What I See and Perceive By Observing - Weekly Blog # 844

 

 

 

Mike Lipper’s Monday Morning Musings

 

What I See and Perceive By Observing

 

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018

 

             

Often One Finds it is Difficult to Predict the Future 

I Currently find it particularly hard to predict the size and timing of the next recession. Economic news is sharply split between enthusiastic believers from discredited pundits and concerned business owners joined by the buying public. The index bulls currently appear to be winners over those focused on the near-term future, expressed through layoffs and a shift to more thrifty purchasing. 

 

During periods like this I find it useful to seek guidance from those far away from the worlds of economics and finance. Yoggi Berra was one of the most successful baseball catchers and later became a good manager of teams. He had a unique perspective derived from crouching behind home plate. One of his more well-known quotes is “You can observe a lot by just watching”. Using this mantra, the following observations may be useful. 

 

From the World of Numbers 

1. On Friday there was a significant difference between the percentage of rising and falling stocks on the two major US stock markets. Only 39% rose on the NYSE, while 63% rose on the NASDAQ. (This may indicate investors prefer shorter-term shares that are more speculative.) 
2. Extending the observations to a slightly longer period of a four-day trading week and shifting to prices, one get more balanced results. Fifty percent of the stocks on the “Big Board” rose, while 45% rose on the NASDAQ. (This shows that the general market is pretty much in balance.) 
3. Going out to a six-month outlook for the remaining half-year, the weekly AAII sample survey indicates an even more bullish than bearish bias, 41.7% vs. 2.6% respectively. It’s interesting that both indicators declined from the prior week by almost the same amount, 2.8% vs 2.2%. This is likely caused by a different group in the sample survey dominating. 
4. In looking at the list of equity funds that beat the performance of the S&P 500 in the first half. The three leaders were Fidelity Contrafund +25.6%, Vanguard Growth Index ETF +20.51%, and American Funds Growth Fund of America +16.80%. These three funds represent some of the oldest fund management companies and are the largest funds in the equity business. They also have three very distinct ways of managing money. Fidelity Contra is managed by a single manager and has wide latitude in terms of stock selection, with a turnover rate of 16 %. Vanguard Growth Index ETF has a very low turnover of 5% and Growth Fund of America has a turnover rate of 25%, which is below average.  Growth Fund of America is managed by a number of portfolio managers and the research department. (This demonstrates that there are several ways to perform well. The calculation of turnover is required by the SEC, which takes the smaller of sales over purchases divided by monthly average of total assets. The SEC was interested in identifying management churning the portfolio to generate commissions, so they only used the smaller of the two numbers. Thus, the real turnover is at least double the published turnover.)    

 

Observations in terms of People  

1. This is the year of elections, and the pundits are focusing their analysis on policies, which leads to inaccurate observations. The key is looking at the policies of the losers, not the winners, which is mostly the party now in power. In my opinion the losers failed to execute the solution to problems. One of the slogans ending Tammany Hall’s reign in New York was “Throw the Bums Out”, which is alive and well today against the “political class”. 
2. The media creates the experts they want to quote. The Wall Street Journal (WSJ) recently announced the last “bear” has left Wall Street, referring to Marko Kolanovic leaving JP Morgan. When I first read the headline, I expected to read about Jaime Dimon, the CEO of the most powerful bank in the US, if not the world. JP Morgan is a stock I own. In last week’s blog I mentioned the number of leaders of both commercial and industrial firms that have been preparing for the next recession for some time. (In predicting a recession, the exact date of the beginning should be separated from the probability and timing of the event.) 

