not so much. The investment ideas included PowerShares DB Agriculture Portfolio (DBA) for obvious reasons, Lindsay Corp (LNN) which is an irrigation equipment company, Potash Corp of Sask (POT) for fertilizer and Archer Daniels (ADM) for food processing.
For now there seems to be more talk about farmland investing than ways to do it through the capital markets. The chart captures two stocks I've mentioned previously New Britain (NBPOF) in blue which is a palm oil company headquartered in London with operations in Papua New Guinea and the Solomon Islands and Marine Harvest (MNHVF) which is one of the Norwegian fisheries-- a farm of sorts. Both names have obviously done well of late although another name in this context that I have mentioned before, Black Earth Farming (BLERF), has not done well.
There are many other similar stocks to research and decide whether they make sense for you but they are part of this theme. Depending on your online broker they can also be quite accessible. As a side note I still cannot believe that Schwab is now several years behind other brokerages in direct and cheaper access to foreign exchanges.
Back to the TBI list of seven, most of the things on that list have a type of demand that is very easy to understand. Food and water are basic to survival, gold among other things plays on fear that many people have and defense companies (hopefully) protect us against threats. While figuring the best way in to these themes may not be easy the dynamics driving them are easy to figure.
Read more!
First from Housing Time Bomb, Jeff (the blogger in question) asks the very reasonable question that if someone like Stanley Druckenmiller thinks it is too difficult to navigate through the current market then why should any of us think we can navigate through. Asking the question is practical but completely pulling up stakes may not be, at least I don't think it is.
The big macro of course is that the US equity market has done this before; the 1930s and 1970s to name the most recent two. While I don't know first hand how bad it was in the 1930s I do have some first hand knowledge of the 1970s as do many people reading this post. It was bad, there was concern that it was over for the US (the Businessweek Death of Equities cover) and then it ended. As mentioned many times here before, the details were different but the market behavior was similar, at least up to this point. Following this line of thought this event will end, even if it takes a few more years, and at that point down 24% for another decade becomes a very low-probability event.
As I read the Housing Time Bomb post it seems he is talking about the US markets to which I would reply that, just like last decade, there will be many foreign markets that can still provide normal or closer to normal returns. Another point to add is that if you think in terms of having enough money when you need it then even just having tread water (thanks to a decent allocation to foreign) and having continued to put money away leaves you far ahead of the market which gives you a better chance of having enough when you need it. What I mean here is that the average 9 or 10% annual return over very long periods of time includes decades like the 2000s. If the decline from that sort of period can be mostly avoided then you come out much farther ahead of the market over your investing lifetime--something I have been writing about for a long time.
The Business Insider post was titled 7 Investment Ideas for the Worst Case Scenario. It isolates seven themes with some details on why the particular theme makes sense and ideas on how to access them with stocks and or ETFs.
The themes are farming, water, uranium, gold, rare earth metals, defense companies and alcohol and tobacco. Long time Seeking Alpha contributor Alex Filonov immediately jumped on the SA version saying that for the real worst case scenario you need land where you can grow your own crops, seeds, long dated canned food and durable clothing among other things.
If we focus more on a bad investment environment than a Beyond Thunderdome environment then most of the themes make sense but I'm not too sure about uranium and rare earths. It seems to me that uranium relies on demand for power so even if there will be more nuclear plants in other countries, and there will be, a down and out global economy creates downward pressure on energy demand. And as the article notes the price of uranium is down about 2/3rds in price from its high from a couple of years ago as a very bad scenario, even if not worst case, has been playing out. It might be a great buy, just not sure it fits with the worst case scenario idea.
In talking about rare earth metals the article notes that they are by definition rare. That is not quite right. As I understand it the quantities are vast but very concentrated which adds a political element given that much of the concentration is in China. Rare earths have applications in defense, tech gadgets and batteries (redundant to defense and gadgets) so there is a tie in to defense as mentioned in the list but if we are really talking about the worst case but stopping short of a complete tearing of the social fabric then I would think demand for gadgets and certain types of batteries would drop.
The farm idea is always interesting but in the post in question, not so much. The investment ideas included PowerShares DB Agriculture Portfolio (DBA) for obvious reasons, Lindsay Corp (LNN) which is an irrigation equipment company, Potash Corp of Sask (POT) for fertilizer and Archer Daniels (ADM) for food processing.For now there seems to be more talk about farmland investing than ways to do it through the capital markets. The chart captures two stocks I've mentioned previously New Britain (NBPOF) in blue which is a palm oil company headquartered in London with operations in Papua New Guinea and the Solomon Islands and Marine Harvest (MNHVF) which is one of the Norwegian fisheries-- a farm of sorts. Both names have obviously done well of late although another name in this context that I have mentioned before, Black Earth Farming (BLERF), has not done well.
There are many other similar stocks to research and decide whether they make sense for you but they are part of this theme. Depending on your online broker they can also be quite accessible. As a side note I still cannot believe that Schwab is now several years behind other brokerages in direct and cheaper access to foreign exchanges.
