Since 1996, I’ve been aware of research that indicates that momentum works in the stock market.? My quandry as a value investor has been to figure out how to incorporate it, if at all.? My approach was to play for the weaker mean-reversion effect, and have a lower turnover rate than would be needed in a value plus momentum strategy.? I am now questioning that decision, even though I have done well in the past. I just finished the initial stages of an analysis that will be available to my clients highlighting the value of momentum strategies.? Using the industries in the S&P 1500 Supercomposite, from October 1995 to December 2008, investing in the Supercomposite yielded an annualized price return of 4.0% (with dividends 5.5%).? The annualized price return for each momentum quintile, where momentum was defined as return over the previous 200 business days, was as follows:
Top — 11.3%
Second — 4.4%
Middle — 6.5%
Fourth — 1.7%
Bottom — 0.2%
Now, there are several weaknesses with this analysis:
No trading costs.? (I think those could be minimized.)
Some industry groups are small, and could not accommodate a lot of money.? (Probably a large problem)
That said, even with those difficulties, there should still be some excess return from following a momentum strategy.? What industries would that imply at present?
Education Services
Brewers
Biotechnology
Water Utilities
Insurance Brokers
Environmental and Facilities Services
Hypermarkets & Supercenters
Health Care Services
Packaged Foods
Pharmaceuticals
Gold
Multi-Utilities
Restaurants
Tobacco
Household Products
Home Improvement Retail
Food Distributors
Distillers & Vintners
Reinsurance
Food Retail
Integrated Oil & Gas
Health Care Technology
Airlines
Health Care Supplies
Electric Utilities
Distributors
For a quick summary, think staples, utilities, health care (excluding insurance), and other industries with stable cash flow.? This is about as bearish as it gets, so be careful for now, and don’t speculate on when the turn in the economy will come.? Focus on what consumers always need. Or, as James Grant once said (something like), “Could this be a bull market in cash?” 😉
This leson goes way back with me, to my graduate student days, where I was assisting the teaching of Corporate Financial Management.? At UC-Davis, this was the class that attracted the bright and motivated students.? I happened to get it as my first assistant role at UCD, not realizing it was a plum role.
One of the things we taught was that most firms suffer financial distress from a failure to manage cash flow properly.? That is a salient lesson in the current environment.? I learned it again as a young life actuary, because life insurance companies can die from credit risk, run-on-the-company risk, or both.? Consider Mutual Benefit, which wrote fixed-rate GICs [Guaranteed Investment Contracts] putable on a ratings downgrade, or General American and ARM Financial, which wrote floating-rate GICs putable on a ratings downgrade.? The downgrades hit.? They were toast.
Illiquid assets must be funded by equity or long-term noncallable debt, where the term is as long as the asset’s horizon.? (Near asset price tops, longer, near bottoms, long enough for comfort.)? This is the first step in orthodox risk management: assuring that you can hold onto your assets under all conditions.
But in this current crisis, this rule has been violated many times:
Investment banks and mortgage REITs that relied on short-term repo funding.? Bye-bye, Bear and Lehman.? Mear miss to Merrill, protected by Bank of America.? Many mortgage REITs dead, or nearly so.
Derivative counterparties like AIG do not factor in the need for more collateral during times of credit stress.
ABCP and SIVs presume that easy lending terms will always be available.
This is the advantage of the actuarial model of risk over the financial model of risk.? I have previously called it table stability versus bicycle stability.? A table always stands, whereas a bicycle has to keep moving to stay upright.? What happens if markets stop trading in any reasonable fashion?? WIll you be broke?? I submit that that is not an acceptable risk to take, because markets do fail for moderate amounts of time.
Better to manage such that you can buy-and-hold for moderate lengths of time, with enough financial slack to tide over rough patches in the market.? Analyze your cash flows over pessimistic scenarios, and ask whether you can carry your positions with sufficient certainty.? Sell down your positions to levels where you are comfortable.
When I was the risk manager for two life insurance companies, one of the first things that I did was analyze the illiquidity of my assets and liabilities, making sure I had liquidity adequate to fund illiquid assets.? The second was analyzing cash flow needs and making sure there was always more cash available than cash needed, under all reasonable scenarios.