 

 

Please share Your Thoughts 

         

 

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Mike Lipper's Blog: Preparing for a Recession - Weekly Blog # 843

Mike Lipper's Blog: Understanding the Universe May Help - Weekly Blog # 842

Mike Lipper's Blog: Stock Markets Becoming More Difficult - Weekly Blog # 841

 

 

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Relative or Payout Returns in Periods - Weekly Blog # 725

 

Mike Lipper’s Monday Morning Musings

Relative or Payout Returns in Periods

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018 –

Throughout life we learn that successful investing is an artform, which means that people with different perspectives view actions differently at different times. Thus, no single investment fits the needs of everyone. With that starting point, we believe successful investing is going to be different for each of us and should not be taught based only on numbers and regulations.

I believe the single most important starting point in investing is identifying the period of investment. Our current culture is very much focused on now, with the media reinforcing that view. To the extent a future period is mentioned, it is tomorrow, next week, month, or year-end. Even when we state the decision period, we don’t describe the terminal date. For example, we know that US stocks on average produce high single digit returns for long periods of time. Thus, an 8% return for 2022 could be forecast. That could be considered a good or bad return compared to alternatives. Early this week, a positive return half that size could have been acceptable. By the end of the week, any annual return below 20% would be considered dismal.

The financial and popular media place us in a relative world, making comparisons of what they believe are competitive investments. After all, stock prices are subject to the same risks and rewards! This is a gaming or gambling attitude. Most of the money we are responsible for use current investments to produce total returns for use in future periods. Consequently, we think about returns compared to the expected uses of the money, with sufficient excesses to cover periodic shortfalls. While the size of the excess pool could be based on actuarial assumptions, it is more likely to be a comfort factor. (One reason many bear market survivors don’t do well in future periods is that they carry with them the fear of even worse future markets. It is quite possible that after a large decline one should reduce the size of the excess reserves.)

PORTFOLIOS STRUCTURE

The first recommended step is to sub-divide the investment portfolio into time-focused sub portfolios. Considering the current unsettled global, political, and financial conditions, I suggest the first sub portfolio cover expected payments between now and the end of the first year of the next president. The excess over payments might be in the order of 30%, declining as stock prices decline.

The second sub portfolio should cover the period after the first, perhaps going through the expected lifetime of the principal owner. The reserve component should be no more than half the first sub-portfolio, because based on history markets generally rise 75% of the time.

The final sub-portfolio should anticipate being expended after the expected lifetime of the principal owner. The volatility reserve should be half of the second portfolio’s.

ASSINGING CURRENT MARKET DATA TO PORTFOLIOS

Caution: My investment views are for the most part contrarian to popular views. They take advantage of the historic experience that when contrarian views succeed, they have a larger payoff than popular views, whose benefits are usually already in current prices. However, contrarian expectations do not come into fruition as often as popular views.

Immediate Portfolio

The American Association of Individual Investors (AAII) six-month sample survey shows 22.5% being bullish and 49.8% bearish. Extreme readings are normally under 20% and over 50%. Market analysts use this as a contrary indicator. (When these numbers reverse, watch out.)

Up and down transaction volume is also something of a contrarian indicator. In the week ended Friday, the NYSE had more shares moving up than down, 20 million vs. 10 million. Normally they are more balanced. After a long period of declining prices, the next upward spike is often caused by short sellers or custodians buying to cover shorts that need to be liquidated. While the relief rally on at the “big board” gained all five days of the week, the DJ Transportation Index was up only 3 days, and the Utility Index was up only 2 days. (Unless the upward movement broadens out, the rally may not be able to sustain itself for long.)

Working Portfolio

According to a recent survey of institutional managers, growth stocks were not favored over value stocks for the first time in many years. Since 2007, the MSCI ACWI ex US Growth index has been flat (Morgan Stanley Capital International All Country). (If this view is maintained, the relative multiple of growth price/earnings ratios will decline and represent a bargain at some point. But it also may suggest that earnings will grow at a materially slower rate. Another possibility is earnings outside of US Growth companies growing faster than those in the US, along with their stock prices.