Back to the TBI list of seven, most of the things on that list have a type of demand that is very easy to understand. Food and water are basic to survival, gold among other things plays on fear that many people have and defense companies (hopefully) protect us against threats. While figuring the best way in to these themes may not be easy the dynamics driving them are easy to figure.
Read more!
Thursday, August 19, 2010
Investor Luminary Thursday
Barry Ritholtz posted an interview he conducted with longtime Barron's Roundtable member Felix Zulauf that is a must read. There were a couple of things that really stood out to me but you should read it in its entirety.
Zulauf considers himself to be a global macro investor who places a lot of emphasis in how cycles work and impact markets. He structures portfolios to be long/short but with no leverage. He sees a lot of change coming, essentially calling for a whole new system (my read on his comments) due to the extent to which many problems around the globe have been kicked down the road. By trying to stunt cyclical declines they have created a secular or structural problem (again my read).
This money quote is really a what makes him tick sort of thing;
There is a tie in here of course to what John Serrapere has written about previously. Serrapere calls his strategy 75/50 which means 75% of the upside with only 50% of the downside. I write about and try to implement something similar which I phrase as smoothing out the ride and avoiding the full brunt of down a lot while going along for the ride in an up market. For anyone new I quantify this based on where the S&P 500 is in relation to its 200 DMA. Zulauf always has relatively interesting things to say in the Barron's Roundtable (some of the others are very uninteresting) but did not know much about him before the interview.
Back to cycles, he believes that based on the US in 1938 and Japan in 1996 the rally from March 2009 will fully retrace and maybe go a little lower. One more scare the hell out of them decline certainly makes sense but the trouble I have with comparisons to the 1930s in this context is the extent to which money flows and that the market has been democratized due to 401k plans. This is simply a fundamental dynamic that did not exist and while fund flows into equities are down it is a complicating (in relation to his conclusion) factor.
The other item from Zulauf to mention is that he is very down on China. He believes "10% growth is over," citing overcapacity and housing affordability (the lack thereof) but as I read this part of the interview he seemed not as dour as Jim Chanos whom Barry mentioned but I may have read that incorrectly.
The other investor luminary to mention is Stanley Druckenmiller and the news that he is retiring. Here is a detailed writeup from Bloomberg (hat tip to the Money Honey blog via Facebook). I was struck by the intense emotion that losses and being wrong triggered. He is very competitive and being wrong took a toll.
This is difficult for me to relate to as I am not competitive and my issues with being wrong are more along the lines of trying to be right more than I am wrong so when something does not go the way I expect it is not particularly worrying--of course he is one of the most successful investors of all time and I am a jamoke in the woods.
This is instructive however as while his emotions clearly did not do him in terms of investment results there was an emotional consequence that accrued over time (per the article) which despite comments that he loved the task must have made it more difficult. In general terms being angry or scared does take a toll, even on the great ones.
I believe it is very useful to learn what makes people like this function. From the idea of taking bits of process from many sources to create your own process you can glean that these guys while wildly successful are not perfect.
Read more!
Zulauf considers himself to be a global macro investor who places a lot of emphasis in how cycles work and impact markets. He structures portfolios to be long/short but with no leverage. He sees a lot of change coming, essentially calling for a whole new system (my read on his comments) due to the extent to which many problems around the globe have been kicked down the road. By trying to stunt cyclical declines they have created a secular or structural problem (again my read).
This money quote is really a what makes him tick sort of thing;
The markets tell you, relatively quickly, when you’re wrong. So I’m very risk-averse. I like to make money, but I hate to lose money. So I’d rather make a little bit less and not lose money.
There is a tie in here of course to what John Serrapere has written about previously. Serrapere calls his strategy 75/50 which means 75% of the upside with only 50% of the downside. I write about and try to implement something similar which I phrase as smoothing out the ride and avoiding the full brunt of down a lot while going along for the ride in an up market. For anyone new I quantify this based on where the S&P 500 is in relation to its 200 DMA. Zulauf always has relatively interesting things to say in the Barron's Roundtable (some of the others are very uninteresting) but did not know much about him before the interview.
Back to cycles, he believes that based on the US in 1938 and Japan in 1996 the rally from March 2009 will fully retrace and maybe go a little lower. One more scare the hell out of them decline certainly makes sense but the trouble I have with comparisons to the 1930s in this context is the extent to which money flows and that the market has been democratized due to 401k plans. This is simply a fundamental dynamic that did not exist and while fund flows into equities are down it is a complicating (in relation to his conclusion) factor.
The other item from Zulauf to mention is that he is very down on China. He believes "10% growth is over," citing overcapacity and housing affordability (the lack thereof) but as I read this part of the interview he seemed not as dour as Jim Chanos whom Barry mentioned but I may have read that incorrectly.
