Observations: “You can see a lot just by observing” Yogi Berra - Weekly Blog # 679

 

Mike Lipper’s Monday Morning Musings

Observations:

“You can see a lot just by observing” Yogi Berra

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

                          

Investors Should Learn by Observing Others

The art of investing is based on observing elements that others do not see or interpret. One example is a comment from a young person about investing. She asked, isn’t the most distressing investment Bitcoin? I saw this as a learning moment and replied that the most distressing investment is cash.

Except at the very beginning of an individual’s investment career, cash should never be the predominate asset in their portfolio. However, cash whether people know it or not, sits at the very center of the concentric circles that make-up an investor’s portfolio. Even when one buys or sells an investment, it momentarily passes through a cash phase. A more important point however is that when an investor contemplates their entire portfolio, they do so in terms of its cash value. Furthermore, the level of cash serves as a rough guide for the current confidence in the remaining holdings, which should include perceived liabilities.

Most investors prefer to combine their investments into a single documented portfolio. This minimizes the time and emotion of comparing current assets with future needs and desires. Just as I don’t have only a single hammer in my tool kit, I also don’t believe in a single investment view or portfolio.

Managing and Measuring

You can’t cope well with problems/benefits or assets/liabilities you can’t measure. Every element of our lives cannot and should not be measured to the fifth decimal place. Initially, the most important decisions are binary, good or bad. Only later can you attempt to analyze how good is good or how bad is bad. Some portion of  concerns may revert to using cash as an imperfect measuring tool. 

At this point in the development of my thinking I find it useful to divide tasks into segments, assigning problems/benefits and asset/liabilities to separate portfolios, usually based on when cash will be needed to pay for the desired result. This segmentation allows me to assign different assets to different problems, potentially suggesting the use of different assets and investment strategies.

Regardless of whether you maintain a single portfolio or multiple portfolios, you need a framework to decide whether you are accomplishing your goals, moving in the right direction or need a mid-course correction. In the next section I briefly suggest the elements to use in building a portfolio measurement approach.

Framing the Measurement   

Critical end dates and periods to measure and analyze choices:

12/31/21

11/10/22 (For US Taxpayers)

12/31/31

Retirement

Estate

Multi-Generation

Most important decision centers:

Capitol Cities – Washington, London, Beijing

Capital Cities – New York, London, Shanghai

Size of loss tolerance 

10%

25%

50%

100%

Cost (for long-term holdings)

Investment Policy or Critical Personnel Changes

What Yogi Might Observe Today

1. This week, the normally more speculative NASDAQ market is less “bullish” than the larger cap NYSE market in terms of the percent   of traded issues reaching new highs, 11.8% for the NASDAQ and 22.7% for the NYSE. Short position changes last month had the NASDAQ increasing +2% and the NYSE +1%. 
2. International Markets performed better than US: Taiwan (+19.5%) was the best performer, followed by South Africa, Canada, Singapore, France, and Hong Kong. The US followed Hong Kong with performance of +11.4%. South Africa and Canada are metals and energy driven.
3. T. Rowe Price’s target date funds reduced their commitment to US stocks due to lower expectations.
4. Robert Kaplan of the Dallas Fed thinks the Fed should recognize increased speculation by considering an increase in rates.
5. Some believe the real reason for increases in government spending is to increase the deficit, in order to raise taxes on the “wealthy.”
6. Hunter Lewis, developer of the “endowment” model at Cambridge Associates, believes it is outmoded since most academic endowments and  pension funds  use it and rely on important allocations of private equity and real estate.
7. Warren Buffett at the Berkshire Hathaway (*) annual meeting noted two things of general value: 
1. None of the 30 largest stocks by market capitalization from 30 years ago are on the list today.
2. Reports from their 60 plus affiliates indicate inflation in their costs.  
• (*) Owned in Private financial Services Fund and Personal accounts.
8. Medina Spirit led all the way to win The Kentucky Derby. The colt was purchased for $1,000 and was the 6th most favored horse in the race. It was Bob Baffert’s 7th Derby winner.

My interpretation of these observations is to be careful with short-term oriented accounts.

What do you think?

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

https://mikelipper.blogspot.com/2021/04/four-letter-words-to-sounder-investing.html

https://mikelipper.blogspot.com/2021/04/the-other-side-weekly-blog-677.html

https://mikelipper.blogspot.com/2021/04/mike-lippers-monday-morning-musings.html

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Copyright © 2008 - 2020

A. Michael Lipper, CFA

All rights reserved.

Contact author for limited redistribution permission.

More to Learn by Seeing More - Weekly Blog # 640

Mike Lipper’s Monday Morning Musings

More to Learn by Seeing More

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

Yogi Berra it was reported to have said that you can see a lot by observing. The distinguishing characteristic of most investors, be they institutions or individuals, is that they thrive on information. However, most investors devour what is served up to them and don’t take the time to observe how the information is served up to them. This week’s blog will focus on two critical streams of information driving the portfolio allocation of many investors. My purpose in displaying how I look at these factors is to illuminate how to look deeper than what is served up, not to suggest that you adapt the way I think.

Asset Allocation

When reviewing investments, most investors start with a listing provided by an advisor, broker, or custodian. The way the information is arrayed often directs our thinking and therefor our actions. We don’t realize that the array reflects how the producer of the portfolio organizes their information flow, often to reduce their liability. When was the last time you were asked how you’d like your investments shown to you? When was the last time your agent asked what other critical information would be useful to you to in making decisions?

During this lazy summer, with the aid of the computer and forced companion in isolation, creating an information matrix giving a different viewpoint. The different view will probably show you how to think about investments and give you a more complete picture, like when your investments will be depleted after meeting various significant expenses.

