Two perspicacious readers, Jest and MarkM, left comments on the last post, for which I thank them both for taking the time to do so. Please make sure that you read them. I wanted to bring some of their topics into conversation in a post rather than relegate it to the comments section.
Both Jest and MarkM are TA fans. So am I. And as I thought about my previous post, the comments here in addition to other "arguments" I've seen about TA v. fundamental analysis, the following occurred to me: You cannot TRADE successfully without technical analysis--in fact you don't even need fundamental analysis; however, you cannot INVEST (as opposed to TRADE) successfully without fundamental analysis. And, I'll tag a qualifier on the latter. Without exercising some technical analysis to evaluate your entry points, an investor is deprived of a strategy that may increase his/her probability of improved returns. To do otherwise, in my view, is akin to driving while blind. It's worth noting that no matter how prodigious one's skill is in either TA or fundamental analysis, one can still fail, and fail miserably. Therefore, protecting capital should be the paramount strategy regardless of the tools that one employs.
Jest also notes to "only invest where your personal traits and strengths give you an advantage." I'd like to hear a bit more of Jest's view on this point. I think that it is useful to parse out which investing constituency we are talking about. If one were to carve out traders and very active investors (such as those who are reading this, or the other blogs I and my readers visit), there's a huge bulk of money that belongs to people who are passive investors. I believe that these folks (and I was one of them) would benefit from having a fundamental understanding of business cycles and sectors that follow those cycles. Being in the right sector at the right time goes a long way toward assuaging any deficiencies in understanding a particular stock. Many folks only have mutual funds; however, with the sector universe of mutual funds so rich in offerings now, being better equipped to make diversification and rebalancing decisions among sector offerings would, in my view: (1) decrease the amount of risk that many of these investors face; (2) increase their returns; (3) reduce volatility; and (4) protect capital (I realize that this is a function of 1 and 3).
I've not researched this, but I think that it would be a terrific offering by mutual funds to offer investors a business cycle mutual fund. It would be actively managed to overweight/underweight exposure to various industries as economic cycles unfold. Maybe someone offers this--if they don't, I think that it would be a boon to the average investor. Comments on that thought would be welcomed.
I'm going to say something terrible now, and if any reader wishes to take me to task, they can--but I'm going to be a complete worm and tell you in advance that I'm not going to debate it! But I really believe that the "buy and hold forever" strategy (read: sacred cow) is so widely touted because it is the easiest strategy for money managers to convey to their clients that results in the highest ratio of fee to time expended. I know that sounds jaded, perhaps even paranoid, but I truly believe it.
Jest also notes the state of mainstream economics. I've not delved into economic theory, Keynesian, Austrian or Lilliputian! It is really beyond my level of understanding, and I think that of most people. (Though I profess admiration for those who tackle it with such gusto--my hat is off to you, Jest!). Now I'm making a tangential jump off here.....On another blog (Real Money on TheStreet.com) someone asked about the implicit guarantees on the government sponsored entities (GSE's)--that's Fannie Mae, Ginny Mae and Freddi Mac. It came up because NLY dropped from $20 to as low as $14 or so in the last couple of days. These guys only have FNM investments.
It's worth noting that Jim Cramer touted NLY. (Jest's comment of investing where you have an advantage comes into play here!) I've been wary of any of any of these types of stocks because regardless of the safety of the investments (more in a minute) the interest rate on many of these bonds were not credit risk adjusted. If there is one thing to understand about the conditions of the current credit environment is that NONE OF THESE INSTRUMENTS had correct interest spreads. When the credit spreads blew open, that depreciates the price of the principle.
The credit markets are in a lather. Many believe that the GSE's represent government backed securities; hence they are less risky. This understanding is an implicit one that abrades against the explicit language to the contrary: Here's the statement from a Fannie Mae prospectus (and you'll see it on the others, too): "Our guaranties are not backed by the full faith and credit of the United States."