Estate Portfolios

Each week Barron’s publishes the performance of the 25 largest US Equity Oriented Mutual funds from my old shop. Only five management companies placed funds on this list: American Funds (Capital Group) - 10, Vanguard - 9, Fidelity - 3, Dodge & Cox - 2 and PIMCO - 1. The total net assets of the funds range from $125 billion for Growth Fund of America (Capital Group) down to $53.8 billion for Vanguard Wellesley/Adm. (Note: all these funds have been serving investors for many years and American, Vanguard, and Dodge & Cox have done a good job of capital preservation. This may be important to their fund holders and distributors, although at some point in the future I expect to see more capital appreciation-oriented funds on the list, at least for a while.)

In all the discussion on the availability of petroleum, politicians and US Government people forget that the Bakken reserves represent over 500 billion barrels and would last for more than 100 years at current consumption levels. I believe the combination of our fuel and refinery expertise makes this supply one of the cleanest in the world. Considering the declining number of US based refineries and the low margins in the business, there could be a temporary bottleneck that could be addressed. (Whether an investment management organization has a direct investment in energy or not, I believe a knowledgeable energy analyst is essential for a successful portfolio management business in the future.)

Question of the Week:

How much of your portfolio is focused primarily on relative returns vs meeting payout needs?

  

Did you miss my blog last week? Click here to read.

https://mikelipper.blogspot.com/2022/03/building-your-future-winning-portfolio.html

https://mikelipper.blogspot.com/2022/02/successful-investing-expects-unexpected.html

https://mikelipper.blogspot.com/2022/02/we-are-progressing-weekly-blog-721.html

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Long-Term Investors, Mistakes Ahead - Weekly Blog # 624

Mike Lipper’s Monday Morning Musings

Long-Term Investors, Mistakes Ahead

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018 –

We wish and hope that all of our readers and
their loved ones are in good health and none
suffer from Covid-19 and its aftermaths.

Investing is, or should be, a series of learning experiences. In the long-term, we apparently learn more from our mistakes than from our “successes”. One puzzling occurrence that I have noted are some individual and institutional investors making repeated mistakes that impact their long-term investment results. At critical points in time, instead of utilizing their usual contemplative decision making, they allow emotions to drive decisions. I believe we are approaching a juncture where a sizeable number of otherwise smart investors make investment decisions that significantly hurt their future long-term returns, if not reversed.

The Focal Point of Large, Sudden Recoveries
We hit a “stealth” bottom on March 18th, with a “test” on March 23rd, in the US and many other markets. (A test occurs below or higher than the first bottom, but critically does not lead to more selling and substantially lower prices.) Since these low points, some mutual funds have jumped by 40% or more. In just the last trading week, the 25-best performing mutual funds gained between +35% and 21.36%. Traditional investors could choose to ignore these results due to the performance leaders likely making successful extreme bets. Relative to the impact on the wealth of the total investor population, the performance of the 25 largest long-term funds is relevant. It’s also worth noting from a national economic standpoint that the performance of the middle of the road “Core” equity funds is especially important, as this is where the largest portion of individual and institutional money is invested. I believe it is significant that the best performing large mutual fund for the week was American Fund’s Washington Mutual Investors. It rose +10.03%, while the worst all large-cap equity funds, a global equity income fund, gained +4.98%. To put this perspective, annualizing the gain of +4.98% would surpass 250%, an impossibility. This demonstrates how unusual the week was.

Ok it is Unsustainable, Now What? = Mistakes
There are three mistakes people make when investment performance appears too good.