The other investor luminary to mention is Stanley Druckenmiller and the news that he is retiring. Here is a detailed writeup from Bloomberg (hat tip to the Money Honey blog via Facebook). I was struck by the intense emotion that losses and being wrong triggered. He is very competitive and being wrong took a toll.This is difficult for me to relate to as I am not competitive and my issues with being wrong are more along the lines of trying to be right more than I am wrong so when something does not go the way I expect it is not particularly worrying--of course he is one of the most successful investors of all time and I am a jamoke in the woods.
This is instructive however as while his emotions clearly did not do him in terms of investment results there was an emotional consequence that accrued over time (per the article) which despite comments that he loved the task must have made it more difficult. In general terms being angry or scared does take a toll, even on the great ones.
I believe it is very useful to learn what makes people like this function. From the idea of taking bits of process from many sources to create your own process you can glean that these guys while wildly successful are not perfect.
Read more!
Wednesday, August 18, 2010
Fixed Income Free For All
A few observations about the fixed income market.
FT Alphaville had a post yesterday that recapped a paper that explored whether or not there is actually enough investment capital in existence to buy amount of debt the US treasury will have to issue in the coming years. We've all heard the rhetorical question of who is going to buy all that debt but this is a little more interesting.
Per the FT post;
The number may or may not be exactly right but the direction, when framed this way, should not surprise anyone. There has been a sentiment of stimulate now no matter the cost and worry about it later. Later will come eventually. Maybe you could correctly predict when or maybe not but at some point. My hunch is that the consequence will not be a violent disruption as the current disruption has not been violent but more like the markets demanding a higher interest rate from from such an over extended borrower. Personally I have no sense of when this might occur as I would have thought that rates would be higher be now. For now however deflation (whether it is the real deal or just a threat) is helping keep rates lower and this could last for quite a while longer.
No matter anyone's ability to predict anything here, hopefully it is obvious that the bond market is distorted and that prices are very high. I have made this point many times that prices are high but could stay high for a long time. But prices are high, the Fed has kept rates at zero for a long time and will keep them at zero for a long while yet and treasuries are being bought by the Fed which means the market is distorted. I'd rather participate as little as possible in an expensive and distorted market.
The muni bond market seems to be getting a lot of positive attention of late and I don't know why. The last time I checked only Montana and South Dakota did not have budget deficits and we have all learned much more about the extent to which state and other municipal pensions are underfunded. I had a conversation yesterday with a friend in the business who relayed a comment from a mutual fund wholesaler. Essentially this fund company is of the belief that the ratings companies don't have the time to provide ongoing analysis to rated muni bonds which means there are many issues out there that should have been downgraded but have not been.
If you go through the archives from people like Mish and Edward Harrison you can find all sorts of charts and tables with details about the extent to which deficits are up, pensions are underfunded, sales tax receipts are down, income tax revenue is down and so on. For people who do not want to be aggressive with the fixed income portion of their portfolios I would simply avoid these segments of the bond market.
Most clients have two-four individual corporate issues that are investment grade maturing from 2012-2014, two-three individual foreign sovereign issues, the TIP ETF, one incredibly unvolatile closed end fund, a GNMA fund and one or two bank preferred stocks. My hope is that these don't move a lot and pay some interest into the portfolio, I am not looking for meaningful capital gains from this part of the portfolio.
Finally this little working in retirement nugget. One time Red Sox Bill "Spaceman" Lee has signed a contract with the Brockton Rox of the Can-Am League, which is an independent league. Lee is 63 and per the news release has kept active.
No doubt Lee was concerned about the paltry interest rates available for his portfolio but was not willing to chase yield. Surely the Spaceman lives below his means so the couple of hundred bucks he might get per start (this is a professional league) will go a long way to covering his expenses and reduce the burden off of his portfolio for a little while.
Being a little more serious this league has six teams, plays more 100 games over five months which means plenty of jobs for the 50plus home games each team has and there are other leagues like this as well. At 50 games with each game day being six hours, if the the pay is $10/hour that works out to $3000 for 50 days of seasonal work which for someone who loves sports is pretty good. While not a lot of money, it should cover car insurance for the year and some of the utilities. If the same sports fan can find something similar for a winter sport then maybe the rest of the utilities are covered with another 265 days off during the year.
Some might think this is stupid which is fine but I think this is a reasonable example of part time work that someone might enjoy versus staying in a full time job they hate until they're 70.
Read more!
FT Alphaville had a post yesterday that recapped a paper that explored whether or not there is actually enough investment capital in existence to buy amount of debt the US treasury will have to issue in the coming years. We've all heard the rhetorical question of who is going to buy all that debt but this is a little more interesting.
Per the FT post;
By the authors’ calculations, the large increase in foreign official holdings implied by the base case would require those investments to rise to about 19 per cent of rest-of-world GDP, up from less than 5 per cent in recent history. That’s a big change but not, technically, impossible.