This is risk management at its most basic level.? Many on Wall Street looked at short-term asset/liability correlations, and missed whether they could adequately finance their businesses under stressed conditions.
With that, I ask you:
Do you have an adequate liquidity buffer against negative events?
Are you only risking money that you can afford to lose in entire?
Are the companies that you own subject to financing risks?
Asset allocation is paramount in investing.? Bonds and cash get sneered at, but they play an important role in risk reduction for both individuals and institutions.? As my boss at Provident Mutual taught me, “Never risk the franchise.”? That motto guided me, and I avoided crises that other companies suffered.
Will it be the same for you and your assets?? Analyze your survivability in personal finance, and that of your assets, and make adjustments where needed.
The $235 million Lehman vehicle, though, lost 1.7% in value in December because bond prices fell and the insurance backing, called a “wrap” in financial parlance, ended after Lehman’s mid-September bankruptcy filing.
The reason is tied to the wrap agreements negotiated for at least two of the fund’s seven insurance providers, Pacific Life Insurance Co. and J.P. Morgan Chase & Co. Since the full coverage was no longer effective, Invesco severed the arrangements with them.
The 1.7% loss was subtracted from Lehman investors’ accounts, so fund investors ended up receiving about 2% in interest in 2008. The entire situation is causing a stir among stable-value investors, who fear that it may spread to their funds if more bankruptcies crop up. Of course, the shortfall doesn’t come close to the 39% decline in the Standard & Poor’s 500-stock index last year.
The Lehman fund’s 1.7% loss is a rare occurrence in the $416 billion stable-value industry, which has had few problems in its 35-year history. More than half of 401(k) plans in the U.S. now offer stable-value funds.
Stable value funds do have credit risk.? That credit risk is often spread among AAA and AA corporate names, and among the financial guarantors, MBIA and Ambac, and GSEs like Fannie and Freddie, back when they had those ratings.
Often, Stable value funds would purchase mortgage bonds guaranteed by Fannie, Freddie, or one of the guarantors.? They would then purchase a wrap to guarantee that benefit-responsive payments would be made at par, not at market value.? All fine, except that the wrap might not last as long as the mortgage bond in a rising interest rate scenario, or that the guarantor might default.? The former happened this time.
Stable value funds dodged bullets with Fannie and Freddie.? They still have issues with MBIA and Ambac, but the jury is out there.? There is one more major risk area for stable value funds: rapidly rising interest rates.
In a situation where short-term interest rates rise rapidly, the crediting rate of the stable value fund will lag the rise significantly, leading some to withdraw when the market value of the fund is less than the book value, leading to a possible run on the fund.? Now my proposal, A Proposal for Money Market Funds, and More, could deal with the problem, but that’s not in any of the contracts that I know of.
This is not to scare you out of stable value funds — after all, in a bad market, what does worse?? Stocks or stable value?? Stocks, of course.? But where you can move to other options that are more palatable, like short-term bond funds, money market funds, etc., it could be a good move.? Even a blanced fund or a corporate bond fund could work in this environment.
Be aware, and pressure your DC plan providers for more data on the stable value option.
At the beginning of each calendar year, I sit down and see how my expenses have tracked over the past year.? I make a table and a pie chart to show my wife.? She is always amazed at how much goes to taxes, though the new amazement is what it takes to put children through college.? We spend some time discussing plans for the next year.? Since my wife is not money-oriented (not a big spender, and focused on teaching the children) this gives her a quick way to get reoriented in our financial situation.
After that, I look at investment income.? 2008 was an unusual year for me in this way: it was the first year in my working life that my net worth fell.? Though painful, at age 48, I’m grateful that I have had a good past.
I then look at how individual stocks in the portfolio did.? Here’s a chart for 2008:
The chart is in order from the biggest gain to the biggest loss.? XIRR is the internal rate of return on funds during 2008, and days was the number of days I held a position during 2008.? Needless to say, this was my worst year ever, but I still did better than the S&P 500 by a middling single digit percentage.
That is important to me, because in 2009 I hope to gain my first external client. I have been banging my head against the wall, because I have a small bunch of investors that want to sign on, but they all don’t want to be my first client.? They want to see an institutional investor invest in my fund, then they will invest with me.? Frustrating.
