Recent months have delivered unprecedented returns in the marketplace for those willing to stomach volatility. A number of folks have asked me what it takes to stomach the volatility?
My answer: Frequent games of basketball and a disciplined investment strategy. Market fundamentals are critical and ought to be the central anchor for the portfolio strategy (see http://2008forecast.blogspot.com/2008/12/my-optimal-portfolio-in-todays-market.html for my fundamental views).
The next element of discipline is understanding and watching "animal spirits". However, the game is changing to displaying ever higher proportions herd behavior in near term movements. And interventions by policy makers around the world are further fueling volatility.
So how do you figure out where the herd (and the contrarians) is headed today? Here are the handful of approaches I use:
1. Standard market data on trading volumes
2. 13(f) filings reporting hedge fund positions (http://www.marketfolly.com/2008/08/about-that-time-again-hedge-fund.html does a nice job of updating so you don't have to dig through Edgar)
3. kaching.com is an interesting way to see broad cross-sections of populations and where they are investing. They use "funny" money portfolios so be careful about people's -- "What I say, versus what i do" bias.
I had an interesting conversation with a UChicago professor on a plane a couple weeks ago (name protected till he gives me permission). Amongst several esoteric topics we had one theme on pattern matching and recognition. Success in markets (and many other areas) is simply pattern matching for a larger number of possible states of the world than others are achieving. Buffett has been better at this than most for a long time, but break it down into simpler steps and you can get there too!
Monday, December 22, 2008
Thursday, December 4, 2008
My Optimal Portfolio in Today's Market
25% Gold and Precious Metals: This is an offense and defense play. Defense against erosion in the value of the dollar (and other currencies) and for unsettled political scenarios. Offense, since the absence of another reserve currency means we need some store of value -- and will return to the historical standard.
25% Emerging International Markets: The BRIC and other emerging economies will maintain positive growth rates through the global downturn and rapidly pick up growth once the economy turns. The structural advantages (demographic, etc) of those economies make them a good medium term play -- with lots of volatilty in the short term, but a clear light at the end of the tunnel for the medium term.
25% Short Bias on Developed Markets: A secular downtrend is firmly in place for several more quarters, even as we see volatility and false rallies. Individual security, sector, and index level plays (naked shorts, ETF's) will provide alpha.
25% Experiments:
1. Volatility Trading: Expect unprecedented ongoing volatility to continue. Establish a portfolio of stocks (or trade the VIX and equivalents) to monitor and range trade for narrow gain. Remember the secular short bias as you "day-trade" the portfolio
2. Policy created returns: New administration in the US has new priorities and will create new winners and losers based on policy incentives. Expect winners in "Green", Defense, Financial Services.
3. US/Europe small cap stocks: Wait a while on this one, but keep it in mind for a play later in Q1 2009 as the Dow corrects to ~6000 and sets up temporary rallies/recoveries.
4. High Yield Corporate Bonds: Even strong companies are facing a real credit crunch. In the short term there is relatively safe fixed income to be had. Add a bit of diversification to the portfolio. DO NOT expect this to be the historical safe play of bonds. Overall bonds are an asset class to just stay away from at this point.
25% Emerging International Markets: The BRIC and other emerging economies will maintain positive growth rates through the global downturn and rapidly pick up growth once the economy turns. The structural advantages (demographic, etc) of those economies make them a good medium term play -- with lots of volatilty in the short term, but a clear light at the end of the tunnel for the medium term.
25% Short Bias on Developed Markets: A secular downtrend is firmly in place for several more quarters, even as we see volatility and false rallies. Individual security, sector, and index level plays (naked shorts, ETF's) will provide alpha.
25% Experiments:
1. Volatility Trading: Expect unprecedented ongoing volatility to continue. Establish a portfolio of stocks (or trade the VIX and equivalents) to monitor and range trade for narrow gain. Remember the secular short bias as you "day-trade" the portfolio
2. Policy created returns: New administration in the US has new priorities and will create new winners and losers based on policy incentives. Expect winners in "Green", Defense, Financial Services.
3. US/Europe small cap stocks: Wait a while on this one, but keep it in mind for a play later in Q1 2009 as the Dow corrects to ~6000 and sets up temporary rallies/recoveries.
4. High Yield Corporate Bonds: Even strong companies are facing a real credit crunch. In the short term there is relatively safe fixed income to be had. Add a bit of diversification to the portfolio. DO NOT expect this to be the historical safe play of bonds. Overall bonds are an asset class to just stay away from at this point.
Wednesday, December 3, 2008
2008-9 Market Predictions
1. In Search of a Bottom: Global Markets will continue to show dramatic volatility for some months. Collective animal spirits seeking a bottom will see several false bottoms across the next months; followed by upward spikes. 2008 may test 6800 (Dow) but also rise to 9300 before the close of the year. Early 2009 will test ~6000 as a lows; expect to see spikes upto 11000 by 2010.
2. USDollar: The rest of 2008 will show the dollar continuing to strengthen against the Euro, Pound, and several emerging market currencies. Q1 (February) 2009 will mark the peak. The search for an alternate reserve currency remains cloudy at best, yet expect to see the weight of US debt, public finance challenges, and the reality (not the hype) of current political realities.
3. Real Estate: Globally Valuations remain high. Several markets will experience a further 25% correction (with a potential for a further over-shooting of 15%). However, real estate will continue to adjust downward on a more sclerotic pace than the stock market. Expect a significant drop in Q1 and then a downward bias for the rest of of 2009. The linkages of real estate to the economy will be a drag on GDP. The nature of regulation/bailout/policy response will determine the speed with which adjustments are accepted in the market, and thus the speed with which GDP growth can return.
4. Gold: The USDollar continues to benefit from deleveraging and the absence of an alternate reserve currency (no, the yen is not it!). Despite the runup of Gold across the last decade, I believe Gold will continue its climb. Its the store of value of last resort -- once we start re-testing some new lows the faint(er) of heart will head for the exits... and gold. If the Fed/Treasury's bailout plan proceeds spectaculary we will have massive inflation on our hands, and again its time for gold.
More to come..
2. USDollar: The rest of 2008 will show the dollar continuing to strengthen against the Euro, Pound, and several emerging market currencies. Q1 (February) 2009 will mark the peak. The search for an alternate reserve currency remains cloudy at best, yet expect to see the weight of US debt, public finance challenges, and the reality (not the hype) of current political realities.
3. Real Estate: Globally Valuations remain high. Several markets will experience a further 25% correction (with a potential for a further over-shooting of 15%). However, real estate will continue to adjust downward on a more sclerotic pace than the stock market. Expect a significant drop in Q1 and then a downward bias for the rest of of 2009. The linkages of real estate to the economy will be a drag on GDP. The nature of regulation/bailout/policy response will determine the speed with which adjustments are accepted in the market, and thus the speed with which GDP growth can return.
4. Gold: The USDollar continues to benefit from deleveraging and the absence of an alternate reserve currency (no, the yen is not it!). Despite the runup of Gold across the last decade, I believe Gold will continue its climb. Its the store of value of last resort -- once we start re-testing some new lows the faint(er) of heart will head for the exits... and gold. If the Fed/Treasury's bailout plan proceeds spectaculary we will have massive inflation on our hands, and again its time for gold.
More to come..
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