It's useful to understand (and I unfortunately have an inconsequential command of such a consequential matter) how money gets recycled in global commerce. One reason foreign governments have such a high investment in US debt and GSE instruments is that it is a way to recycle export dollars. If you want to see the major foreign holders, you can do so here. Note that this is not a percentage of total issued debt. I'm too lazy to find that this morning. I'm working up to a point here!
The point: Yesterday, apparently, there was a moment where Paulson could have acknowledged the implicit understanding that GSE debt would ultimately be guaranteed by the US. He didn't bite. Because of the implicit understanding (an assume, with the admonishment of what happens when you assume) on the part of investors, the leverage loads on buying such securities is pretty high. Remember, to arbitrage interest rate differentials, or even to increase your returns on low interest rate securities, you have to lever up. When you lever up, small changes in the levered investment--in this case discounting of the security due to perceptions of credit-worthiness--can sink the ship (or float the boat in a wonderful way should it go in your favor). Such is what happened to NLY.
Now if we are calling into question the credit worthiness of the GSE's, that is just another earthquake rattling the credit markets. So many money markets hold this stuff: Insurance companies; Foreign investors; Moms and Pops. If these GSE's are allowed to fail, then our USD will come under tremendous pressure--and commodity prices will become even more expensive. I'm not saying the GSE's will fail. In fact, I'll state this: THEY WILL NOT BE ALLOWED TO FAIL. If I'm wrong on this statement, being taken to task on the error will be the least of my and your worries, for the world as we know it will come to an end!
Rather, I'm pointing out that what happened to NLY is something that you should be aware of--and particularly something that you should look for in your portfolio. Credit markets work on confidence--and when confidence is lost, fear sets in. We are witnessing this at unprecedented levels (except maybe what happened in the '30's). Remember just a year ago when the estimates for the credit blowout were believed to be small in comparison to the Asian debt crisis. I think that we've outstripped that in spades. Having said all of that--with all this dislocation, therein lies opportunity. I think that much of that opportunity is for folks who have unfettered access to the books of these distressed organizations and who can conduct appropriate due diligence. That's not to say that shrewd, risk tolerant investors cannot make some gambits in that area. I know that my own capabilities are sorely wanting in that area for these types of investments.
MarkM notes that timing does work and offers a couple of suggestions on that. I don't negate that short term timing works, but it is difficult, if not impossible, for the AVERAGE investor. We can all agree that MarkM is not average in the least! Nevertheless, I think that EVERY investor--whether you have $10K or $1M+ in the market, needs to understand market cycles or sector rotations. Watching the whoosh in and out of sectors over this past year has been spectacular to behold. And this declining market cycle, the whoosh out began with the REITS. Accordingly, it makes sense that this group will be the first to recover. Interestingly, all of my health care REITS (on a watchlist) were green yesterday. I think that the REIT's are going to require one really "know" their investment. I still think that there are some pressures there, and I'm not a buyer unless I do some due diligence. With respect to sectors and economic cycles, the financials are generally the first in and the first out (FIFO). Commodities are the last in and last out. That would be LILO! I'm not aware of last in first out (LIFO) sectors
MarkM, I agree with you on commodities. In fact, I think an interesting pairs trade would be UYG/SMN (ultra long financials/ ultrashort basic materials). I think that the commodities NEED to fall to get a decent rally. However, and I'm not sure how to parse this out, both of these sectors have cross currents that we've not had with other market cycles. (Please correct me if I'm wrong on this). For the financials, it is the credit market disintermediation. For the commodities, it is the weakness in the USD (its plunging) coupled with global demand from emerging markets that make it difficult for that fall to happen.
I think that the commodity action is much like that with the tech horsemen that were goosed up by traders prior to their ignominious falls. I've some SMN which returned a healthy 8% in on e day. I've been in and out of this one as I've been "early" to that thesis. These 2x can act like a 2x4 on your portfolio if you get in going to the wrong way. I have to confess, though, that in my spec account, I started a position three days ago and scared myself out of it when X was goosed. I thought about being early, again, and closed. It was a costly mistake--lost a lot of potential gain.