The number may or may not be exactly right but the direction, when framed this way, should not surprise anyone. There has been a sentiment of stimulate now no matter the cost and worry about it later. Later will come eventually. Maybe you could correctly predict when or maybe not but at some point. My hunch is that the consequence will not be a violent disruption as the current disruption has not been violent but more like the markets demanding a higher interest rate from from such an over extended borrower. Personally I have no sense of when this might occur as I would have thought that rates would be higher be now. For now however deflation (whether it is the real deal or just a threat) is helping keep rates lower and this could last for quite a while longer.
No matter anyone's ability to predict anything here, hopefully it is obvious that the bond market is distorted and that prices are very high. I have made this point many times that prices are high but could stay high for a long time. But prices are high, the Fed has kept rates at zero for a long time and will keep them at zero for a long while yet and treasuries are being bought by the Fed which means the market is distorted. I'd rather participate as little as possible in an expensive and distorted market.
The muni bond market seems to be getting a lot of positive attention of late and I don't know why. The last time I checked only Montana and South Dakota did not have budget deficits and we have all learned much more about the extent to which state and other municipal pensions are underfunded. I had a conversation yesterday with a friend in the business who relayed a comment from a mutual fund wholesaler. Essentially this fund company is of the belief that the ratings companies don't have the time to provide ongoing analysis to rated muni bonds which means there are many issues out there that should have been downgraded but have not been.
If you go through the archives from people like Mish and Edward Harrison you can find all sorts of charts and tables with details about the extent to which deficits are up, pensions are underfunded, sales tax receipts are down, income tax revenue is down and so on. For people who do not want to be aggressive with the fixed income portion of their portfolios I would simply avoid these segments of the bond market.
Most clients have two-four individual corporate issues that are investment grade maturing from 2012-2014, two-three individual foreign sovereign issues, the TIP ETF, one incredibly unvolatile closed end fund, a GNMA fund and one or two bank preferred stocks. My hope is that these don't move a lot and pay some interest into the portfolio, I am not looking for meaningful capital gains from this part of the portfolio.
Finally this little working in retirement nugget. One time Red Sox Bill "Spaceman" Lee has signed a contract with the Brockton Rox of the Can-Am League, which is an independent league. Lee is 63 and per the news release has kept active.No doubt Lee was concerned about the paltry interest rates available for his portfolio but was not willing to chase yield. Surely the Spaceman lives below his means so the couple of hundred bucks he might get per start (this is a professional league) will go a long way to covering his expenses and reduce the burden off of his portfolio for a little while.
Being a little more serious this league has six teams, plays more 100 games over five months which means plenty of jobs for the 50plus home games each team has and there are other leagues like this as well. At 50 games with each game day being six hours, if the the pay is $10/hour that works out to $3000 for 50 days of seasonal work which for someone who loves sports is pretty good. While not a lot of money, it should cover car insurance for the year and some of the utilities. If the same sports fan can find something similar for a winter sport then maybe the rest of the utilities are covered with another 265 days off during the year.
Some might think this is stupid which is fine but I think this is a reasonable example of part time work that someone might enjoy versus staying in a full time job they hate until they're 70.
Read more!
Tuesday, August 17, 2010
China & Investment Process
China has obviously been playing an increasingly larger role in the world economic order which has caused a lot of excitement about the country as an investment destination. The results from investing in China have ebbed and flowed of course with the general perception that there is a lot of promise but also a lot of imbalances and excesses that could offset that promise. Yesterday I found one article that I would describe as addressing the problems and another addressing the promise.
On the problem side of the ledger was this from Bloomberg that noted China's GDP now surpassing that of Japan (on a quarterly basis anyway). This was probably more of a formality or eventuality and now come the projections of when China will surpass the US' GDP (the Bloomberg article quoted Jim O'Neil from GS as saying 2027). While I think predicting such a thing is very difficult due to how many variables can beset anything over such a long period of time and it is very unlikely that the US' GDP will implode--more like slower growth IMO. Whatever the reality we do know that China's GDP is growing much faster than the US disirregardless (hat tip to my buddy Mike) of when China becomes the largest economy.
Anyone interested in owning China in their portfolio has to understand the obstacles that the country faces; some of which are cited in the Bloomberg article. Surpluses are a great thing but there are consequences when they get too large which appears to be the case due in part to lack of domestic consumption. There are over capacity problems in terms of real estate and other parts of the economy. There are threats from over indebtedness on several fronts including off balance sheet debt on the part of various municipalities.
These need to be studied and factored in to any investment decisions. I believe all of this ties in with the bigger picture point I made years ago when I first disclosed owning China via Sinopec (SNP) which is that the growth will happen, money will be spent on certain things but there will be mistakes along the way that will be felt by the equity markets. While I think this falls under the category of obvious observation there are investors that lose sight of the downside.
