Tag Archives: Portfolio management

Shaping a Portfolio for 2017: a look back at 2016

December 21, 2016 By in Uncategorized Tags: , , Leave a comment

The first step in formulating an investment strategy for the coming year is to check back to see how well you did in forecasting what would be happening in the current year.

Here goes.

I thought that the best economy in the investable would be the US, that the EU would begin to rebound from a poor 2015 and that the emerging/frontier markets should be avoided.  Ok so far.

I thought that eps growth in the US would be +6% – +7%, that interest rates would remain ultra-low, that PE multiples would neither expand nor contract, and that individual stock selection, rather than industry or sector selection, would be the key to success.   Mostly ok.

 

Actually, if the year had ended on November 1st, my year-ago thoughts would have turned out to be pretty accurate.  Yes, I didn’t foresee that Britain would vote to leave the EU, but of course that referendum didn’t need to be called in 2016 and the June date for voting was only set in February 2016.  And I didn’t anticipate the January-February market swoon that started the year off.  That doesn’t bother me so much, either.

So until the approach of Election Day, I was doing about as well as anyone would have a right to expect.  The S&P was up 4% for the year on Halloween–vs. my +6% – +7% for the full year.  Interest rates remained ultra-low.  It appeared a colorless candidate favoring maintaining the status quo would (barely) beat a tacky reality show star, a political neophyte radiating bigotry and trailing a cloud of dubious business dealings, in the race for president.

Then Donald Trump won the election.

Since then, +4% on the S&P has become +11%.  The US$ has risen sharply.  Stock picking has become less important than sector selection–favoring energy, industrials, materials, that is, the areas that benefit the most from accelerating economic growth.  Tech and dividend stocks have been on the outside looking in.  The promise of large-scale infrastructure spending suggests the Fed will be free to raise interest rates next year at a faster pace than I imagined possible.  Rates have, of course, already been going up in anticipation of Fed action.

As a result, the A I would have awarded myself two months ago is probably now a B.

 

 

 

 

 

a post-election scoreboard: day one of outlining a strategy for 2017

December 20, 2016 By in Constructing a Portfolio, Portfolio management, Shaping a Portfolio for 2017, Strategy, Uncategorized Tags: , , Leave a comment

Financial markets around the world have been remarkably active since the improbable election of Donald Trump as the next president of the United States.

  1.  The S&P 500 has risen by 5.8%
  2. The dollar has risen by 5.6% against the euro
  3. The dollar has risen an amazing 13.5% against the yen
  4.  The Eurostoxx 50 has gained 7.0%, meaning US$ investors have a loss of about 1.5% from holding large-cap Euroland shares
  5. The Nikkei 225 is up by 11.4%, meaning US$ investors have a loss of about 2% from investing in Japanese stocks.

These are all big moves.

To my mind, in the US the correct way to interpret them is this:   Wall Street believes paralysis in Washington is at an end and that resulting fiscal stimulus will allow the Fed to raise interest rates from their current extraordinary lows.  Put it another way, the focus of treatment for the economy will be away from life support and toward a return to health.  The enhanced potential for future earnings growth is generating both upward stock movement and higher interest rates.  The latter is causing the dollar to rise.

For the rest of the world, I think, a different, more derivative, dynamic is at work.  If investors are looking to the US as the locomotive that will pull Japan and the EU out of their current malaise, I think that’s a secondary effect.  I think the rise in those markets is being driven by the spur to their export-oriented industries given to them by the  precipitous falls in their currencies.

(An aside:  there’s a certain irony in having the professed (but looney-tunes, in my view) Trump agenda of bringing low-wage low-skill jobs back from developing economies having been so immediately, and deeply, undermined by post-election currency movements.)

What to make of all this?

I interpret what’s happening as the start of a very traditional stock market pattern.   When an economic upturn is beginning,  commodities-related industries react in an anticipatory way to expected future events and then move more or less sideways until there’s clear evidence in earnings that the anticipation is correct.  Earnings gains create a second, earnings-based upward movement.

Put a slightly different way, the market moves from having a bad future priced in to a neutral position.  It then reacts to good things as and when they begin to occur.

A third formulation: the post-election move is akin to the beginning of a business-cycle driven bull market.  That’s a little strong, since I don’t think the typical 30% gains of a bull market are in store for us over the next couple of years.

But I do believe we should be thinking aggressively, not defensively.

What would change my mind, or at least cause me to rethink?  …weakness in the US$, or some sign that the new administration has no intention of carrying out its agenda of breaking with business as usual in Washington.

More tomorrow.

 

 

 

 

Macau and ATM machines

December 9, 2016 By in Casinos, Uncategorized Tags: , , , 1 Comment

During its days as a Portuguese colony, Macau was reputed to be a key center used by the mainland underworld to launder its ill-gotten gains.  The main laundromat, as it were, was allegedly the  collection of casinos run under a monopoly granted to the Ho family.

After the return of Macau to Chinese rule, the government moved quickly to break the monopoly and to guide the casino industry toward the Las Vegas model through technology transfer by granting casino licenses mainly to prominent US Las gambling operators with a Disney-esque approach to business.

A second political problem threatening the legitimacy of the Chinese Communist Party began to arise during the last decade as fabulously wealthy political insiders began to flaunt their riches through elaborate, ostentatious gambling jaunts to Macau.  A crackdown ensued, which also served the long-term interests of Macau by strongly redirecting the emphasis of the Macau gambling industry away from high-roller VIPs toward middle class and upper middle class patrons.  This, by the way, follows the development of the gambling market in the US.

