Graig Nettles of the NY Yankees used this phrase to describe the ebb and flow of the career of reliever Albert “Sparky” Lyle. There’s an analogue in the mutual fund/EFT market.

One of the things rookie securities analysts and portfolio managers often hear is “don’t chase.” I certainly did, practically every day from one of my mentors. That is, don’t buy the latest hot stock that’s surging and has already doubled or tripled in price. It’s too late. Instead, look for a complementary play–a key supplier, a rival, an end-user, something that’s a logical extension of the economic forces moving the hot stock upward but which hasn’t been realized by the market yet. Wait for a pullback. Or look in a completely different area.

My experience is that retail investors tend not to do this. They chase. And the higher an ETF or fund price goes, the more eager they are to buy it. Experienced PMs, or if not them, their supervisors, know–most times from bitter experience–that sustained, extra large inflows of retail cash are a huge red flag signaling that a downturn is near and that the PM should become more defensive.

That’s easier said than done. Turn the question around. What not to do? The #1 not is maintaining extreme concentration (increasing concentration would be even worse) in the names that have done the best–and which are the most likely to suffer the most in any market decline.

Most managers have an understandable aversion to maintaining large cash positions. This amounts to making an always-tricky bet on the direction of the market. Almost thirty years as a professional PM and supervisor of other PMs tell me the best thing to do is to broaden out the portfolio to look more like the market, for a while at least. The actual occurrence of a market downturn will be the signal to sharpen the portfolio’s focus again. As another one of my mentors often pointed out, “the pain of underperformance lasts long after the glow of outperformance has faded.” In other words, defense is not a bad thing.

This morning I was reading the report of a recent Wall Street Journal interview with Cathie Wood about the performance of ARKK since its peak in early 2021, a period when $6 billion in new money apparently poured into the fund. According to the WSJ, the fund’s assets are down from $30 billion then to about $9 billion now, mostly due to portfolio losses rather than redemptions. Ms. Wood is quoted as being “astonished” at the low level of redemptions she has been experiencing, and even those she attributes to profit-taking.

Knowing nothing about the flows in and out of ARKK, my sense is that this is right, as far as it goes. It could easily be that traders bought the fund early in the year, on the idea of a short-term bounce from last year’s losers, and are now exiting, having made 60% on their money.

I’m not sure this retention is a vote of confidence in ARKK, though. My (extensive) experience in turning around underperforming funds is that retail investors are very stubbornly focused on their entry price. They generally wait for breakeven, when nothing can stop them from redeeming. The one exception is when a shareholder has a professional advisor. In this case, red ink is a continuing issue in meetings to discuss performance. In such cases, the advisor will likely try to persuade the client to switch to a fund with similar goals, mostly to eliminate the eyesore.

Redemptions, though, aren’t a totally bad thing. If the PM comes in every morning needing to sell something to meet shareholders’ requests for their money back, the mind is hyper-focused on what is wheat and what is chaff. …much more than when boatloads of new cash are coming in.

There will of course be no sayonara for Ms. Wood, since she controls the ARK firm. It’s hard to evaluate whether this is good or bad, but the manager change (which is what usually happens in cases like this) is often a trigger for redemptions by devotees of the former head stock picker.

BTW, the Journal article attributes the poor performance of ARKK to its having concentrated on early-stage unprofitable companies where investors have had high hopes for eventual earnings. To me, holdings like TSLA, ROKU and SQ argue that this is much too simplistic.

Yahoo Finance

Most of the time, I use Yahoo Finance to look at stock prices. Partly, it’s that I’m used to it. But I also like their charts, even though there are days where the site’s more detailed charts don’t work at all. It’s fast and easy to get summary financials, as well. And, although I rarely look at trading volumes, the numbers are available if I need them.

the report

The other day I noticed a report from one of the many stock advisory services that advertise on Yahoo. It was about Disney (DIS), so I glanced through it. Three things struck me:

–the report was a cut-and-paste summary of recent newspaper articles and company announcements, put together in clunky enough way to suggest it had to have been AI generated

–it talked about “linear networks” in a way that blurred the distinction between ABC and ESPN, and

–there was no evidence that either a human or computer had made an effort to read the DIS financials, or even the company website, much less tried to project the possibilities for earnings over the next few years.

Another thing that jumped out. The report asserted the supposed key importance of the Media segment for DIS. As I see it, that’s was clearly right twenty years ago, but not today.

DIS

One more, related thing. I owned DIS for about eight years, starting from the Marvel acquisition in 2006. I’d started looking at the company again a short while ago, mostly out of curiosity–and because my grandchildren have gotten to the age where DIS meant something to them. In the intervening time, DIS has made its financial reporting much more opaque. The best example, I think, is that it has condensed its business into two units, Parks and Media. One sub-category of Media is Linear Networks, which is basically ABC + ESPN. No information on either individual business, though.

In my day, there were five segments, each with its own abbreviated P&L statement. The Media segment breakout showed that close to 90% of its operating income back then came from ESPN, with ABC generating a tiny (for overall DIS) amount relatively steadily. ESPN, though still highly profitable, hit maturity more than a decade (?) ago, when News Corp thwarted its bid to expand its reach into UK soccer. Heavily dependent on its ubiquity in cable TV packages, ESPN’s profitability has been gradually eroding as the cost of programming rises and as people switch to streaming.

Again, to my mind, the #1 problem DIS faces is how to deal with Ron DeSantis’s attack on Disney World. It isn’t just DeSantis, I think, but how quickly the entire legislature has turned on the company. Despite being one of the state’s largest employers and taxpayers, and in the state for fifty years, there seems to be no love for DIS in Tallahassee. We’re also beginning to hear about conventions and other gatherings being moved away from Florida, in protest of DeSantis’s policies and from safety fears.