• An immediate attempt to lock-in an unsustainable gain, a smart decision if one is never to invest again. The first problem in selling at the presumed top is that it puts a high premium on making two correct investment decisions consecutively. The skill to recognize tops and bottoms are quite different. Recognizing the present situation while fathoming the future, or more correctly futures, is quite different. Remember, many investors believe the sole reason for the market decline in the February-March period was the Coronavirus, not our concern of a tactical and strategic slowdown in earnings power generation. (The odds on identifying future trends different from those extrapolated from the present is probably 50% to 65%, allowing for the occasional surprise.) 
• The nature of critical turning points is the second problem. Almost by definition a turning point is when the bulk of trading actively changes radically, an emotional change. To be in a position to timely anticipate the change you must believe you can accurately feel what the crowd is thinking and when it is changing. From a profit and loss standpoint, there is no difference between being premature and wrong.
• The third hurdle is the assumption that the investor completely knows of any changes in demand placed on the advisor of the capital in the investment account. As an investment advisor I have never been comfortable with such assertions by others, or myself. We live in an uncertain world.

Another group of investors that has a substantial proportion of their wealth uninvested is driven by “FOMO” (Fear Of Missing Out). They want to quickly make up for lost time and get invested in stocks that are moving up. Their answer is to jump on whatever is moving most. This is called momentum. The problem with this choice is that after the original investors’ needs are met, as the only thing driving these stocks higher are other momentum players who may quickly move on to other investments.

To avoid these problems, if you find yourself with excess capital after filling all your essential reserve requirements, I suggest you divide the excess capital into perhaps ten segments, then invest a segment on each down day, which often fall on Fridays. For those more long-term oriented who have obligations to others, I suggest with bias that they consider a portfolio of mutual funds, allowing professionals to make tactical decisions.

A Contrarian’s Dilemma
Almost all investment courses take the easy way out by statistically analyzing financial statements and past economic conditions. The reality is the value of a stock is comprised of two very different aspects. While the first is taught, the second relies on the attitudes of those with buying power. This in turn is impacted by the buyers urgency to buy and the present owner’s urgency to sell. Price is where the two forces meet, with the next price a function of the size of the commitment of both sides at current prices. If the competing buyers have more money, the sellers will benefit from a higher price. If the seller demonstrates a larger desire to offload his/her merchandise, the intelligent buyer will get a temporary bargain. This equilibrium price is not only recorded in the regulatory records, but is also remembered by the participants and those who analyze their actions, e.g. market or technical analysts who don’t have the benefit of the specific motivations behind the trade. When there are a significant number of price changes in one direction, a trend is identified. No trend goes on forever and eventually reverses. A successful contrarian attempts to capitalize on trends that reverse direction. Historically, the trend best expected to reverse is the one trumpeted by many “experts”, or other pundits. Most of them currently anticipate further single digit gains following those generated since mid to late March. With the preponderance of investors sharing that view, I as a contrarian (long-shot better) am wondering whether we are setting up for a period of double-digit future gains?

This is where market analysis might foretell the future, without knowing the motivation of future buyers and sellers. Because of my background in analyzing mutual funds and similar vehicles, I often turn to their performance data for clues. For the last five years through Thursday’s close the three largest categories by current assets have produced very sub-par compounded returns: US Diversified Equity +3.83%, Domestic Long-Term Fixed Income +2.09 %, and World Equity +0.24%. None of these averages meet actuarial requirements or satisfy planned endowment expenditures. This suggests that many pension and probably other retirement funds, including endowments, are underfunded, potentially requiring larger future contributions and lower reported earnings, or in the case of endowments less ambitious plans. They could also be bailed out by a significant period of gains over 20%. (It used to be that gains over 20% were excluded in actuarial calculations.)

As someone who must meet payroll and other business and family expenses, I cannot completely live in the world of market analysis or contrarianism. Thus dear reader, please send me a message of what will motivate buyers of securities enough to raise returns to high single digit levels, with an occasional low double-digit gain year and only minor declines. I need help!!

Long Shot
As is often the case, the solution could come from beyond the present universe where we have the vast bulk of our assets. Perhaps there will be a reversal in the value of the safe-haven dollar, without medical and demographic plagues interfering with them. Emerging markets, with particular emphasis on Asia and later Africa, are currently an unpopular area. Both could make sense for our younger grandchildren, or more likely great grandchildren, but it won’t meet retirement needs or the needs for better educational diversity and other worthwhile goals.