During US trading hours yesterday, media reports from Hong Kong surfaced suggesting Beijing was beginning to crack down on middle class gamblers as well as VIPs.  The stories said the daily limit that mainland residents vacationing in Macau are allowed to withdraw from their (renminbi-denominated) bank accounts through a local ATM would be cut in half from–MOP 10,000 ($1300) to MOP 5,000, effective tomorrow.

Given Beijing’s plans for Macau’s economic development, this report made little sense–although, realistically speaking, who knows what Beijing’s day-to-day thoughts are.

The US-traded Macau names immediately dropped by around a tenth in a flattish market.  In today’s Hong Kong trading, Macau gambling stocks fell by 7% or so (expressing about half the negative sentiment in NY)–with the strongest (relative) performance by Ho-controlled SJM.

After the close of Hong Kong trading, mainland authorities “clarified” the initial report, saying that, yes, the per transaction limit on ATM withdrawals by mainlanders in Macau was being cut in half, but that the total daily limit would remain unchanged.  No reason why the clarification took 12 hours to be made.

In early US trading today, Macau-related stocks have made up about a third of their losses from yesterday.

As a holder of Wynn Resorts, Wynn Macau and Galaxy Entertainment, I’m going to sit on my hands.  If I held nothing, I’d be inclined to buy a bit.  My preference would be for the Hong Kong names, however, for two reasons:  the US market is being driven now by dreams of a domestic industrial revival, so foreign casinos aren’t at the top of institutions’ wish lists; and investors who dumped out their Macau holdings in a panic yesterday will be loathe to buy them back at a higher price, at least for a while.

stocks in a 4% T-bond world

December 8, 2016 By in interest rates, stock market, Uncategorized Tags: , , , , 1 Comment

There are two questions here:

–what happens to stocks as interest rates rise? and

–what should the PE on the S&P 500 be if the main investment alternative for US investors, Treasury bonds, yield something around 4%?

On the first, over my 38+ year investment career stocks have gone mostly sideways when the Fed is raising short-term interest rates.  The standard explanation for this, which I think is correct, is that while stocks can show rising earnings to counter the effect of better yields on newly-issued bonds, existing bonds have no defense.

Put a different way, the market’s PE multiple should contract as rates rise, but rising earnings counter at least part of that effect.

The second question, which is not about how we get there but what it looks like when we arrive, is the subject of this post.

in a 4% world

The arithmetic solution to the question is straightforward.  Imagining that stocks are quasi-bonds, in the way traditional finance academics do, the equivalent of a bond coupon payment is the earnings yield. It’s the portion of a company’s profits that each share has a claim on ÷ the share price.  For example, if a stock is trading at $50 a share and eps are $2, the earnings yield is $2/$50 = 4%.  This is also 1/PE.

A complication:  Ex dividends, corporate profits don’t get deposited into our bank accounts; they remain with management.  So they’re somewhat different from an interest payment.  If management is a skillful user of capital, that’s good.  Otherwise…

If we take this proposed equivalence at face value, a 4% earnings yield and 4% T-bond annual interest payment should be more or less the same thing.  In the ivory tower universe, stocks should trade at 25x earnings if T-bonds are yielding 4%.  That’s almost exactly where the S&P 500 is trading now, based on trailing 12-months “as reported” earnings (meaning not factoring out one-time gains/losses).  Why this measure?   It’s the easiest to obtain.

More tomorrow.

 

interest rates: how high?

December 5, 2016 By in bond market, bond vigilantes, interest rates, Uncategorized Tags: , , , , Leave a comment

the speed of interest rate rises

The best indicator of how fast the Fed will raise the Fed Funds rate will likely be the pace of wage gains and new job creation, as shown in the monthly Employment Situation report issued by the Bureau of Labor Statistics.  Infrastructure investment legislation that may be passed by the new Congress next year may also factor into the Fed’s thinking.  On the other hand, the continuing example of Japan, whose quarter-century of no economic growth is due in part to premature tightening of economic policy is also likely to play a part in decision making.

Much of that will be hard to be certain about in advance.  Current Wall Street thinking, for what it’s worth, is that the pace will be north of glacial but not fast at all–maybe a move of +0.50% next year, after a boost of +0.25% later this month.

The endpoint of policy, however, may be somewhat easier to forecast.

the final policy goal

 

Fed policy is aimed at holding inflation at +2.0% per year.  Its main problem recently is that it can’t get inflation that high, in spite of having flooded the economy with money for the past eight years.  So let’s say we’ll have inflation at 2%, but not higher, some time in the future.

cash

If so, and if the return on cash-like investments during normal times continues to provide protection against inflation and little else, then the final target for the Fed Funds rate is 2%.

bonds

If we consider the 30-year bond and say that the normal annual return should be inflation protection + 2% per year, then the target yield for it would be 4%–vs slightly over 3% today.

The 10-year?  subtract 50 basis points from the 30-year annual yield.  That would mean 3.5% as the target yield.

If this is correct, the important thing about the domestic bond market since the US election is the substantial steepening of the yield curve.  While cash has another 150 bp to rise to get to 2%, the long bond is within 100bp of where I think it will eventually settle in.

In other words, a substantial amount of readjustment has already occurred.