Market Commentary for the week of December 19, 2011

Blame game.
The Federal Reserve, liberally praised and/or criticized for its policies regarding expansion of the money supply is now falling victim to whispers about its virility to deal with a stagnant economy for the long term.  Some have jumped upon the Board, and its Chairman, as being the enemy of a market torn between austerity and growth.  While it is fair to lay blame upon them for an overly zealous monetary policy, the fault with the global markets must also be borne by politicians, business, and consumers.

The deterioration of the market, in a quest for equilibrium by our policy-makers, raises geopolitical interconnectedness to a new bar.  The “on-the-ground” reality is that it’s not working for the average consumer, who feels that the allocation of hope and opportunity is unfairly distributed.

Given this scenario, the prospect for earnings acceleration patterns in the next quarter are quite low.

After years of being pounded upon, many investors/consumers have just withdrawn.  It is naïve to suggest that market fundamentals are not impacted when a significant portion of the consumer base doesn’t even play the game.

As valuations go, P/E ratios might show some semblance of expansion, but that’s because the denominator is getting smaller, or traders are speculating with prices, driving them artificially higher.

Profitability is being squeezed by a decline in top-line revenues and higher overhead.  Forecasts continue to project a less-than-robust jobs market for the next few months at least.

We are still dealing, then, with the immutable laws of quantification, statistics, and physics.  Those “laws” indicate a static (lateral) movement in stocks as a surrogate for upside momentum, and an even higher probability that as stocks congest within their short-term attempts to rally, they set in motion the potential for a decline (sell-off).  The most positive thing one might say about their stock portfolio today is that it has “done them no harm.”

Dismay.

Quantitative analysts get headaches over markets like this because data doesn’t always appear as “black” or “white.”  Instead, we review “degrees” of magnitude, a frame of reference that deals mostly in integers, not point of view.  There are no absolute responses to data, only absolute data.

For example, the deceleration in earnings about which I just wrote, creates clusters of equities in various phases of growth cycles.  Rather than focusing upon those securities whose prices are low, I would prefer to find companies whose earnings/profits are accelerating.  Of course, who wouldn’t?  Well, you would be surprised how difficult it is to match sector, cycle, inflection point and time to one another.

Fundamentals, which play a significant role in this analysis, are typically expressed as integers but also interpreted upon a value scale.  If the numbers seem “flawed,” or suspicious, one might ignore them altogether.  This, in turn, evokes a “happy” or “sad” response to a company.  Grudgingly, as a result, the markets take on a psychological mania that can affect prices.  Fundamentals get ignored, opportunity wasted.

I expect that the year-end will be rife with psychological mania of this kind, yielding to an extremely volatile attention span.  Despite the numbers, a new landscape is emerging which trades upon “hype,” “happiness,” and “expectation.”  It could cost us the opportunity to tune in to dormant themes that might be next year’s capital gains winners, or, possibly, to overlook them altogether while wallowing in excess negativity.

Market Commentary for the week of December 12, 2011

Trap.
Mammoth European fiscal support packages are an attempt to “close the barn door after the horses have left the stable.”  Economic dynamics, that were spiraling out of control, are contained, euphemistically, for the time being, but the test of the effectiveness of these measures is mostly psychological, particularly in the U.S. where investors clamor for any news, from anywhere, that is positive.  Since it’s all about “confidence,” the global markets were in a hurry last week to show recoverability.

More importantly, the focus was shifted from U.S. banking and economic problems to a wider aperture, globally. 

Whether or not these attunement policies work is up for debate and not likely to auger a turning point in any secular bear market expectations.  Any willingness even to address fiscal austerity amongst the EU partners does show a level of concern and cooperation that the financial markets, particularly the bond markets, needed to see.  Partners have stopped bickering and are now responding.  Although these plans don’t “solve” the crisis, they do, as noted, address the notion that they might not be addressed at all, risking reverberation and failure within the global markets.

Straining the banking system, however, is too desperate a response despite the immediacy of the problem.  In a world of tight money and limited personal savings there are few avenues, but for taxation, that can be taken.  Boosting lending capabilities is not the same as boosting lending.  Banking markets require growth, liquidity, and production to come out ahead.  Any global recovery must ultimately rely upon improving the quality of life, products, and the consumer psyche in order to flourish.  Job creation and personal savings are a good place to start.  We don’t want to rely solely on filling a government treasury with cash.

So bad.

The global markets are powering forward on all this good news, forging ever deeper into a labyrinth of trouble.  Psychological contagion in a bear market is as dangerous as poor portfolio performance.  The two feed off of each other, making for excessive betting and creating a general “momentum to nowhere.”  Just because seasonal, or short-term, numbers turn up is not necessarily a secular response worthy of excessive betting against the trend.  It will be important to see if relative strength integers in today’s hyper-performers can sustain to the upside.  I doubt it, and look for profit-taking as valuations swell.

While these price increases put the composites back in positive territory, bear in mind that most of the last decade has been negative for equities, and that today’s positive return is well below the declining peaks of valuation since the bear began.

The investment picture is mixed, at best.  We yearn for improvement, yet do not wish to lower our standards of evaluation.  Year-over-year uptrends are indeed showing some progress, but don’t factor in the bigger issues of jobs loss, savings depletion, home and portfolio devaluation and most importantly the loss of innocence/confidence that our institutions know how to do it better and can help us to sustain enthusiasm for something better ahead.