To get a handle on the promise side of the equation was this post from Farmland Forecast (I tried to load the website but was unable to so the link is to the post as it appeared on Seeking Alpha). It focuses on the dynamics of food demand, the extent to which China has been transitioning from exporter to importer in several crops (corn and soybeans) and some interesting numbers including the expectation of 40% of each new dollar of GDP going toward diet. I can't vouch for any of the numbers but the idea that more Chinese will ascend to something akin to a middleclass lifestyle including a better diet and better living conditions is only logical. Again this too will ebb and flow in terms of the movement of stock prices but the driver (middleclass ascendancy) has been happening and will continue to do so.
Of some interest was this particular quote;
This circles back to New Zealand. I used to own New Zealand Telecom (NZT) across the board and did well with it. I sold years ago now but continue to pay attention to the country as I expect to invest in NZ at some point in the future. The cited passage ties in to the free trade agreement that China has with New Zealand. NZ is often called a commodity country but it is more like an agricultural country. Fonterra is a co-op specializing in diary, is the largest company in NZ but is private. Should it ever IPO, which has been talked about off and on for a long time, it would be a way to benefit from, not capture, the Chinese middle class ascendancy--probably.
The point here about process, I have made this point before with this example, is the need to keep tabs on a country even if it is not investment-worthy at the moment. I sold NZT early in 2006 and continue to believe I will buy back in one way or another at some point. Note this is an example for me you should apply this to whatever countries interest you.
Back to China, for now we are out of the country. We were in years ago with Sinopec, out for a while, back in with China Mobile (CHL) but sold that a while ago. The right way in for us (anyone else needs to figure their own right way in) will be to capture the middleclass ascendancy but not via the financial sector. One option could be the GlobalX Consumer ETF (CHIQ). Some of the narrower China funds are very interesting under the hood but the volume is not great. CHIQ averages 187,000 shares per day which is promising. Anything to do with energy is promising but the Energy ETF (CHIE) has no volume so going that route means an individual stock.
Ditto industrials and infrastructure; interesting segments with illiquid ETFs. Here I would note that the volume is ok for an individual needing a few hundred shares, I wouldn't worry about that liquidity but to the extent this site is about sharing process the volume on some funds takes on a different type of risk beyond the merits of the investment. I continue to like the toll road stocks but again volume makes them look dicey in terms of buying tens of thousands of shares and again we are a small firm. This should evolve for the better but will take time.
On a related NZ note, a week ago Saturday we went to the Portland Saturday Market (an outdoor market situation) and among other things stumbled across a couple of guys from New Zealand selling ice cream imported from New Zealand.
For anyone who's been, it will make sense that I got the Hokey Pokey flavor which is vanilla with little butterscotch bits in it.
Read more!
On the problem side of the ledger was this from Bloomberg that noted China's GDP now surpassing that of Japan (on a quarterly basis anyway). This was probably more of a formality or eventuality and now come the projections of when China will surpass the US' GDP (the Bloomberg article quoted Jim O'Neil from GS as saying 2027). While I think predicting such a thing is very difficult due to how many variables can beset anything over such a long period of time and it is very unlikely that the US' GDP will implode--more like slower growth IMO. Whatever the reality we do know that China's GDP is growing much faster than the US disirregardless (hat tip to my buddy Mike) of when China becomes the largest economy.
Anyone interested in owning China in their portfolio has to understand the obstacles that the country faces; some of which are cited in the Bloomberg article. Surpluses are a great thing but there are consequences when they get too large which appears to be the case due in part to lack of domestic consumption. There are over capacity problems in terms of real estate and other parts of the economy. There are threats from over indebtedness on several fronts including off balance sheet debt on the part of various municipalities.
These need to be studied and factored in to any investment decisions. I believe all of this ties in with the bigger picture point I made years ago when I first disclosed owning China via Sinopec (SNP) which is that the growth will happen, money will be spent on certain things but there will be mistakes along the way that will be felt by the equity markets. While I think this falls under the category of obvious observation there are investors that lose sight of the downside.
To get a handle on the promise side of the equation was this post from Farmland Forecast (I tried to load the website but was unable to so the link is to the post as it appeared on Seeking Alpha). It focuses on the dynamics of food demand, the extent to which China has been transitioning from exporter to importer in several crops (corn and soybeans) and some interesting numbers including the expectation of 40% of each new dollar of GDP going toward diet. I can't vouch for any of the numbers but the idea that more Chinese will ascend to something akin to a middleclass lifestyle including a better diet and better living conditions is only logical. Again this too will ebb and flow in terms of the movement of stock prices but the driver (middleclass ascendancy) has been happening and will continue to do so.
Of some interest was this particular quote;
Mr. Li expects that meat consumption per capita will grow 6.9% by 2015, and milk consumption will grow by more than 50% over the same period. Rural areas will drive meat demand, while urban centers will drive milk demand.
