Know When to Sell

Most investors would agree that a decision to buy a stock is much easier than a decision to sell.  Watch the video below to see when it is a good time to sell and when it is not.

March 3, 2015 at 11:35 pm Leave a comment

Investing and Emotions Don’t Mix

For many people, investing can be very emotional.  In declining markets, fear takes over and the natural reaction is to sell to prevent further losses.  In advancing markets, greed is in control and produces a desire to buy more.  These emotions are extremely dangerous to the health of your portfolio and if followed through, will inevitably lead to regrets later.  Emotions do not belong at all in investing, only hard logic and reasoning does. For Star Trek fans, you should always be Mr. Spock as far as your portfolio is concerned.  Live long and prosper!

February 25, 2015 at 5:22 am Leave a comment

A Common Misconception of Index Funds

It is now a well known fact that 80% to 90% (depending on the study) of actively managed funds underperform S&P 500 index funds.  The reason for that is two-fold.  First, active fund managers charge higher fees.  Second, they tend to trade often which results in commission costs, unfavorable capital gains tax treatment, and most importantly, underperformance due to continued attempts to time the market  stemming from frequent trading.  Index funds, on the other hand, change composition very rarely and thus almost never trade.

As a result, there is a flow of cash from actively managed funds to index funds.  Many prominent investors, including Warren Buffett, advocate to consider only index funds for individuals.

However, many investors don’t understand exactly how index funds are structured.  Most indices, including S&P 500 index, are not equal weighted, but instead market capitalization weighted.  This means that dollar amount of each fund holding is proportional to its market cap.  So if you invest $1,000 into S&P 500 index fund, you will not put $2 into each of 500 companies.  Instead, you will own approximately $50 worth of Apple, $30 each of Microsoft, Google and ExxonMobil, etc. — because these are highest market cap companies in the index.  And you will invest only $10 combined into hundreds of mid-cap and smaller companies with less than $5 billion market cap.

While market capitalization is appropriate to measure performance of the overall market, no reasonable investor will construct his or hers individual portfolio in the above manner.  The best way is to select high quality companies with excellent management teams and own these companies for a long time, selling only if business fundamentals deteriorate.  That way, you can have your own properly constructed “index fund”, and without market timing, it will have a good chance of beating the venerable S&P 500.  This is exactly the strategy I use for my clients’ and my personal portfolios.

February 22, 2015 at 1:58 am Leave a comment

Market Timing Doesn’t Work

Since 2011, investors have been waiting for a correction, which has not yet materialized.  Meanwhile, the market has been climbing steadily and hitting new highs.  I am sure a correction will happen sooner or later, but trying to time the market this way never works.  Watch this one minute video for details.

February 16, 2015 at 9:49 am 1 comment

Market Update

We are well into the first quarter earnings season, and the results are not quite as robust as they used to be.  Many prominent mega-cap multinational corporations, like Caterpillar, Dupont, ExxonMobil, Pfizer, etc. either missed earnings estimates or provided cautious guidance going forward.  There is nothing wrong with these businesses — the reason is our strong currency which reduced dollar-denominated sales overseas.  This affects all companies with significant business abroad.  Thus, we may witness a shift in market leadership toward domestic companies, which tend to be smaller.  It is about time — large cap stocks outperformed smaller companies last year.

Meanwhile, in addition to never-ending “Grexit” concerns, deflation is a new market bogeyman.  Indeed, deflation would be bad news for worldwide economies, and in order to prevent it, several European countries now sport negative interest rates (which causes weakness in Euro and other currencies and leads to dollar strength — see paragraph above).  With no inflation in sight, I don’t think Fed will raise interest rates anytime soon — doing so will only strengthen the dollar even more.

As a result of this very low interest rates environment, S&P 500 dividend yield is now higher than 10 year U.S. Treasury rate.  There is always a possibility that one or several multinational companies chooses to cut its dividend, and that may well trigger that long-awaited correction.  However, at this time, equities remain essentially the only game in town for investors expecting a reasonable return.

February 10, 2015 at 10:58 pm Leave a comment

Third Time a Charm?

Investment pundits have been complaining for quite some time about something lacking in this market.  Namely, a correction.  Indeed, corrections, or drops of 10% or more from a top, are fairly common events and usually occur once a year or so.  The last one happened during summer of 2011, more than three years ago.  So yes, we are overdue.