So far, DIS seems to be doing the obvious–shift investment elsewhere.

#2 is how to get the $9 billion to pay for Hulu. As I wrote a short while ago, I don’t think this is the big deal the financial media re making of it. Still, I think this is an occasion to rethink the overall structure of DIS. As I see the company as now constituted, it consists of three parts:

–the movie business, whose home run-or-strikeout nature is somewhat cushioned by the catalog of past hits,

–the theme parks, with an unparalleled brand name, in the US at least, but subject to the ups and downs of the economic cycle, and

–ABC + ESPN. Both are mature and both look a lot like bonds.

Arguably, both ABC and ESPN would be worth more to fixed income investors than to DIS. The downside of a full or partial sale would be the loss of a stabilizing force for earnings. To pluck a number out of the air, if ABC makes $400 million a year in operating income and a private equity buyer were content with an 8% yield, its sale would bring in close to $5 billion. If it makes $600 million, which would be 10% of what Linear Networks is currently taking in, the corresponding figure would be $7.5 billion. Broken up into individual TV stations, it might bring more.

DIS is apparently thinking both of selling a minority interest in ESPN and of divesting ABC completely.

back to the report

A much more interesting thing would be a sum of the parts analysis, that would value the theme parks, movie-making and ABC + ESPN, and determine thereby what the market is now paying for the DIS streaming business.

It’s happening on Friday and will reduce the relative size of the largest constituents of that index. I’ve red a number of tortured, and basically incorrect, explanations of why this is happening–all coming from financial “expert” commentators who are showing that they’ve never managed an equity mutual fund in the US.

In its simplest form, the issue is this:

–federal securities laws limit the number of positions of 5% or more of its assets that a mutual fund that calls itself diversified (which is basically all of them) can have

–once a fund has reached this structural limit, the 5% (or 5%+) positions are free to grow as they may, and the fund can always sell, but it is not permitted to buy more of these stocks. For an index fund, this would mean, in effect, that it can’t invest any new money in the largest index members.

The more complicated version: in applying this diversification test, a mutual fund can exclude 25% of its assets (I have no idea what the rationale is). In the case of the NASDAQ 100, however, the two largest index constituents, MSFT and AAPL, already make up more than a quarter of the total market cap. Numbers three and four, NVDA and AMZN are about 7% of the index each, with the next two largest, TSLA and META, both approaching 5%. So we’re closer than one might imagine to triggering the diversification rule.

Hence, the upcoming restructuring of the index.

To be clear, UPST is an AI-driven lender–and a company I don’t know that much about. It suffers, to my mind, from the affliction that’s common to all financials–that it’s hard to know for sure how solid the loan book is.

The stock was a pandemic darling, cresting at just over $400 a share before a steep downhill ride to $11 or so earlier this year. It’s about $43 as I’m writing this. Book value is under $10/share–meaning, as I see it, if UPST were liquidated today, a one-share holder would have a ten-dollar bill + an interest in any intellectual property, distribution apparatus and warm customer feelings the company might have engendered.

So holders have got to be thinking that the potential of the UPST AI-driven business is worth $30+ per share today. That’s down from, say, $390 at the 2021 top and $4 or so a few months ago.

I have no clue about what the right number is.

Why I’m interested in UPST and what I think about it is this:

–at some point in the evolution of the market through a down phase and approaching the next up period, the (sometimes wildly) overvalued darlings of the previous cycle get completely trashed. At some point they may trade at below liquidation value. This typically marks an important bottom. The way I read UPST, this happened late in Q1.

Btw, Carvana (CVNA) is another stock among many exhibiting the same behavior. It peaked at just over $370 a share in 2021, fell to a tad above $7 in late March, and is $35 as I’m writing this. Book value at yearend 2022 was slightly negative.

–/for me, it would be a mistake to chase this wave after a gigantic move up that could easily be cresting right now. What it signals, to my mind, is that it’s now safer than it’s been in a couple of years to try to figure out winners vs. the losers in what I think will be a relatively conventional business expansion.

…I think one of the most useful things for us as investors to do in a drifting market–or at a time like the present where I don’t have especially strong convictions about near-term prospects is to let the market speak to us. Put a different way, it’s to watch carefully the price action of stocks we either own or are interested in.

Stocks almost always take a zig-zag path toward their ultimate goal. So day-to-day volatility is a fact of life. In particular, stocks that have gone up a lot tend to have periods where some investors decide to take profits–and the stock goes down. Similarly, stocks that have been going down a lot tend to have periods when they stabilize, or even go up a little. Maybe short-sellers closing out their short positions, maybe value investors deciding the stock–however ugly–is, to them anyway, too cheap to ignore.

So that’s typically just noise.

I find two situations potentially more informative. They’re both more pieces of the puzzle than sure-fire indicators, though, but they’re enough, I think, to give one pause for thought:

–on a down day, a stock that has been in a downtrend goes sideways or up, This may be an early sign that the market thinks the stock is cheap enough. Maybe it will never be a buy for us, but if nothing else it might be a place to hide in a storm

–on an up day, a recent star goes down. I find this to be a much iffier event than a downtrending stock stopping declining. What it may say, though, is that the crowd is no longer just along for the ride and is actively selling into strength. This can be driven by position size or a trading bot that’s lost its bearings. But it can also be a sign that the market know something we don’t. Again, not enough by itself to do anything. But if you were seriously contemplating trimming the position–and essentially looking for reasons to sell a part of the position, this should put you on high alert.