Since strategy inception in 2000, I have beaten the S&P every year except 2007, where I missed by less than a percent.? And, given the performance of many well known value managers in 2008, beating the S&P ain’t bad.
Going back to the table above, I got whacked on names with bad balance sheets, life insurers, and names with too much cyclicality.? I did well on a number of names that I bought cheaply, and particularly on my October reshaping, where I focused on survivability.
I still think survivability is the watchword here.? I’ll be putting out my candidates list for the next reshaping soon, as well as my main industry model, but in an environment like this, raw cheapness doesn’t matter; a company must survive to realize the discount on its valuation.? Remember, the main rule of value investing is not “buy them cheap,” is not “lowest average cost wins,” but is “margin of safety.”
One more note: the present portfolio “long only” portfolio is 22% cash.? That is the highest level in eight years.? I have raised cash into the recent rally through my normal rebalancing discipline.? I will deploy cash as I get opportunity into strong names with strong balance sheets.
Asset Allocation
I also look at our asset allocation.? Excluding our house (no mortgage), it looks like this:
30% Cash and TIPS
20% International Stocks
18% Large Cap US Stocks
17% Small Cap US Stocks
15% Private Equity
I have no debts, but I have eight liabilities, two of which are going to college, and six of which might do so.? That is my main financial challenge for the next fifteen years (the little one is almost seven, and what a cutie.)
Even though I am bearish, I am comfortable with the amount of risk that I am taking, partly because I may derive a business from it through my ability to pick stocks that do relatively well.? The private equity is illiquid, but in this environment even it is doing well — having clever businessmen as friends is a help.
Swap — Bought Japan Smaller Capitalization Fund, sold SPDR Russell Nomura Small Cap Japan? (The CEF was trading at an extreme discount)
Rebalancing Sales
Assurant (3)
RGA
Valero Energy
CRH
Magna Automotive
Safety Insurance
Charlotte Russe
Shoe Carnival
Devon Energy
Japan Smaller Capitalization Fund
Rebalancing Buys
Assurant (2)
Charlotte Russe (2)
Magna Automotive
Shoe Carnival
Nam Tai Electronics
I also participated in the RGA exchange, where I traded my A shares for B shares when the discount was wide, and received RGA shares one-for-one when the exchange was complete.
Blog News
I have several book reviews coming, including one on Technical Analysis, and one on how wealthy people got that way.? I also have a panoply of other article ideas:
How the lure of free money corrupts politicians
Setting up mutual banks
The risk of no significant change (not yes we can, but, why do we need to change?)
Hidden correlations
The mercantilists lost
Analyzing TIPS
Momentum strategies
Buybacks
Confidence means keeping assets inflated
How securitization could aid resolution of our current crisis
It is a lot of fun writing this weblog.? I enjoy it a lot.? As I close this note, I would like to thank:
Those that read the blog
Those that comment here, and send me email (all of which I read, but I can’t answer all of it)
Seeking Alpha
Others that republish me
Those that buy products at Amazon through my site
Those that buy blogads at my site
Other bloggers that give me good ideas
And the firm that employs me, Finacorp, but bears no liability for my mutterings here.
2009 may prove to be a better year than 2008.? If that is not true, we will be rivaling the Great Depression.? That said, there are opportunities even in bad economic environments, and lts see if we can’t make the best of what we do get.? Here is to making the most of our opportunities in 2009.? May the LORD bless us all in our endeavors.
Full disclosure: long COP SBS DIIB.PK MGA IBA XEC VLO TNP JSC NTE VSH SAFT CHIC SCVL HIG RGA HMC ESV KPPC DVN ALL PRE CRH PEP GPC LNT NUE AIZ (yes, that is the complete current portfolio)
If you have time, there are two long articles that are worth a read.? The first is from the Washington Post, and deals with the demise of AIG, highlighting the role of AIG Financial Products.? It was written in three parts — one, two, and three, corresponding to three phases:
Growth of a clever enterprise, AIGFP.
Expansion into default swaps.
Death of AIG as it gets downgraded and has to post collateral, leading to insolvency.