Note that for the last few months, the market really tried to, well, correct itself.  In October, everyone was worried about Ebola and economic weakness in Europe, and stock prices came within a percentage point of “official” correction territory, only to come roaring back to new highs.  In December, everyone was worried about falling oil prices, falling ruble and again weakness in Europe.  That time, the market managed only 5% or so decline before bouncing back.  2015 started quite volatile, but with prices down only about 4% from the peak we are not close to the coveted mark.  The worry this time – even lower oil prices and yes, weakness in Europe yet again.

If we have to worry about something, I think that falling oil prices would be a great choice!  Lower oil prices act similarly to a huge tax cut and are generally a boon to overall economy (oil companies excepted).  Consumers who have extra cash from saving at the pump will most likely deploy it elsewhere.  Indeed, looking at the most recent 5 drops in oil prices of 50% or more since 1985, stock prices were higher 12 months later on all occasions.  They were also higher during the periods of the oil price drops themselves, in 4 out of 5 occasions.  The only exception is the period of global financial crisis of 2008 that crushed demand worldwide.  Now, however, with U.S. output rising significantly due to fracking, we simply produce more oil than we need – by 1 to 2 million barrels per day on 30 million barrels daily output.  Eventually we will reach an equilibrium — OPEC may well succeed in driving some U.S. shale operators out of business.  But the argument that low oil prices are a symptom of weak demand, rather than oversupply, is faulty.

Struggling economies in Europe is a valid concern — and it was valid for all 6 years of this bull market.  Weak Euro (and conversely, strong dollar) will hurt profits of U.S. based international companies in the short term.  However, there is a definite historic correlation between a strong dollar and strong U.S. equities performance.  In any event, I would not read too much into currency fluctuations.

As for the correction, I am sure that it will happen sooner or later.  Some even argue that it would be good for the market, since investors who have been waiting for it will finally put their money to work after it happens.  Well, they have been waiting a really long time and have missed out on an 80% rise since that last correction in 2011.  That is why trying to time the market in any way is a sure way to under-perform the said market.  Instead, as I have been advocating for quite some time, ignore macroeconomic headlines like the ones above and instead concentrate on the companies your own.

January 14, 2015 at 1:41 am 1 comment

Market will fluctuate

This is an actual quote from nearly a century ago by American financier J.P. Morgan when asked about market direction, and it is at the level of other two life certainties, death and taxes.  Looking at recent market movement, it definitely fluctuates.  This week capped the best 3-day comeback in years, after investors apparently decided that low oil prices are, in fact, pretty good for the economy.  Back in October, the market came very close to an official correction due to Ebola fears and other factors, which, in all truthfulness, I no longer remember.

Over the long term, stocks outperform other liquid investments, such as bonds and treasury bills, and rise, on average, about 10% per year.  But that rise does not follow a straight line — market, well, fluctuates.  These fluctuations can be quite extreme in either direction, but tend to be sharper going down.  A decline from 10% to 20% from a peak is called a correction.  Corrections are very common and occur, on average, every 18 months or so.  A bear market is a decline of 20% or more.  An average bear market results in a loss of 30% and lasts 9 to 18 months (sometimes longer).

During the last 100 years, we witnessed 18 bear markets, which included 9 protracted bear markets with declines of more than 30%.  Two of these severe bear markets happened this century, in 2000-2002 and again in 2007-2009.  In fact, corrections and bear markets are recurring and expected events.  While it is undeniably hard not to get emotional during market declines, in rational terms, worrying about that is just about as productive as worrying about rainy weather.  You don’t assume that several days of rain signify the beginning of the next Great Flood.  Yet, if you listen to financial media during these times, you would be convinced that not only the Great Flood is upon us, but that the Ark has already sailed.

The 19th bear market will happen.  That’s as certain as that J.P. Morgan quote.  Maybe it will start tomorrow, next month, next year, or 5 years from now.  The pullbacks are a natural part of the market life cycle.  A savvy investor should not fear or get upset with such corrections, but be prepared for take advantage of the low prices and a coming upswing in the market.

December 19, 2014 at 10:24 pm Leave a comment

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Leon Shirman's long-term investment philosophy is summarized in his book, “42 Rules for Sensible Investing”, also available from Amazon.


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