Mike Lipper’s Monday Morning Musings
Do You Believe Congratulations Are in Order?
Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018 –
Interpreting US Stock Market
Various US stock indices reached record levels last week. Does this indicate a new “bull market” or a new phase in an old one? Based on recorded history, the choice is not based largely on one’s political views, but on long-term earnings trends, dividends, and how they will be priced. While the precise answer for any future date is uncertain, the specific date is irreversible. Our job as risk managers is to guess the correct strategy today, although most long-term investors are somewhat reluctant to make major changes.
Some investors weigh losing any significant money to the market or taxes as much more important than the write-down of inventory prices. Investors should adjust the importance of these factors in making tactical and strategic decisions. Absent these hurdles, investment decisions should be based on odds and penalties.
Odds should be based on selected histories. For example, at the racetrack one tends to place more confidence in a horse that has developed a consistent pattern around the track. This is relatively easy to do with securities, as prices normally have a cyclical pattern. The more difficult decision is assessing the penalty for being wrong. This decision becomes easier if a specific portfolio structure is introduced, as discussed below:
Burn Rate Portfolio
In addition to anticipated future payments we should set aside a reserve for unexpected non-market related contingencies. The sum-total should be put in what insurance companies call, a “side pocket”. The critical question is how long a period of unfortunate markets the side pocket should cover before the main investment portfolio once again produces wealth for future needs. As mentioned last week, history does not exactly repeat, but rhymes. Apart from a grossly mismanaged recession in the early 1930s, most recessions end in three to five years. One might therefore want to use a five-year plan.
In today’s investment environment, one should not put the entire “burn rate portfolio” in cash. Inflation will erode the purchasing power of the dollar relative to the currencies of countries supplying our needed products and services. The most critical rule for the reserve account is being liquid. Some of the money may be needed in five working days, some within a month, and almost all within a quarter.
Depending on the size of the account, I would be inclined to invest 50% in well-diversified, conservatively valued equities, or well-chosen mutual funds. The bulk of the remainder should be invested in high-quality corporate bonds, with maturities spread over the next five years. A relatively small amount should be invested in a retail US Treasury Money Market fund. The most important next step is to create a separate side pocket from your investments accounts.
Investment Accounts
In today’s environment the only portion of the account not invested in equities is a timed buying reserve. The key is to invest this cash out of the market, reconstructing a different buying reserve at least annually. Within the diversified investment account, one should have some market price sensitive stocks, usually selected from cyclicals. Another portion, depending upon the comfort level of the investor, should be invested in time sensitive investments, often secular and explosive growers.
We cannot avoid being international consumers and investors today. Bear in mind that the general history of wealthy investors is to choose some investments less influenced by local governments. Within the investment account there is room to invest both aggressively and conservatively through individual equities and or mutual funds. (Because of my background of globally following fund and fund like vehicles, I rely more on funds.)
Brief Comments of Interest
- The Chinese government has proved it can mobilize the civilian portion of its economy for war, if needed.
- Judging by changing price/earnings ratios, stocks within the DJIA are more cyclical than those in the NASDAQ composite.
- Growth and value stocks within the S&P 500 have performed about the same year-to-date, 30.4% vs. 31.2%.
- A president of a long-term, low turnover fund stated that his fund’s performance of 20%+ was “not good enough”. Our analysis suggests 20% is difficult to repeat every year.
The following groups of stocks are up from their 2011 lows: S&P 500, Russell 2000, Russell Growth, Russell Value, MSCI World ex USA Small Caps, Consumer Discretionary, Consumer Staples, Financials, Health Care, and Materials.
The only three stock sector mutual fund indices generating performance over 30% in 2021 are: Lipper Financial Services +39.72%, Lipper Global Natural Resources +33.25%, and Lipper Real Estate +30.49%. Among the commodities funds the winners were: Energy Funds +84.16, Specialty Funds +44.27%, Base Metals Funds +32.22%, and General Funds +31.45%.
Four observations from T. Rowe Price:
- The Delta variant spread appears to have peaked
- Corporate and government debt levels are elevated
- Chinese regulatory actions have likely peaked
- The Baltic Dry Index recently dropped from its precipitous rise
Of the 25 best performing funds for the week, there were 13 small caps. Additionally, 31 of the 32 S&P Dow Jones global indices were up for the week.
Question of the Week: Any changes in strategies contemplated?
Did you miss my blog last week? Click here to read.
https://mikelipper.blogspot.com/2021/10/mike-lippers-monday-morning-musings.html
https://mikelipper.blogspot.com/2021/10/are-we-listening-as-history-is.html
https://mikelipper.blogspot.com/2021/10/guessing-what-too-quiet-stock-markets.html
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A. Michael Lipper, CFA
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