Question: How are you addressing your investments today in order to meet longer-term needs? 



Did you miss my past few blogs? Click one of the links below to read.
https://mikelipper.blogspot.com/2020/04/time-to-get-out-of-foxhole-weekly-blog.html

https://mikelipper.blogspot.com/2020/03/where-we-are-depends-on-where-we-have.html

https://mikelipper.blogspot.com/2020/03/stealth-bottom-and-other-considerations.html



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Misunderstanding Mutual Funds, Spain and Goldman Sachs

As an analyst for more than fifty years, I have learned that I will never have enough information to be completely secure in my investment judgments. On average, I receive over one hundred business or investment related emails daily, and in addition, I read numerous trade and general circulation publications. I must admit one of these publications is the New York Times which every now and then gets something right, and almost always has impact on some investors.

The mutual fund myth

Many people, including some who would call themselves sophisticated, knowledgeable investors have an image that the bulk of mutual fund investors are naïve and will buy any fund that has good performance and then jump to the next fund that has better performance. In the Sunday Business section of the New York Times, a statistical table of the fifteen largest mutual funds is published. I find this data particularly instructive, compared to the often exaggerated image of mutual fund buyers as “Ma and Pa Kettle.” First, none of the fifteen largest funds has total expense ratios over 1%, thus a large number of investors own some of the least expensive funds. In the long run, the low expenses provide a performance advantage over the average fund. What is even more instructive is the fund management families that make up the roster of the fifteen largest. Seven are managed by the American Funds group that relies on salespersons to raise assets. The next largest group is the four Vanguard funds, followed by two from Dodge & Cox and one each from Franklin Resource and Fidelity. Six of the funds have no sales charges and two have share classes that have different sales charges. I believe that at least half of the combined assets of these funds are from institutional investors and probably over half represent retirement money. For the most part, the shareholders in these funds maintain their ownership for longer than average holding periods (even though a number of these large funds have not produced “top of the charts” performance for many years). Yet, they fill the needs of their holders. In many cases they have normal redemption rates, as voluntary or involuntary retirements and health issues require funding. New sales are now probably largely sourced from various retirement plans. For some time, more dollars have been leaving than arriving in these coffers. This imbalance may be about to change.

In February, my old firm, Lipper Inc., estimated that $1 billion came into Large-Capitalization Growth funds, and another $700 million came into Multi-Cap Growth funds. (Multi-Cap is a classification for a fund that has assets in different levels of market capitalization. Often Large-Cap is the largest commitment, but not the dominant market-cap.) During February the more speculative group of investors often including hedge funds, put $6.9 billion in Sector Exchange Traded Funds (ETFs) and $5.1 billion in World Equity ETFs. If these speculators prove to be correct, I expect it will ignite the interest in Large-Cap funds.

A survey of international asset managers compared expectations for the US market in January compared to their expectations in December. In January, 62 managers expected a rise versus 53 in December. Only nine were looking for a decline.

Disclosures: Both my private financial services fund and I personally own shares in most mutual fund management company stocks, including one mentioned above. We own a large number of these management company stocks within the US, Canada and the UK as a way to understand our primary investments for clients in their underlying funds. A number of the funds in the largest funds table are owned in our client accounts. I have been annually advising one of these funds as to the appropriateness of the advisory fees since the late 1970s. I believe my multiple involvements with mutual funds and their managers make me a more informed and better analyst. The prices of mutual fund management stocks are leveraged to the market’s expectation as to their growth in assets, which normally leads to increased profit margins.