This circles back to New Zealand. I used to own New Zealand Telecom (NZT) across the board and did well with it. I sold years ago now but continue to pay attention to the country as I expect to invest in NZ at some point in the future. The cited passage ties in to the free trade agreement that China has with New Zealand. NZ is often called a commodity country but it is more like an agricultural country. Fonterra is a co-op specializing in diary, is the largest company in NZ but is private. Should it ever IPO, which has been talked about off and on for a long time, it would be a way to benefit from, not capture, the Chinese middle class ascendancy--probably.
The point here about process, I have made this point before with this example, is the need to keep tabs on a country even if it is not investment-worthy at the moment. I sold NZT early in 2006 and continue to believe I will buy back in one way or another at some point. Note this is an example for me you should apply this to whatever countries interest you.
Back to China, for now we are out of the country. We were in years ago with Sinopec, out for a while, back in with China Mobile (CHL) but sold that a while ago. The right way in for us (anyone else needs to figure their own right way in) will be to capture the middleclass ascendancy but not via the financial sector. One option could be the GlobalX Consumer ETF (CHIQ). Some of the narrower China funds are very interesting under the hood but the volume is not great. CHIQ averages 187,000 shares per day which is promising. Anything to do with energy is promising but the Energy ETF (CHIE) has no volume so going that route means an individual stock.
Ditto industrials and infrastructure; interesting segments with illiquid ETFs. Here I would note that the volume is ok for an individual needing a few hundred shares, I wouldn't worry about that liquidity but to the extent this site is about sharing process the volume on some funds takes on a different type of risk beyond the merits of the investment. I continue to like the toll road stocks but again volume makes them look dicey in terms of buying tens of thousands of shares and again we are a small firm. This should evolve for the better but will take time.
On a related NZ note, a week ago Saturday we went to the Portland Saturday Market (an outdoor market situation) and among other things stumbled across a couple of guys from New Zealand selling ice cream imported from New Zealand.For anyone who's been, it will make sense that I got the Hokey Pokey flavor which is vanilla with little butterscotch bits in it.
Read more!
Monday, August 16, 2010
What To Do About Increased Correlation
There has been a report floating around from State Street that included the following interesting nugget about correlation;
Actually that quote is from a post by Wall Street Post Game, there was also a very similar article at All About Alpha that was posted a couple of days earlier on this as well. Essentially someone crunched some numbers around the generalization that was so popular in 2008 that correlations all went to one. While not necessarily shocking I believe the numbers support two points I have tried to make in the past and implement in client portfolios.
First is the top down notion that in a down market it is better to get out, more practically (whipsaw, commission drag, tax consequences) reduce net long exposure, than try to find the few stocks that might go up in a down 30% world. This is of course a building block of top down management. If conditions favor a downtrend (like after a breach of the 200 DMA) the portfolio is better off being defensively positioned or otherwise hedged.
The other point that I think is supported is narrow based investing. A point made here repeatedly was that select countries would not avoid going down a lot but that they would do so on a different time table and thanks to better fundamentals would recover sooner or at the very least have done better than to be down 31% from the peak as the S&P 500 is now. Brazil and Norway kept going up for another seven months after the SPX' peak in 2007 and Chile bottomed out with a 30% drop versus 56% for the S&P 500. Compared to that 31% drop for the SPX mentioned above Chile is up 30%, Brazil up 8% and Norway down 18%. Interestingly Australia, another favorite investment destination appears to be down a hair more than the SPX in that time.
You should be able to get more on country returns for varying time periods from Bespoke Investment Group. I would submit that the decade numbers are more important than the three year numbers. While it is definitely preferable to be down less than the 31% of the SPX for the last three years the more important number is where you stand over a longer period of time and even more important is whether you have enough when you need it. It is unlikely that a three year result will be the make or break for any retirement plan. In that context the point then becomes about trying to smooth out the ride as best as possible which means avoiding the full brunt of down a lot and capturing most of the up cycle.
The importance of luck should not be underestimated either. A true story from yesterday; we went on our normal Sunday morning six-mile hike yesterday morning with a good friend and four of our dogs. When we go on this hike we let Roscoe go without a leash.
Yesterday as we were almost done, maybe a half mile from the car, we saw a woman standing on the trail with her mountain bike and she yelled "there is a rattlesnake (not pictured) here, you might want to leash your dog." As she was saying this Roscoe ran to her anyway and she grabbed him by the collar and I leashed him up. Just as this was happening the snake, about 10 feet off the trail under a manzanita tree, made some noise. We rarely see anyone (or any snakes for that matter) on this trail and that there was someone right by a rattlesnake that Roscoe would have unquestionably gotten too close to was an incredible stroke of luck.
Read more!
When returns (utilizing US and non-US equity markets) are greater than one standard deviation above the mean, the correlation is 17%. However, if the returns drop one standard deviation below the mean, correlation is 76%. With such a high correlation, investments are likely to fall in a collapsed market.
Actually that quote is from a post by Wall Street Post Game, there was also a very similar article at All About Alpha that was posted a couple of days earlier on this as well. Essentially someone crunched some numbers around the generalization that was so popular in 2008 that correlations all went to one. While not necessarily shocking I believe the numbers support two points I have tried to make in the past and implement in client portfolios.