What fascinated me the most was the willingness of managers at AIGFP to think that writing default protection was “free money.”? There is no free money, but the lure of “free money” brings out the worst in mankind.? This is not just true of businessmen, but of politicians, as I will point out later.
My own take on the topic involved my dealings with some guys at AIGFP while I was at AIG.? Boy, were they arrogant!? It’s one thing to look down on competitors; it’s another thing to look down on another division of your own company that is not competing with you, though doing something similar.
As I sold GICs for Provident Mutual, when I went to conferences, AIGFP people were far more numerous than AIG people selling GICs.? The AIG GIC sellers may have been competitors of mine, but they were honest, and I cooperated with them on industry projects.? Again, the AIGFP people were arrogant — but what was I to say?? They were more successful, seemingly.
The last era, as AIG got downgraded, was while I wrote for RealMoney.? After AIG was added to the Dow, I was consistently negative on the stock.? I had several worries:
Was AIGFP properly hedged?
Were reserves for the long-tail commercial lines conservative?
Why had leverage quadrupled over the last 15 years?? ROA had fallen as ROE stayed the same.? The AIG religion of 15% after-tax ROE had been maintained, but at a cost of increasing leverage.
Was AIG such a bespoke behemoth that even Greenberg could not manage it?
My own experiences inside AIG, upon more mature reflection, made me wonder whether there might not be significant accounting chicanery.? (I was privy to a number of significant reserving errors 1989-1992).
In general, opaqueness, and high debt (even if it’s rated AAA), is usually a recipe for disaster.? AIG fit that mold well.
Now AIG recently sold one of their core P&C subsidiaries for what looks like a bargain price.? This is only an opinion, but I think AIG stock is an eventual zero.? Granted, all insurance valuations are crunched now, but even with that, if selling the relatively transparent operations such as Hartford Steam Boiler brings so little, then unless the whole sector turns, AIG has no chance.? Along the same lines, I don’t expect the “rescue” to be over soon, and I expect the US govenment to take a significant loss on this one.
The second article is from Bethany McLean of Vanity Fair.? I remember reading her writings during the accounting scandals at Fannie Mae.? She was sharp then, and sharp now.? There were a loose group of analysts that went under the moniker “Fannie Fraud Patrol.”:? I still have a t-shirt from that endeavor, from my writings at RealMoney, and my proving that the fair value balance sheets of Fannie were unlikely to be right back in 2002.
Again, there is a growing bubble, as with AIG.? The need to grow income leads Fannie and Freddie to buy in mortgages that they have guaranteed, to earn spread income.? It also leads them to buy the loans made by their competitors.? It leads them to lever up even more.? It leads them to dilute underwriting standards.? Franklin Raines’ goals lead to accounting fraud as his earning targets can’t be reached fairly.
One lack in the article is that the guarantees that Fannie had written would render Fannie insolvent at the time the Treasury took them over.? On a cash flow basis, that might not happen for a long time, but it would happen.? Defaults would be well above what was their worst case scenario, and too much for their thin capital base.
The last article is another three part series from the Washington Post that is about the failure of our financial markets.? (Here are the parts — one, two, three.)? What are the main points of the article?
Bailing out LTCM gave regulators a false sense of confidence.? They relished the micro-level success, but did not consider the macro implications of how speculation would affect the investment banks.
Because of turf and philosophy conflicts, derivatives were left unregulated.? (My view is that anything the goverment guarantees must be regulated.? Other financial institutions can be unregulated, but they can have no ties to the government, or regulated financial entities.
The banking regulators failed to fulfill their proper roles regarding loan underwriting, consumer protection and bank leverage.? The Office of Thrift Supervision was particularly egregious in not doing their duty, and also the the SEC who loosened investment bank capital requirements in 2004.
Proper risk-based capital became impossible to enforce for Investment banks, because regulators could not understand what was going on; perhaps that is one reason why they gave up.
The regulators, relying on the rating agencies, could not account for credit risk in any proper manner, because the products were too new.? Corporate bonds are one thing — ABS is another, and we don’t know the risk properties of any asset class that has not been through a failure cycle.? Regulators should problably not let regulated entities use any financial instrument that has not been through systemic failure to any high degree.