Regarding a multi-week rally. Oh to have a crystal ball! I'll hazard a guess that (1) in the absence of bad news we can have a rally or at the very least stabilize; (2) in the absence of bad news and coupled with even modest GOOD news we could have a good rally; and (3) absent bad news and coupled with some superific good news we will have a terrific rally. I tried to think of examples of what 'modes good news' would be v. 'superific good news' but I've not way to calibrate that. Perhaps just absence of bad news and the market stabilizing in and of itself would be modest good news. Anything beyond that would be 'superific.'
Of course, I'm just an observer. It has been a fascinating show for which I've tried to keep my ticket fee reasonably priced.
Both Jest and MarkM are TA fans. So am I. And as I thought about my previous post, the comments here in addition to other "arguments" I've seen about TA v. fundamental analysis, the following occurred to me: You cannot TRADE successfully without technical analysis--in fact you don't even need fundamental analysis; however, you cannot INVEST (as opposed to TRADE) successfully without fundamental analysis. And, I'll tag a qualifier on the latter. Without exercising some technical analysis to evaluate your entry points, an investor is deprived of a strategy that may increase his/her probability of improved returns. To do otherwise, in my view, is akin to driving while blind. It's worth noting that no matter how prodigious one's skill is in either TA or fundamental analysis, one can still fail, and fail miserably. Therefore, protecting capital should be the paramount strategy regardless of the tools that one employs.
Jest also notes to "only invest where your personal traits and strengths give you an advantage." I'd like to hear a bit more of Jest's view on this point. I think that it is useful to parse out which investing constituency we are talking about. If one were to carve out traders and very active investors (such as those who are reading this, or the other blogs I and my readers visit), there's a huge bulk of money that belongs to people who are passive investors. I believe that these folks (and I was one of them) would benefit from having a fundamental understanding of business cycles and sectors that follow those cycles. Being in the right sector at the right time goes a long way toward assuaging any deficiencies in understanding a particular stock. Many folks only have mutual funds; however, with the sector universe of mutual funds so rich in offerings now, being better equipped to make diversification and rebalancing decisions among sector offerings would, in my view: (1) decrease the amount of risk that many of these investors face; (2) increase their returns; (3) reduce volatility; and (4) protect capital (I realize that this is a function of 1 and 3).
I've not researched this, but I think that it would be a terrific offering by mutual funds to offer investors a business cycle mutual fund. It would be actively managed to overweight/underweight exposure to various industries as economic cycles unfold. Maybe someone offers this--if they don't, I think that it would be a boon to the average investor. Comments on that thought would be welcomed.
I'm going to say something terrible now, and if any reader wishes to take me to task, they can--but I'm going to be a complete worm and tell you in advance that I'm not going to debate it! But I really believe that the "buy and hold forever" strategy (read: sacred cow) is so widely touted because it is the easiest strategy for money managers to convey to their clients that results in the highest ratio of fee to time expended. I know that sounds jaded, perhaps even paranoid, but I truly believe it.
Jest also notes the state of mainstream economics. I've not delved into economic theory, Keynesian, Austrian or Lilliputian! It is really beyond my level of understanding, and I think that of most people. (Though I profess admiration for those who tackle it with such gusto--my hat is off to you, Jest!). Now I'm making a tangential jump off here.....On another blog (Real Money on TheStreet.com) someone asked about the implicit guarantees on the government sponsored entities (GSE's)--that's Fannie Mae, Ginny Mae and Freddi Mac. It came up because NLY dropped from $20 to as low as $14 or so in the last couple of days. These guys only have FNM investments.
It's worth noting that Jim Cramer touted NLY. (Jest's comment of investing where you have an advantage comes into play here!) I've been wary of any of any of these types of stocks because regardless of the safety of the investments (more in a minute) the interest rate on many of these bonds were not credit risk adjusted. If there is one thing to understand about the conditions of the current credit environment is that NONE OF THESE INSTRUMENTS had correct interest spreads. When the credit spreads blew open, that depreciates the price of the principle.