First is the top down notion that in a down market it is better to get out, more practically (whipsaw, commission drag, tax consequences) reduce net long exposure, than try to find the few stocks that might go up in a down 30% world. This is of course a building block of top down management. If conditions favor a downtrend (like after a breach of the 200 DMA) the portfolio is better off being defensively positioned or otherwise hedged.
The other point that I think is supported is narrow based investing. A point made here repeatedly was that select countries would not avoid going down a lot but that they would do so on a different time table and thanks to better fundamentals would recover sooner or at the very least have done better than to be down 31% from the peak as the S&P 500 is now. Brazil and Norway kept going up for another seven months after the SPX' peak in 2007 and Chile bottomed out with a 30% drop versus 56% for the S&P 500. Compared to that 31% drop for the SPX mentioned above Chile is up 30%, Brazil up 8% and Norway down 18%. Interestingly Australia, another favorite investment destination appears to be down a hair more than the SPX in that time.
You should be able to get more on country returns for varying time periods from Bespoke Investment Group. I would submit that the decade numbers are more important than the three year numbers. While it is definitely preferable to be down less than the 31% of the SPX for the last three years the more important number is where you stand over a longer period of time and even more important is whether you have enough when you need it. It is unlikely that a three year result will be the make or break for any retirement plan. In that context the point then becomes about trying to smooth out the ride as best as possible which means avoiding the full brunt of down a lot and capturing most of the up cycle.
The importance of luck should not be underestimated either. A true story from yesterday; we went on our normal Sunday morning six-mile hike yesterday morning with a good friend and four of our dogs. When we go on this hike we let Roscoe go without a leash.Yesterday as we were almost done, maybe a half mile from the car, we saw a woman standing on the trail with her mountain bike and she yelled "there is a rattlesnake (not pictured) here, you might want to leash your dog." As she was saying this Roscoe ran to her anyway and she grabbed him by the collar and I leashed him up. Just as this was happening the snake, about 10 feet off the trail under a manzanita tree, made some noise. We rarely see anyone (or any snakes for that matter) on this trail and that there was someone right by a rattlesnake that Roscoe would have unquestionably gotten too close to was an incredible stroke of luck.
Read more!
Saturday, August 14, 2010
The Big Picture for the Week of August 15, 2010
At the start of the show Power Lunch yesterday Sue Herrera rhetorically asked "are we lost" as a tease for a discussion to be had later in the show (that I missed). She also noted something along the lines of many headlines expressing concern that we could be in for a lost decade. This discussion is always worth having.
To understand what a lost decade might look like we have to go all the way back to the 2000s. On a price basis the S&P 500 was down 24% during the last decade and the ride to that loss was very bumpy. So whether or not this decade is a lost one we all have fresh experience with the outcome.
Before we knew the last decade was going to be lost I did a lot of writing about the need for foreign investing taking up an increasing portion of every US based investor's portfolio. The idea was about the US becoming a less attractive destination not a prediction of the financial crisis. Back in 2004 I think we were around 30% foreign and now we are close to 40% I'd say, in line with getting to 50% within the first couple of years of this decade which I've been talking about for quite a while as well. I would also note we are doing a lot more with foreign fixed income now than we were doing in 2004 when this site started.
The chart captures the ordinary shares (on their local markets) of Cementos Lima (ADR symbol CEMTY) which is the big cement company of Peru and a new one to me compared to the ordinary shares of Cementos Argos (ADR symbol CMTOY) from Colombia and the SPDR S&P 500 ETF (SPY). CMTOY is the one that is up 150%, CEMTY is up 40% and the brown line is SPY.
The chart is from the Businessweek site and the only one I know that charts these markets, the ADRs don't trade enough to make a useful chart. I've been interested in Peru, although haven't done much for clients with it, for quite a while and have not really had much interest in Colombia which is too bad given how well it has done.
Both countries have attributes that I have written about many times before that make them interesting and good candidates for offering diversification to US based investors. Specifically they are not service based economies, have stuff that the world needs and because of this are becoming more globally relevant than they used to be.
Quite frankly, assessing these attributes is simple. As much as I'd like to be one of the great thinkers, I am not, this stuff is very easy to assess for anyone willing and able to spend the time. There is more work involved in the next step of selecting which countries to include and then the best way in to the countries selected but the first step is easy.
The second step should be a process of understanding more detail of what makes the country tick, the current economic stats and where those stats might head over the next six months, 18 months and further out to any time period you are concerned about. Of course this stuff then needs to be followed as well.