The following discussion is my first pass at creating an investment framework. It will probably evolve from more thinking and hopefully from the reactions of some of our thoughtful subscribers. I am not recommending this structure for anyone, I’m challenging you to develop your own thinking from a similar exercise.

Once a second investment is added to your first, a portfolio is created. The ability to meet future payments will likely result from the performance of the portfolio, not just a single position. That is true even if the money comes from a position, as it is chosen from the list of available choices. Most investors are collectors of investment opportunities of different natures. Thus, I find it useful to group investments in different categories based on some common theme rather than looking at a portfolio in alphabetical order.

For this first exercise, I created five categories or buckets. In this case the buckets are based on their desired usage and not necessarily their investment characteristics. The five are Capital Preservation, Capital Appreciation, Long-term Hedges, Future Merger & Acquisition candidates, and Expenditures. These terms have specific attributes for me and reveal a great deal regarding my thinking, as described below:

• Capital Preservation requires a belief that these assets will grow reasonably in value over time relative to inflation, purchasing power (currency risk), sustainability through economic cycles, and after-tax benefits. Assuming none of the positions fail to meet the continuing criteria they will be part of my estate. Because the criteria changes over time, the portfolio is also likely to change. For example, a major change in tax regulations could cause some of the holdings to move out of the Capital Preservation bucket. (Notice, I did not specify stocks, fixed income, or public/private investments. Each of these could qualify in the right hands.)
• The Capital Appreciation bucket includes holdings, which over an investment cycle, are expected to do better than the appropriate index. The bucket includes both positions doing well and some fallen angels, where there is hope for recovery. Some fallen angels with large losses should be held until they can be used to offset large realized gains. Because of the inclusion of both fallen angels and some leveraged holdings, I do not expect them to be considered “trust quality”.
• Long-term Hedges are those positions likely to rise when specific Capital Preservation issues are falling. They can be competitive with the Capital Preservation items, e.g. Morgan Stanley vs Goldman Sachs, or an economic trend contrary to a Capital Preservation holding, like Jet fuel oil vs airlines.
• Future Merger & Acquisition holdings would be good companies with attractive products and market share, possibly with an aging senior management with estate problems and weak middle management. Amazon or Tesla could be examples.
• Expenditures would include available cash in various currencies and instruments. The currencies result from fund and individual security distributions, where their initial purpose was to be a small reserve for future purchases of investments in those currencies.

In the table below is the current percentage commitment to each bucket and the current number of holdings.

                                  

Allocation            % of Total  

Capital Preservation       40   

Capital Appreciation       34   

L-T Hedges                 10  

Future M & A               13  

Expenditures                3   

                        Approx. #

Allocation             of Holdings

Capital Preservation        29

Capital Appreciation        54

L-T Hedges                   2

Future M & A                22

Expenditures                 7

Clearly, there is little relation between the level of commitment and the number of holdings in each bucket. To emphasize that point, adding the single most heavily owned position in each bucket would represent 42% of the total portfolio, demonstrating the power of compounding winners. The large number of holdings represent a behavior pattern of investing in a number of companies when entering a new industry or sector. It also reflects the retention of a number of fallen angels, either due to a belief in an eventual recovery, or the desire to reduce the tax impact of selling large winners.

What would you do with this portfolio instead of one heavily invested in financial services, that is globally diversified with an Asia heavy focus and a substantial Canadian commitment? I am not suggesting the unconventional display above is superior, it is just different and might add to your decision making capabilities.

There are any number of other buckets you can use to group your investments. The following is just a sample for both individuals and institutions, it is far from exhaustive.

                              

Sample Allocation Categories

For Individuals             

Pre and Post Retirement     

Acquisition of Major Real Estate      

Major Family Event                          

Large Educational Bills                       

Death and Inheritance Issues            

 

For Institutions

Credit Rating Protection

New Buildings or Laboratories

Funds for strategic acquisitions

Balance sheet to repel a raid

Sufficient Flexibility to Pivot

Operating Leverage

So far, in the second quarter of this year most companies reported materially larger declines in operating earnings than in revenues, excluding some tech companies. Under normal conditions this would indicate the company has lost control of its costs and should be sold. However, as with everything on our march to a series of “New Normals”, our experience and training may prove to be wrong. 

Many companies claim their staff is their most critical asset. (I disagree and believe their customers are their biggest asset, followed by their people.) Most successful companies are labeled as skilled or non-skilled, regardless of their existing employees bringing them to their recent former highs. Instead of slashing employment along with sales, some are consciously increasing their losses by maintaining employment or payroll for as many of their people as possible. In many cases this is likely to prove to be wise from the employee, management, and shareholder point of view. Thus, when analyzing second and possibly third quarter’s earnings, try to grasp how much of the operating earnings decline is due to the fall in sales and covering current expenses. How much of the cost is for carrying employees that are not currently producing? That is exactly what I did when I was running a larger firm during periodic market declines. It proved to be a wise move for our clients, employees, and not bad for me either.

Please let me know if I am making sense to you or if you need help in building your own Personal Allocation View.

  

   

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

https://mikelipper.blogspot.com/2020/07/mike-lippers-monday-morning-musings.html

https://mikelipper.blogspot.com/2020/07/that-was-week-that-was-change-weekly.html

https://mikelipper.blogspot.com/2020/07/currently-selling-more-important-than.html

Did someone forward you this blog? 

To receive Mike Lipper’s Blog each Monday morning, please subscribe by emailing me directly at AML@Lipperadvising.com

Copyright © 2008 - 2018

A. Michael Lipper, CFA

All rights reserved

Contact author for limited redistribution permission.