Other tea leaves

JP Morgan Private Bank has noted that the US Consumer Spending is the largest source of consumer sales in the world by region. However, the US is behind both Europe and Asia in terms of the level of gross investment, and is the only major region that is a net importer. Brazil, Japan and other countries are fighting what they see as competitive devaluations through QE or other interest rate repressions. Until the fears of induced inflation increase and the exhaustion of the excess corporate capital hoard occurs, we are not likely to see meaningfully higher interest rates. As US taxpayers, we should hope that rates remain low for the next ten years as the US is facing the largest single refinancing need of any country or region.

Sam Eisenstadt, the long-time statistical genius behind Value Line is once again expressing a precise bullish view as to the market into August, where he believes the S&P 500 will reach 1520. Market Hulbert translates this in MarketWatch to a DJIA of 14360.

Spain, and its somewhat kissing cousin California, are in deeper trouble than they appear to be on the surface. Both have more complex conditions than are initially apparent. Officially, Spanish sovereign debt is listed as $732 billion and 68.5% of GDP. However, if you add in the bank and other guaranteed debt plus the regional government debt, the total indebtedness rises to $1.1 trillion or 103 % of GDP. What makes this difficult to swallow on the part of the task masters in Germany, is that it is too similar to Ireland, where the biggest part of its debt was the Irish government’s assuming the local banks' real estate debt. The Spanish banks' commercial real estate loans are larger than similarly combined loans in Germany and the UK. (Just as we went to Asia to get a better understanding of China earlier this year, we are trying to plan a visit to Spain to get a view on the ground.)

The connection with California (which has a long tradition of Spanish investment) is that as the EU was being formed, I was urged to invest in Spain as it was ironically touted as the “New California,” providing low cost labor for Europe’s manufacturing needs. Spain would be home for a real estate explosion as the Europeans from less favorable climates would want to vacation and retire there. For awhile it worked, until the production of debts rose faster than income, similar to, you guessed it, California. To bring the parallel up to date, in the annual period ending in February 2012, California tax revenue fell 22.5% due to sharp declines in retail sales as well as use taxes and personal income taxes. A sunny climate is not sufficient to produce prosperity.

Goldman Sachs

Last week was “The Week that Was” for the firm. Too much has been written about the reactions to a disgruntled employee. Much of this verbiage is in the so-called “popular press,” as distinct from the professional or trade press. I do not want to add to the collection other than to make two points. First, many amateurs do not understand the concept of agency where an agent is working exclusively at the time for a client. On the other hand, a principal is involved on the opposite side of the trade. A couple of generations ago there were separate brokers (agents) and dealers. Over time, driven by economics, these two functions were combined in the same firm. Most of the time people, (whether they recognize it or not) deal with Goldman as a dealer not as an agent. Clearly both some clients and a small number of employees of the firm do not appreciate the distinction. The popular press does not. The second point I feel compelled to disclose is that we are no longer clearing through an affiliate of the firm, as we did not provide sufficient revenue to them, but this has no effect as to our long-term holding of Goldman Sachs.

Investment conclusion

Read as many tea leaves as you can. Look for deeper implications from factoids because they are often visible before the full picture becomes clear. As many of these thoughts are not without controversy I would like to hear from you.

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Investment Selections Improve with Adjustments Before Eliminations

Too many mutual fund and separate account managers are selected by bracket rankings as used in basketball, World Cup football (“soccer” as we call it in America) and tennis, unlike golf and horse racing. In the first three sports, the winner and other high ranking finishers are derived from their last bracket victory without the recognition that some losing competitors are materially better than some of the winners of weaker brackets. In other sports analysis, sophisticated watchers adjust the results for many variables such as the conditions of the competitors and the conditions of the competition itself. Intense followers of sports are not the only ones to adjust their thinking and actions before their rooting begins.

MUSICAL AND INVESTMENT ADJUSTMENTS

This weekend Ruth and I had the pleasure of listening to the Boston Symphony Orchestra (BSO) and the Boston Pops, both in concert and in rehearsal. Each of the overlapping groups was made up of very talented professional musicians probably at the heights of their musical careers. Nevertheless their equally talented conductors clearly modified how each piece of classical music was played. In watching and listening to the maestros one could detect adjustments they wanted the performers to make in well known pieces that have been played, in some cases, for hundreds of years. I am not a music critic, but I recognized that some of the adjustments made during the performances were similar to the adjustments that I believe should be made when examining the performance records of various equally talented investment managers.

