Tag Archives: Current Market Tactics

reversion to the mean

October 30, 2013 By in book value, distressed assets, from growth to value: the life cycle, growth vs value, mean reversion, two flavors of value Tags: , , , , , , , Leave a comment

Mean version has two senses:

1.  The first is important for traders, less so for investors.  It’s that if we construct a trend line or moving average for a stock from past prices, the stock will tend to trade in a reasonably well-defined band or channel around the trend.  In theory at least, one can make money by buying when the stock is at the lower edge of the band and selling when it’s at the higher edge.

2.  The second is a cardinal tenet for value investors.  It’s that over long periods of time stocks in general tend to rise and fall in line with overall earnings performance, which is, in turn, a function of the ebb and flow of nominal GDP.  Some stocks may have episodes where they perform far better than that.  Others may have extended periods when they fall far short of this mark, which in the US probably averages around +8% per year.  The value investor’s argument is that both classes, serial outperformers and serial underperformers alike, will inevitably see their fortunes reverse and their stocks revert to the long-term mean performance.

For high-fliers, this means they’ll, sooner or later, crash and burn.  For the stock market’s junk pile, on the other hand, its denizens will have periods when they’ll rise like the phoenix.  The latter are what value investors look for.

old school value investing

For some value investors, this is it.  This is all they do.  They run screens that find the cheapest stocks based on price/cash flow, price/earnings or price/assets–or some combination of the three.  And then they buy them.

I knew one who systematically went through books of charts looking for stocks that had experienced catastrophic drops (not a good strategy–once they figured out what he was doing, brokers began to send this guy charts with the price axis stretched out and the time axis compressed, so that every stock they touted looked like a train wreck.  Last I heard–I was hired to clean up the unholy mess he created–he was selling real estate in the Philippines).

Every investor is in some sense a contrarian.  At the very least, we all believe that the stock we are buying has more up left in it than the seller does, and the stock we are selling has less.  We also know the cardinal rule is to “buy low and sell high.”  Nevertheless, I think the simple strategy I just outlined, which is at the heart of the value investing practiced a generation ago, no longer works.

Why am I writing about this today?  

I was listening to Bloomberg radio in my car yesterday,when Dave Wilson repeated the observation of a market strategist that the divergence between the strong relative performance of the sector ETF for Consumer Discretionary and the weak outcome for Staples was as great as it was just before the Internet bubble popped in 2000.  What followed was a fierce reversion to the mean by both sectors.

The implication was that this factoid is significant.  As usual for Bloomberg, what or why was not forthcoming.

More tomorrow.

 

 

recent currency movements

October 24, 2013 By in Constructing a Portfolio, Current Market Thoughts, economics, Portfolio management, Recent Market Action, Stock ideas, Strategy Tags: , , , , , , , Leave a comment

Big macroeconomic changes that affect the relative investment attractiveness of countries vs. one another can play themselves out in two ways:

–changes in the local currency value of the country’s investable assets, and/or

–changes in the value of the country’s currency.

The easiest way to see this is to look at Japan.  The election of Prime Minister Shinzo Abe and the enactment of wide-reaching policy changes he campaigned on have produced two major effects so far:

-a one-year gain of 60% in the yen value of the Japanese stock market and

–a 20% fall in the yen against the US$.

The net result for a ¥-oriented investor is a bonanza–and more joy than the Topix has seen since the 1980s.  For a $-oriented investor, however, it’s a 28% gain.  That’s not much better than the 22% advance in dollars the S&P 500 achieved over the same span.

Looking more closely into the Japanese stock market, weak-yen beneficiaries (exporters and import-competing firms) have been rocket ship rides; domestic-oriented firms, especially those that use dollar-priced raw materials, have languished.

But this is old news.  What’s happening today?

The big movements I see are in the euro and the US dollar.

Over the past three months, the EU currency is up by 4% against the dollar and by 2% against the yen.  The dollar, in contrast, is down against everything except the Canadian currency.  It’s off by 5% against sterling, 4% against the euro, -3.5% against the Australian dollar, -2% against the yen, and -1% against the renminbi.

I think currencies are reflecting two main things:

–primarily, the belief that the EU is finally past the worst economically and is beginning the slow road back to recovery.  Same thing for the UK, only more so.

–secondarily, loss of faith in the US because of worse than usual policy paralysis in Washington.

The big question for investors of all stripes is whether we are in early days of a trend reversal or whether what we’re seeing is just white noise, or random currency movements that may soon reverse themselves.   The answer has important implications for portfolio positioning.

I’m in the former camp.  This means that in Europe, like in Japan a year ago (but on a smaller scale), I should be shifting away from foreign currency earners and toward users of foreign currency-denominated inputs.  I should be doing the opposite in the US.  So far, I’m only changing my (relatively minor) holdings in European stocks.  But I’m worming up to do more.