The credit markets are in a lather. Many believe that the GSE's represent government backed securities; hence they are less risky. This understanding is an implicit one that abrades against the explicit language to the contrary: Here's the statement from a Fannie Mae prospectus (and you'll see it on the others, too): "Our guaranties are not backed by the full faith and credit of the United States."
It's useful to understand (and I unfortunately have an inconsequential command of such a consequential matter) how money gets recycled in global commerce. One reason foreign governments have such a high investment in US debt and GSE instruments is that it is a way to recycle export dollars. If you want to see the major foreign holders, you can do so here. Note that this is not a percentage of total issued debt. I'm too lazy to find that this morning. I'm working up to a point here!
The point: Yesterday, apparently, there was a moment where Paulson could have acknowledged the implicit understanding that GSE debt would ultimately be guaranteed by the US. He didn't bite. Because of the implicit understanding (an assume, with the admonishment of what happens when you assume) on the part of investors, the leverage loads on buying such securities is pretty high. Remember, to arbitrage interest rate differentials, or even to increase your returns on low interest rate securities, you have to lever up. When you lever up, small changes in the levered investment--in this case discounting of the security due to perceptions of credit-worthiness--can sink the ship (or float the boat in a wonderful way should it go in your favor). Such is what happened to NLY.
Now if we are calling into question the credit worthiness of the GSE's, that is just another earthquake rattling the credit markets. So many money markets hold this stuff: Insurance companies; Foreign investors; Moms and Pops. If these GSE's are allowed to fail, then our USD will come under tremendous pressure--and commodity prices will become even more expensive. I'm not saying the GSE's will fail. In fact, I'll state this: THEY WILL NOT BE ALLOWED TO FAIL. If I'm wrong on this statement, being taken to task on the error will be the least of my and your worries, for the world as we know it will come to an end!
Rather, I'm pointing out that what happened to NLY is something that you should be aware of--and particularly something that you should look for in your portfolio. Credit markets work on confidence--and when confidence is lost, fear sets in. We are witnessing this at unprecedented levels (except maybe what happened in the '30's). Remember just a year ago when the estimates for the credit blowout were believed to be small in comparison to the Asian debt crisis. I think that we've outstripped that in spades. Having said all of that--with all this dislocation, therein lies opportunity. I think that much of that opportunity is for folks who have unfettered access to the books of these distressed organizations and who can conduct appropriate due diligence. That's not to say that shrewd, risk tolerant investors cannot make some gambits in that area. I know that my own capabilities are sorely wanting in that area for these types of investments.
MarkM notes that timing does work and offers a couple of suggestions on that. I don't negate that short term timing works, but it is difficult, if not impossible, for the AVERAGE investor. We can all agree that MarkM is not average in the least! Nevertheless, I think that EVERY investor--whether you have $10K or $1M+ in the market, needs to understand market cycles or sector rotations. Watching the whoosh in and out of sectors over this past year has been spectacular to behold. And this declining market cycle, the whoosh out began with the REITS. Accordingly, it makes sense that this group will be the first to recover. Interestingly, all of my health care REITS (on a watchlist) were green yesterday. I think that the REIT's are going to require one really "know" their investment. I still think that there are some pressures there, and I'm not a buyer unless I do some due diligence. With respect to sectors and economic cycles, the financials are generally the first in and the first out (FIFO). Commodities are the last in and last out. That would be LILO! I'm not aware of last in first out (LIFO) sectors
MarkM, I agree with you on commodities. In fact, I think an interesting pairs trade would be UYG/SMN (ultra long financials/ ultrashort basic materials). I think that the commodities NEED to fall to get a decent rally. However, and I'm not sure how to parse this out, both of these sectors have cross currents that we've not had with other market cycles. (Please correct me if I'm wrong on this). For the financials, it is the credit market disintermediation. For the commodities, it is the weakness in the USD (its plunging) coupled with global demand from emerging markets that make it difficult for that fall to happen.