Standards fell everywhere as the party went on, and the bad debts built up.? It was a “Devil take the hindmost” situation.? But as the music played, and party went on, more chairs would be removed, leaving a scramble when the music stopped.? Cash, cash, who’s got cash?!
In the aftermath, regulation will rise.? Some will be smart, some will be irrelevant, some will be dumb.? But it will rise, simply because the American people demand action from their legislators, who will push oin the Executive and regulators.
A few final notes:
Accounting rules and regulatory rules were in my opinion flawed, because they allowed for gain on sale in securitizations, rather than off of release from risk, which means much more capital would need to be held, and profits deferred till deals near their completion.
This could never happened as badly without the misapplication of monetary policy.? Greenspan enver let the recessions do their work and clear away bad debts.
Also, the neomercantilistic nations facilitated the US taking on all this debt as they overbuilt their export industries, and bought our debt in exchange.
The investment banks relied too heavily on risk models that assumed continuous markets.? Oddly, their poorer cousin, the life insurers don’t rely on that to the same degree (Leaving aside various option-like products… and no, the regulators don’t know what is going on there in my opinion.)
The insurance parts of AIG are seemingly fine; what did the company in was their unregulated entities, and an overleveraged holding company, aided by a management that pushed for returns and accounting results that could not be safely achieved.
The GSEs were a part of the crisis, but they weren’t the core of the crisis — conservative ideologues pushing that theory aren’t right.? But the liberals (including Bush Jr) pushing the view that there was no need for reform were wrong too.? We did not need to push housing so hard on people that were ill-equipped to survive a small- much less a moderate-to-large downturn.
With the GSEs, it is difficult to please too many masters: Congress, regulators, stockholders, the executive — all of which had different agendas, and all of which enoyed the ease that a boom in real estate prices provided.? Now that the leverage is coming down, the fights are there, but with new venom — arguing over scarcity is usually less pleasant than arguing over plenty.
As in my blame game series — there is a lot of blame to go around here, and personally, it would be good if there were a little bit more humility and willingness to say “Yes, I have a bit of blame here too.”? And here is part of my blame-taking: I should have warned louder, and made it clearer to people reading me that my stock investing is required because of the business that I was building.? I played at the edge of the crisis in my investing, and anyone investing alongside me got whacked with me.? For that, I apologize.? It is what I hate most about investment writing — people losing because they listened to me.
I am not a gambler, and I never will be.? I take the risks of a businessman as I invest, and not those of a speculator.? I found it interesting to to read this Wall Street Journal article where public defined benefit pension plans are not fleeing hedge funds.? This is an area where I half agree.? Because the yields of high yield bonds are so high, this is not a time to abandon aggressive strategies.? Rather, it is a time to embrace them, slowly and carefully.
I looked through the database of my writings in the CC at RealMoney, and I found these two comments that fit the moment well.
This isn’t a burning hot issue at present, but I have been impressed with the increasing amount of money getting thrown at esoteric asset classes by pension plans and endowments, in an attempt to diversify and gain higher total returns. In the intermediate term, it is not sustainable. For now, party on, we are in overshoot mode.
By esoteric asset classes, I mean: commodities, timber, credit default, emerging markets, junk bonds, low-quality stocks, the toxic waste of asset- and mortgage-backed securities, hedge funds and private equity.
Many novel asset classes provide both higher returns and diversification when they are first used. As more and more players get comfortable with it, they buy in, lowering the required total return needed to attract investors, but pushing up returns to pre-existing holders as the price rises.
This can be self-reinforcing for quite a while, with a lot of money blindly flowing in, until some player games the system, selling securities that fail miserably. A panic ensues, and the asset class goes through a maturation process that learns to distinguish quality within the asset class.
With the rise in yields, high quality bonds have been giving holders a hard time in total return terms. But you don’t buy bonds for total returns; you buy them for income, and diversification; they tend to do well when risky assets break down.
I guess my short summary is this: with risky asset classes so highly correlated at present, if you want to diversify, go to high quality bonds, or cash. The theoretical diversification of risky assets based on correlation measures calculated over long time periods is no longer valid.