Washington crisis over …what now?

October 17, 2013 By in Current Market Thoughts, Portfolio management, Strategy Tags: , , , , , , Leave a comment

Federal government workers in the eastern US are on their way beck to work as I’m writing this.  The debt ceiling crisis has been postponed for several months.

What happens next on Wall Street?

On the one hand (the bigger one), I think investors will also go back to their “normal” work.  That is, they’ll:

–continue to absorb information from the 3Q13 earnings season and company guidance about 4Q13 prospects, and

–continue to form expectations for the global economy in 2014.

They’ll reshape their portfolios in response to news.

Here’s what I expect–

Prior to the shutdown, the US economy appeared to be gradually picking up steam.  My guess is that steady progress will resume, after a short air pocket caused by the layoff without pay of government workers.

As for 2014, it will probably be a stronger year for the global economy than this one:

–the EU continues to give signs that its economies have bottomed and are trundling, albeit slowly, down the road to recovery

–China is trending up again, possibly more quickly than the consensus expects

–ex more destructive emanations from Washington, the US will likely continue to have the strongest growth in the developed world.

This analysis suggests that the same equity portfolio structure that produced market-beating results in 2013 should be good for 2014, as well.

On the other hand,

there’s the question of possible stock market fallout from Washington’s continuing dysfunction.  This could come in one of two ways:  investors might demand a higher risk premium for investing in the US than they have previously; or Washington might, by accident or design, do something that further damages the country’s economic prospects.

Who knows?  I certainly don’t   …nor, in my opinion, does anyone else.  Nevertheless, this is an issue.

In situations like this, what professionals do is to try to construct a portfolio where the answer to an imponderable question is unimportant.  This is not a hedge.  It’s an attempt to find stocks where the answer to a thorny question makes little difference.

For example, an investor can:

–rotate European holdings away from multinationals with US exposure toward domestic-oriented firms (something one would probably do anyway)

–shift away from domestic names in the US toward companies with EU or Pacific ex Japan exposure

–get China exposure through Hong Kong stocks instead of US ones

–opt for secular growth companies rather than business cycle-sensitive ones.

I think professionals will do all these things.

In addition, foreign pms will probably opt to hold less in the US.  Domestic US managers may do so as well–although this would be an active portfolio response to the question of the future tone of Washington policy, rather than simply a way to make it as irrelevant as possible.

The net result will be to take some of the shine off US equities.  They’ll still go up, in my view, but not as much as if the government shutdown had never happened.

 

 

restaurants vs. supermarkets: reversal of form?

October 11, 2013 By in Consumer Staples, Current Market Thoughts, Entertainment, Industry Analysis, Lodging Tags: , , , , , , , Leave a comment

trend reversals

The government shutdown means that all the government databases are unavailable.  That’s good news for me   …and bad.  It means I can’t get precise data.  On the other hand, I feel justified in winging it.

I’ve been thinking a lot lately about Millennials vs. Baby Boomers, probably because I’m one and my kids are the other.  I’ve also been thinking about trend reversals, mostly because I believe we’re in a time when a lot of this is happening.  There are always to make money from recognizing trend reversals early.

restaurants vs. supermarkets

I remember seeing a piece of truly excellent sell-side research about ten years ago that documented the changes in American eating habits over a 30-40-year period.  The essence was that through good times and bad Americans were spending an ever-increasing proportion of their food budgets on meals away from home (eating in restaurants + take out).  Not only that, but the extra expense of restaurant meals vs. home cooking had been on a steady decline from, say, a 40% premium over cooking at home two decades earlier to 20% at the time of the report.

The conclusion:  a MEGATREND favoring restaurants over supermarkets (which were having competitive problems with Wal-Mart, anyway).  At that time, home cooking represented just over half of what consumers were spending on food.  The restaurant share was inching up by 0.5% – 1.0% annually.  NO END IN SIGHT!

Well, the Great Recession has changed that.  Over the past few years, eating out has been falling as a percentage of consumer spending on food.

Details:

–everyone outside the top 20% by income has cut back on restaurants a lot in order to save money– and by enough to derail the long-lasting pro-restaurant trend

–Millennials have not only cut back, but they’ve aggressively traded down to less expensive eateries

–seventy-somethings have changed their behavior the least

I think there are two related reasons for the cutback:

–what economists call a substitution effect, as consumers rejigger their spending to maintain, or enhance, their lifestyles in a world without pay increases and where interest rates are ultra-low, and

–workers realize they can’t get sick if they want to retain their jobs, so they’re eating healthier.

I’m not sure how much of this is already baked in the stock price cake, as it were.  But I think it’s worth taking a look at eat-at-home beneficiaries to check.