Looking at the parallel adjustments between the two very different art forms can be instructive. In each case the conductor knows that while past performances can be illustrative of the desired future performance, today’s conditions (known and unknown) are different.

Pieces of music and individual stocks, bonds, or commodities were originated to stand on their own. In the real world they are going to be used in conjunction with others, e.g. a Beethoven program, overtures to great operas, love themes through the ages, the development of the American musical, etc. An individual security may be only one component of a concentrated portfolio with a singular focus, or a broadly based portfolio to participate in a general market movement, or an asset allocation portfolio, etc.

A great concert is not just a collection of individual pieces of music, it should be one with a point of view. Similarly, a successful investment portfolio is not just a collection of currently highly performing positions. Thus, I look beyond the aggregate performance of a fund to see how many securities contributed meaningfully to the overall performance. To my mind, a fund with one or two spectacular winners, (particularly if they are initial public offerings or from one segment of the market) is very different than a diversified portfolio producing similar results.

PERFORMANCE FACTORS

While the great maestros can get better results from each of their players on any given day, there will be a range of skills delivered, just as a portfolio manager needs to recognize the different level of research that he/she is utilizing. Some fund managers rely on a deep culture of professional research analysts within their shops, such as the American Funds (Capital Group is their manager), T. Rowe Price, and Janus. They will give an investor a steady result different than a brilliant solo performer like Fairholme. Good orchestra leaders vary their programs and interpretations to a lesser degree. Portfolio managers are selected by the turnover of their audience (shareholders) which are often a demonstration of time horizons. CGM Focus has attracted short term investors by its volatile and sporadically good performance but has a very good long term record. Other funds with solid long term records who are able to buy bargains in down markets because they raised cash in high markets attract long term investors; good examples of these are the various Mutual Shares funds, the Dodge & Cox equity fund, Longleaf, plus some of the Ariel and Marsico funds.

COMMUNITY OF INVESTORS

Many (if not most) of the members of this blog community are serious professional investors. You manage money for yourselves and for your clients. What distinctions do you apply when looking at fund records? What eliminations do you make from the leader lists? What filters are you using and will you share any with us?

COMMUNITY OF CONTRIBUTORS

Before leaving the BSO and the Boston Pops there is another important contributor to their beautiful music that I should acknowledge. Over many years the BSO has built a very large community of contributors. As a contributor and investment advisor to numerous non-profits, I am envious of the size and composition of their program book’s advertisements and endorsements. As with portfolio management organizations, producing good results over time is rewarded with capital that promotes successes in future generations.
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Washington & the Necessary, But Insufficient, Signs of a Market Bottom

Feeding the optimist can be a long and frustrating task, but a necessary one. I am taking on this task to help others as well as to reinforce my upside bias. This bias is based on the old US Marine Corps belief that the best defense is an offense. Like most analysts, I am a reviewer of history; and I believe that even in history’s darkest moments, the human condition has been on the rise.

In the midst of our deep financial problems, we may be in the best position ever to deal with solutions. The current mood of investors is shifting to the view that the light at the end of the tunnel is not a way out, but rather an oncoming train. Historically this feeling of hopelessness is a required backdrop for the scene at the bottom. With that thought in mind, I was thrilled to see a story entitled “Bear Market’s Bite Could Go Deeper” in the online version of The Washington Post. “It is unlikely the market has hit bottom,” the article begins, continuing with the opinion of a chief technical analyst at S&P, “The current market environment is showing few signs that have characterized previous lows—high price volatility, high volume of trading and even higher levels of fear.” “Bear market bottoms tend to be violent affairs.”