Alternatives to the Terror of Actuarial Funding Targets
9/27/2007 2:57 PM EDT
Jordan, my deep suspicion with respect to the pension plan sponsors is that they are looking at the gap between the yield they can get from investment grade bonds and the yield they need to fund the pension promises, and they realize that they are going to have to make a larger allocation to risky assets. After that, they look at the past track record on public equities, and conclude that they have been hurt by the lack of returns over the past seven years. Then they look at the returns in alternative investments, and say, “What great returns! Why have I been ignoring these? If David Swensen can do it, so can I!”
Well, David Swensen is a bright guy who went to the party early. Alternative investments were truly alternative when he arrived. Today they are mainstream, and some of them have gotten overfished. The plan sponsors can allocate all they like to alternatives, but they aren’t magic… they can do just as bad as public equity, and with far less liquidity.
If I were a plan sponsor today, I would begin trimming alternative areas that look crowded, like private equity, commercial real estate, and certain types of hedge funds while the door is still open. For some areas, like CDOs [Collateralized Debt Obligations] the door is already closed.
I would also lower my return expectations, and plan on contributing more. Heresy, I know. But alternatives are over-used, and no longer alternative. They won’t deliver the same high returns in the future that they did in the past.
Position: none
I am not unsympathetic here as public pension plans essentially say, “Well we have to earn enough to meet our actuarial funding targets, and at this point, bonds of the highest quality don’t help us.? Hedge funds promise high returns regardless of market movements, so we need to allocate money there.”
At this point in the cycle, I might have some sympathy, because enough arbitrage relationships are broken, offereing some opportunity.? At the same time, and ordinary investment in a basket of lower investment grade and high yield bonds offers a nice return for those willing to live with some default risk, which is over-discounted here, even with things as bad as they are.
In a bear market, once you have taken a severe amount of damage, the question is “what offers the best return from here?”? The answer might be unpopular, but it should be pursued.? Even as defined benefit managers pursued seeming diversification with bad payoffs as noted above, and should have sought long term guarantees, at a time like now, where guarantees are tremendously expensive, and yields are high? because of possible default, it is a time to take risk, and fund the best entities that may not make it.
These are ugly times, but we have to think like Ben Graham during the Great Depression.? What will survive?? Where can a little bit of additional capital spell the difference between death and survival?
This is a time to take risk.? Things could get worse from here, so don’t overcommit, but don’t fail to commit either.? Make some reasoned judgements about what is likely to do well ten years out, and invest for it.
This is a rough time.? I offer solace to those that are battling the markets; you are having a rough time of it.? The challenge here is whether the risk premium in fixed income assets offers enough compensation versus Treasury quality assets.? My answer is yes, realizing that this is a bumpy trade, and will require patience to receive the returns promised.
One of my readers asked to see my asset allocation questionnaire. Well, here it is:
Risk Questionnaire
How old are you?
When will you need the money at earliest?
When will you need the money at latest?
Most likely, when will you need the money?
Over the most likely horizon, what rate of return do you want to earn on your money, relative to money market rates and yields on high quality long bonds?
As a percentage of your assets, what is the most you could afford to lose over one year?
As a percentage of your assets, what is the most you could afford to lose over five years?
How closely do you want to watch your investments?? (Daily, Monthly, Quarterly, Annually, Never)
=-=-=-=-=-=-=–=-==-=-=-=-=-=–==-=-=-
When I was the investment actuary in the pension division of Provident Mutual, I would run into investment risk analyses that would make my head spin. My main gripes would revolve around the squishy questions that they would ask, many of which had nothing to do with long term investing.
Thus, my questionnaire. Feel free to use/modify it as you like. I have found that it is very good at sniffing out an investor’s real preferences. The last question also helps me understand the nature of the investor, and how much input/output he wants to have.
Risk tolerance is more a question of time horizon and loss averseness than anything else. Bravery and cowardice play a lesser role, if they even have a role.
At his excellent blog, Paul Kedrosky posted a piece on bank deposit guarantees across nations.? It included this graph:
Now I will give you an unusual analogy that reflects the story that this graph is telling us.? This is somewhat like what the Defined Contribution [DC] plan industry went through when it moved from annual valuation, annual redirection of monies, to quarterly, to monthly, to the eventual change your asset allocation once a day if you like.
