The Aleph Blog » Blog Archive » Industry Ranks December 2010

Industry Ranks December 2010

I’m working on my quarterly reshaping — where I choose new companies to enter my portfolio.  The first part of this is industry analysis.

My main industry model is illustrated in the graphic.  Green industries are cold.  Red industries are hot.  If you like to play momentum, look at the red zone, and ask the question, “Where are trends under-discounted?”  Price momentum tends to persist, but look for areas where it might be even better in the near term.

If you are a value player, look at the green zone, and ask where trends are over-discounted.  Yes, things are bad, but are they all that bad?  Perhaps the is room for mean reversion.

My candidates from both categories are in the column labeled “Dig through.”

If you use any of this, choose what you use off of your own trading style.  If you trade frequently, stay in the red zone.  Trading infrequently, play in the green zone — don’t look for momentum, look for mean reversion.

Whatever you do, be consistent in your methods regarding momentum/mean-reversion, and only change methods if your current method is working well.

Huh?  Why change if things are working well?  I’m not saying to change if things are working well.  I’m saying don’t change if things are working badly.  Price momentum and mean-reversion are cyclical, and we tend to make changes at the worst possible moments, just before the pattern changes.  Maximum pain drives changes for most people, which is why average investors don’t make much money.

Maximum pleasure when things are going right leaves investors fat, dumb, and happy — no one thinks of changing then.  This is why a disciplined approach that forces changes on a portfolio is useful, as I do 3-4 times a year.  It forces me to be bloodless and sell stocks with less potential for those wth more potential over the next 1-5 years.

I like technology names here, some utilities, and healthcare-related names, particularly those that are strongly capitalized.  I’m not concerned about the healthcare bill; necessary services will be delivered, and healthcare companies will get paid.

I’m looking for undervalued and stable industries.  Human resources — sure, more part time workers.  Healthcare information?  A growing field, even with the new “health bill.”  Same for Biotech.

Even in a double dip, phone calls will still be made, and the internet will still be accessed.

I’m not saying that there is always a bull market out there, and I will find it for you.  But there are places that are relatively better, and I have done relatively well in finding them.

At present, I am trying to be defensive.  I don’t have a lot of faith in the market as a whole, so I am biased toward the green zone, looking for mean-reversion, rather than momentum persisting.  The red zone is more highly cyclical than I have seen in quite a while.  I will be very happy hanging out in dull stocks for a while.

This report I will continue to publish after my firm commences operations at the start of 2011.  But I will delete my portfolios at, and will only report trades after all of my clients have their orders filled.  More to come on all of that.

Industry Rotation, Portfolio Management, Stocks, Value Investing | RSS 2.0 |

3 Responses to Industry Ranks December 2010

  1. says:

    1) What is your source for Industry rank?

    2) I have found that most of the time less cool stock do better. Example, PCS over VZ and T.

    3) Any thought onf GS vs MS vs JPM? They look equal to me. I plan to go long and sell the near OTM calls and roll the calls until all premimum is gone.

  2. 1) Value Line, with a number of tweaks.

    2) I generally agree. Glamour underperforms.

    3) No opinion, except that JPM *may* have the least risk.

  3. matt says:

    “Any thought onf GS vs MS vs JPM”

    This is my macro view on this question:

    The housing sector was a large source of unskilled and skilled labor earning high wages. Given the inventory overhang in housing, a large contingent of the population will likely be a source of structural unemployment for many years. Additionally, it is unlikely that the housing market will super-heat again, so even a recovery in housing to normal levels will leave structural unemployment higher than previously during expansions.

    The broad U.S. economy will likely see growth significantly slower than the post-war trend-growth, going forward. As a result of this slower growth and diminished impact of the housing market in the U.S. economy, money center banks will likely see significantly reduced revenue growth compared to previous rates.

    In an environment with slow growth, many companies recklessly acquire for accretive growth (empire builders). We have already seen this in Intel, HP, etc., where companies are basically doing conglomerate mergers.

    So, my opinion of MS/JPM/GS, anecdotally, is that you should avoid those banks with a large retail footprint and be focusing on financial institutions which derive a large portion of their revenue from capital market activities.

    JPM has large credit card and retail banking operations. JPM might have less variance than the other two, but I think it has diminished prospects. MS and GS are more capital markets oriented. There are also some other “pure-plays” in the M&A arena that you could review.

    I think that GS, in particular has additional headline risk. There are some insider trading investigations occurring that have, so far, avoided GS. However, when a company has proprietary trading operations that take losses on only a handful of the 250 trading days in a year, that is statistically impossible. They may have the political capital to kill any investigations before they start, but I don’t want to bet on that.

    In general, financial services companies:

    1. Have a low barrier to entry and extremely high margins (think about that from a competition perspective in your analysis)
    2. They have already made a significant run and, while they have lagged in the recent equity rally, I don’t think that they are cheap anymore from a P/B perspective.

    Disclosure: I have a de minimis stake in JPM


David Merkel is an investment professional, and like every investment professional, he makes mistakes. David encourages you to do your own independent "due diligence" on any idea that he talks about, because he could be wrong. Nothing written here, at RealMoney, Wall Street All-Stars, or anywhere else David may write is an invitation to buy or sell any particular security; at most, David is handing out educated guesses as to what the markets may do. David is fond of saying, "The markets always find a new way to make a fool out of you," and so he encourages caution in investing. Risk control wins the game in the long run, not bold moves. Even the best strategies of the past fail, sometimes spectacularly, when you least expect it. David is not immune to that, so please understand that any past success of his will be probably be followed by failures.

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