I think that the commodity action is much like that with the tech horsemen that were goosed up by traders prior to their ignominious falls. I've some SMN which returned a healthy 8% in on e day. I've been in and out of this one as I've been "early" to that thesis. These 2x can act like a 2x4 on your portfolio if you get in going to the wrong way. I have to confess, though, that in my spec account, I started a position three days ago and scared myself out of it when X was goosed. I thought about being early, again, and closed. It was a costly mistake--lost a lot of potential gain.
Regarding a multi-week rally. Oh to have a crystal ball! I'll hazard a guess that (1) in the absence of bad news we can have a rally or at the very least stabilize; (2) in the absence of bad news and coupled with even modest GOOD news we could have a good rally; and (3) absent bad news and coupled with some superific good news we will have a terrific rally. I tried to think of examples of what 'modes good news' would be v. 'superific good news' but I've not way to calibrate that. Perhaps just absence of bad news and the market stabilizing in and of itself would be modest good news. Anything beyond that would be 'superific.'
Of course, I'm just an observer. It has been a fascinating show for which I've tried to keep my ticket fee reasonably priced.
4 comments:
L-
Much obliged for the compliment. I try. And occasionally, I share. ;)
XRO is the Claymore/Zacks sector rotation ETF. For actively managed funds, I would have to point to the brilliant Ken Heebner's CGM Focus. If he doesn't actively rotate I don't know what he is doing. And that boy is hot, hot, hot. One day, of course, he will be wrong but for now....YOWZA.
MarkM
i totally agree about TA and investing/trading. i suck at trading, but my attempts at learning it have made me a much better investor. i'd encourage all investors to trade a couple times just to understand the concepts.
re: strengths and traits. there's a lot that we could go into on this.
for example, sometimes it's possible to know too much, b/c you'll tend to overcomplicate things, outsmart yourself, and pay par for a BBB subprime CDO, with a CDS guarantee from FGIC. simplicity is the hated stepchild of most investors, but keeping a simple, clear strategy plays to the strengths of most people. a lot of people don't understand that.
in terms of other advantages over institutional money that average people have:
1) time/patience
2) power of compounding
3) lack of leverage
4) not having to beat the index every quarter
5) humility
1) is important b/c of the importance of dividends. i'm pretty conservative. i contend most of the real return comes from increases in book value, and dividends. but collecting dividends and watching book value rise takes years, not quarters. prices, on the other hand, move like crazy.
re: business cycles
that's where the austrian analysis really comes into play for me, but not like you think. most people think of the austrian business cycle as a boom/bust credit cycle. but as bill cara would say, "we trade prices," not cycles. i use economics to anticipate PRICES, rather than business conditions. the lesser discussed part of the austrian business cycle has to do with relative price movements of capital: high order capital prices rise in the 1st half of the cycle, low order capital prices rise in the second half. so to make money over the full cycle, one has to switch from high order capital (stocks, bonds, equipment, etc.) to low order capital (commodities). i'm buying what increases in price depending on the phase of the cycle, and avoidig everything else. it's interesting to note that bonds don't necessarily go up in the recessionary stage of the cycle. over the past 6 months or so, that strategy has worked out perfectly...
it's also interesting from a secular perspective, b/c this theory seems to dovetail with secular bear markets, commodity super-cycles, and K-wave theory.
Financials getting trashed so far today. No divergence yet. Still waiting. IMO, it will be the QQQQs that perk up when the financials finally do. QLD might be the ticket. Turnaround Tuesday?(Either that or we go straight to Perdition here.)
MarkM
C went below $20. GE went below $32. Rumors of liquidity issues with some Wall Street firm. SMN continues to do well. My rail puts are marginally profitable. I still am mostly cash.
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