With annually, a huge number of people would make moves. Quarterly, not so much, but it still increased the over all number of transactions. Monthly brought a decline in the total number of transactions. Daily? Few people transact because they can always do it.
So, when the guarantee is unlimited, few take advantage of it. When it is limited, people get far closer to the limit on average.
This is just another application of behavioral economics.? When something is free, people don’t value it as much, so they don’t use it.? When something is hard to do and valuable, they take every opportunity.? In between they act to some degree to preserve value at the appropriate dates or amounts.? After all they will have another chance soon.
Many people have asked me what to do in this market environment, and I have sat and thought about it.? My own personal portfolio is around 60% equities, 15% my home, and 25% cash.
I think probabilistically.? I don’t focus on just one scenario.? I try to balance across a wide number of scenarios, and ask what will do the best.? In a foggy situation like today, that answer is not easy.
I will give you an example.? 8.5 years ago, the leaders of my church came to me and said “Would you invest the money for our congregation’s building fund?”? My initial answer was “no.”? I don’t like investing money for friends, generally.? They came back again, and said, “Please?”? I felt ashamed, and said, “Okay, fill out this risk questionnaire.”? They gave me a series of answers that essentially said, “We don’t know when we need the money, but get a good return for us.”
Ugh.? In May of 2000 went back to Ben Graham’s 50/50 (stocks/bonds), and then adjusted it, taking 10% from the area of the market that I liked worst, and added it to the area I liked best.? I took growth stocks and sold them and bought long term corporate bonds.
Since then I have made further adjustments.? The current portfolio is:
Much as I like Vanguard, I am not endorsing any of their funds here; they are example for asset allocation.? I am very light on US stocks here, and intentionally so.? This portfolio has an anti-inflation bias, and will do better against a weaker dollar.? The corporate bonds, both investment grade and high yield, replace equity exposure.? Corporates are cheap relative to common stocks, and they have better protective characteristics as well.? Though I don’t have any closed-end corporate floating rate funds here, they could be interesting if their leverage was low enough, which isn’t common.? As for the international developed market stocks, a basket of different countries will likely do better than a simple US exposure, even if the dollar continues to fall.
TIPS have been a fatal attraction for me, and I hope to have a post? out in the near term explaining their value in this environment where inflation is negative for now.? My view is that the Fed will eventually monetize the debts they are incurring.? Also, as the dollar gets weaker, inflation will get imported back into the US.
What could go wrong here?? We could have a trade war, or the US government could take actions to protect the value of debt held by foreigners (not likely).? If the equity markets rally, investment grade corporates and high yield will not be far behind, but this portfolio would lag.
No portfolio is perfect.? This one certainly isn’t, but it is my attempt to position for what I view as a lousy economic environment that will eventually yield inflation.
Full disclosure: long VIPSX, and my church long what is listed above
I am usually not crazy about books that propound a simple way to beat the market.? This is one of those books.? What makes me willing to write a review about this book, is that the writer, Charles Kirkpatrick is willing to incorporate some fundamental measures into his analyses, notably price-to-sales, which will help with industrial companies, but not with financials.
This is a simple book that reinforces the idea that one needs to pay attention to valuation (in a rudimentary way), and also to momentum.? While I don’t endorse the specific methods of the book, I will say that for someone with a low amount of time, and wanting to do a little better than the market averages, he could do so over the intermediate-term with the methods in the book.
Note: I am not endorsing the technical methods in the book, but most of the methods boil down to momentum, anyway.
PS ? Remember, I don?t have a tip jar, but I do do book reviews.? If you enter Amazon through a link on my site and buy things from them, I get a small commission, and you don?t pay anything extra.? I?m not out to sell things to you, so much as provide a service.? Not all books are good, and not every book is right for everyone, and I try to make that clear, rather than only giving positive book reviews on new books.? I review old books that have dropped of the radar as well, like this one, because they are often more valuable than what you can find on the shelves at your local bookstore.
I am usually not crazy about books that propound a simple way to beat the market.? This is one of those books.? What makes me willing to write a review about this book, is that the writer, Charles Kirkpatrick is willing to incorporate some fundamental measures into his analyses, notably price-to-sales, which will help with industrial companies, but not with financials.