As far as picking the best way to access a country, that depends on how you construct your portfolio. At this point we are obviously willing to invest at the country level and there are ETFs for the above countries; GlobalX Interbolsa FTSE Colombia 20 ETF (GXG) and the iShares Peru ETF (EPU) which a couple of clients own. In picking a stock I want what I think is the best proxy for the country while at the same time fitting in with the rest of the portfolio. I'm not sure that cement stocks are a proxy for either country they are just examples but CMTOY has a pretty large weight in GXG but CEMTY is pretty small in EPU. CMTOY stayed with GXG for a while before falling off some starting in May and CEMTY has tracked EPU very closely except for a couple of months in late 2009 where the stock dramatically outperformed the ETF.
In my opinion there were two ways people avoided a lost decade during the oughts; they either traded successfully or invested in foreign markets but avoided Western Europe and Japan in doing so; avoiding financials probably helped too. I'd say country picking is the easier of two and as I have been saying for months now success during this decade will also require country picking.
To the extent this is true there are ever more ETFs available like the ones mentioned above but I would encourage anyone who is not now comfortable with picking individual stocks to also take the time to learn (more) about stock selection. ETFs are very useful of course but by throwing a few stocks into the mix you have a chance of increasing the yield of the entire portfolio.
On an unrelated note for as many times as I've mentioned my 79 year old neighbor who supplements his income with backhoe work I thought I should post a picture (while still keeping him anonymous) so you'd know he's real. He wasn't going to come work on our driveway until Monday but made time yesterday. As I have rhetorically asked before, in referring to him, how many hours at $60 per would it take you to relieve some of the burden off of your portfolio?
Read more!
To understand what a lost decade might look like we have to go all the way back to the 2000s. On a price basis the S&P 500 was down 24% during the last decade and the ride to that loss was very bumpy. So whether or not this decade is a lost one we all have fresh experience with the outcome.
Before we knew the last decade was going to be lost I did a lot of writing about the need for foreign investing taking up an increasing portion of every US based investor's portfolio. The idea was about the US becoming a less attractive destination not a prediction of the financial crisis. Back in 2004 I think we were around 30% foreign and now we are close to 40% I'd say, in line with getting to 50% within the first couple of years of this decade which I've been talking about for quite a while as well. I would also note we are doing a lot more with foreign fixed income now than we were doing in 2004 when this site started.
The chart captures the ordinary shares (on their local markets) of Cementos Lima (ADR symbol CEMTY) which is the big cement company of Peru and a new one to me compared to the ordinary shares of Cementos Argos (ADR symbol CMTOY) from Colombia and the SPDR S&P 500 ETF (SPY). CMTOY is the one that is up 150%, CEMTY is up 40% and the brown line is SPY.The chart is from the Businessweek site and the only one I know that charts these markets, the ADRs don't trade enough to make a useful chart. I've been interested in Peru, although haven't done much for clients with it, for quite a while and have not really had much interest in Colombia which is too bad given how well it has done.
Both countries have attributes that I have written about many times before that make them interesting and good candidates for offering diversification to US based investors. Specifically they are not service based economies, have stuff that the world needs and because of this are becoming more globally relevant than they used to be.
Quite frankly, assessing these attributes is simple. As much as I'd like to be one of the great thinkers, I am not, this stuff is very easy to assess for anyone willing and able to spend the time. There is more work involved in the next step of selecting which countries to include and then the best way in to the countries selected but the first step is easy.
The second step should be a process of understanding more detail of what makes the country tick, the current economic stats and where those stats might head over the next six months, 18 months and further out to any time period you are concerned about. Of course this stuff then needs to be followed as well.
As far as picking the best way to access a country, that depends on how you construct your portfolio. At this point we are obviously willing to invest at the country level and there are ETFs for the above countries; GlobalX Interbolsa FTSE Colombia 20 ETF (GXG) and the iShares Peru ETF (EPU) which a couple of clients own. In picking a stock I want what I think is the best proxy for the country while at the same time fitting in with the rest of the portfolio. I'm not sure that cement stocks are a proxy for either country they are just examples but CMTOY has a pretty large weight in GXG but CEMTY is pretty small in EPU. CMTOY stayed with GXG for a while before falling off some starting in May and CEMTY has tracked EPU very closely except for a couple of months in late 2009 where the stock dramatically outperformed the ETF.
In my opinion there were two ways people avoided a lost decade during the oughts; they either traded successfully or invested in foreign markets but avoided Western Europe and Japan in doing so; avoiding financials probably helped too. I'd say country picking is the easier of two and as I have been saying for months now success during this decade will also require country picking.
To the extent this is true there are ever more ETFs available like the ones mentioned above but I would encourage anyone who is not now comfortable with picking individual stocks to also take the time to learn (more) about stock selection. ETFs are very useful of course but by throwing a few stocks into the mix you have a chance of increasing the yield of the entire portfolio.
On an unrelated note for as many times as I've mentioned my 79 year old neighbor who supplements his income with backhoe work I thought I should post a picture (while still keeping him anonymous) so you'd know he's real. He wasn't going to come work on our driveway until Monday but made time yesterday. As I have rhetorically asked before, in referring to him, how many hours at $60 per would it take you to relieve some of the burden off of your portfolio?
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