Why am I thrilled with this article? First, the Washington Post is the single most respected source of perceived wisdom, therefore it must be politically correct in the Washington Beltway. Second, based on the high regard the American investing public has for the media in general, people now search for truth in the opposite direction of media pronouncements. Third, the S & P analyst is accurate only if one is dealing with a cyclical bear market where the search is for a violent bottom to wipe out the weak holders as a precursor to a sharp rise. This kind of bottom is not logical if one believes, as I do, that this bottom is the terminal set of points at the close of one era. The most logical type of bottom after the damage of the corrective phase is a dull exhaustion bottom, created by the absence of buyers at any price. The pessimists are exhausted and possibly sold out; and the optimists, like me, feel the prices are fine, but the time may not be quite right.

One of the many signs of a tectonic shift in the structure of our investment markets crossed my desk late this week, driving home the impact on our conservative and senior population. I received a notice from the American Funds Group announcing that their Balanced Fund was reducing the dividend to its fund holders. The explanation for the cut was the curtailment of dividends from the high quality stocks they own, as well as the current low interest rates on high quality fixed income securities in their portfolio. As many of you know, the American Funds are managed by Capital Research one of the largest investment management groups, with a long history of distinguished results.

A word about the origins of Balanced funds. This type of fund was an extension of the trust accounts used in both the UK and the US, comprised of both stocks and bonds. In Boston, these were the types of accounts that Clipper Ship Captains left with their lawyers to manage while they were away. The income off the trust was to provide for the current needs of the family, and the stocks for growth of assets. In many ways balanced funds act more like fiduciary accounts than the single asset class type funds.

There are a number of important observations from this action to reduce the dividend:

1. The current market decline is now going to be felt by those who can least afford a change to their income level.


2. Many high quality stocks have cut or omitted their dividends. These are the very same corporations that were considered among the most reliable of our corporate citizens as recently as one year ago. Something fundamental has changed for the worse among our best.


3. The original investment concept of a Balanced fund was that stocks and bond prices would move inverse to each other. Bond prices would rise when stocks declined. Currently in the high quality corporate bond market this is not happening in a significant way. This is another example of the tectonic shifts in our marketplaces. The term tectonic is an apt geological term that that defines when the great plates that make up the earths’ crust move, which happens extremely rarely. We are now into something new and maybe for the first time in our investment lifetimes, something “completely different.”

In some ways we may be in a Revolutionary period similar to the French or scientific revolutions or even closer to home, the American Revolution. I am writing this blog on February 22nd, George Washington’s birthday. As my wife Ruth serves as a “Lifeguard,” a group devoted to fund-raising and introductions to the wonders of Mount Vernon, we often go there to celebrate the memory of our first President, the only one not to serve in the city named after him. For the moment I want to focus on this man, often called “the indispensible Washington.”

If we are truly in a revolutionary period, where are our leaders like Washington, Hamilton and the others? The politicians and most of the patriots turned to General Washington for the leadership of what could be laughingly called our army. It was a bold step to choose a military leader who had been defeated in the last war, but he was possibly the richest man in the colonies. His fortune was earned by brilliant land speculation in many of the thirteen colonies and other nearby regions. During the Revolution we had better tactical generals, but none better on a strategic level. Interestingly, Washington was constantly out of sorts with Congress, and threatened to resign on numerous occasions if provision was not made for the meager funds to pay his troops.

The war was won largely due to the quality of Washington’s leadership, a fortunate break in the weather and the threatened presence of the French fleet. Washington’s leadership created trust on the part of his soldiers and perhaps the one-third of the population that supported the cause. At the moment what we are missing is faith, or if you will, trust in our institutions, media, economy and markets. Each day many of us start the day with low trust in that list, and the actions of the day lowers the trust even further. What we need now during what appears to be a revolutionary period, is faith that things will get better. Let us hope so. History suggests that eventually the optimists win.