Market Commentary for the week of December 5, 2011

Turnaround?

Any euphoria about last week’s intermittent triple-digit rallies has to be couched in a context of longer-term developing downtrends and a desire to see any positive news as “bear-busting.”  Alas, the ongoing downcycle persists and is likely to be the primary determinant to market performance for the foreseeable future.

As junctures go, last week represented a few days of post-holiday welcome relief, but hardly the initiation of a change in secular direction.

The headwinds are too daunting when analyzing market and sector relative strength quotients.  Despite some decent numbers on Friday, it is more likely that unemployment, capacity under-utilization, deficit reduction, commodities depletion, and social unrest occupy investor’s mindset and political discourse to the exclusion of nascent indications of a turnaround.

The markets are emerging from a deficit cocoon and turning into a sterile, cash-only butterfly.

That is why I feel the story gets more difficult before it gets much easier.  Mature global markets need to upend themselves and begin to provide fiscal leadership for the rest of the globe.  Simple GDP expansion could help, but it is not the panacea that returns confidence to the system.  Bear in mind that consumption and savings are elements for growth.  In today’s climate savings are lagging and consumption (the holiday season notwithstanding) is abysmal.

Or worse.

Further complicating any enthusiasm to short term rallies is the timeline of one’s perception.  For obvious reasons, short-term oriented investors are salivating at the opportunity to “make-back,” or “make-up,” portfolio valuation with quick strike efficiency.  Nothing soothes the soul like a 400 point Dow rally.  However, those who study secular cycles and demographic themes understand that sucker rallies sometimes draw you in at the top with hope of different outcomes.  Ideally, in my universe, the optimal entry point is an enduring “bottom left to top right” configuration with an inflection opportunity yielding a greatest probability of upside return.

We are today operating on the “other side” of a bull market, however.  The trend in global securities trading is “top left to bottom right.”  Along with any concomitant short upside rallies within the downtrend, the markets are generally comprised of stocks leaking oil and sputtering.

Short upside rallies offer relief but they do not change the secular condition or offer a reversal of trend probability.

My best expectation is that we will continue to see some sectors lead (utilities, consumer non-cyclicals), some lag (financials, cyclicals), and others simply meander laterally, failing to pick up steam (industrials, basic materials).

Linkage.

Markets are more synchronized today globally, as well.  Those regions which are high in natural resources and agricultural plentitude are likely to lead economic, social, and portfolio metrics.  The emerging markets are a different challenge altogether. Their growth will be measured in relative terms, and only their resilience might be enough to generate valuation changes in the long run.

The key to the next few quarters lies in ameliorating the impediments created by social inequality, fiscal austerity, and a kind-of institutional lack of respect we have developed for all centers of power, from government to Wall Street.

Until the confidence crisis is substantially addressed, all markets will suffer from the fallout of engaging on an uneven playing field.

Market Commentary for the week of November 29, 2011

Squeezing.
Like a slow-motion train wreck, the global markets have maintained a vicious shakeout whose collapse is frightening not only for the Europeans but for America and its synchronized trading partners.  For the past several months we have been building a slow crescendo which, like a great symphony, has many codas yet to play.

Clearly, a correction to overborrowing, overspending, and over-expecting is in place.  Turbulence and volatility, both in the markets and political discourse, is the order of the day.  More significantly, the foundation of trust which underpins all capital exchange and political governance is nearly in default.

Am I overly bearish or phlegmatic?  Not when one considers the duration and magnitude of the correction thus far, and the potential for further erosion.

Social upheaval and civil disobedience are unfolding as rapidly and precipitously around the world as are financial crises.  In fact, the two are inextricably linked.  They both share the attribute that as fairness is perceived to fail, or power held in too concentrated a location, vicious consequences ensue.  We are not yet at a fail-safe survivability confluence, but darn near it.

Past.

Financial crises are nothing new to world economies.  What has changed is the technological immediacy of their impact.  One no longer has to wait for tomorrow’s newspaper to share in the insights and specifics of today’s events.  Critical data is available instantaneously, and often intensified by the “in-your-face” immediacy of its magnitude.

We have had global devaluations before.  Some have had significant impact upon currencies, treasuries, portfolios and individuals.  We have never had a devaluation of global fairness, synchronized as this one, with such immediacy and consequence.

The nature of the response to the crisis is equally as intense.  The markets, and their constituent participants, are unsettled and bailing out.  Investors are confusing common market trends with panic events.  There is a failure, or unwillingness, to cope, which raises the pressures throughout.  Investors act like they are trapped, or unwilling to play at all, and recall only the bad effects of previous down cycles (e.g., 1999) not the recovery which follows.

Emotion plays upon these cycles, exacerbating their velocity, magnitude, and duration.

Future.

Fortunately, cycles are measurable and manageable.  My clients have wisely been positioned to withstand significant magnitude failures by asset allocation rebalancing.  Today, even our most aggressive clients are not more than 30% invested in equities.

One cannot avoid cycles altogether.  Even minimal exposure to stocks results in capital declines, but not the kind typified by index benchmarks, poor asset allocation modeling, or bad stock-picking.

Right now the markets are unsure over how long and how deep the disruptions might be.  My analyses indicate that the current short term downtrend might persist and “smooth into” the broader secular bear decline.  There might be instances of low-risk opportunities for traders looking at value as occurred yesterday.  But as with financials and other high-risk sectors, you only run the risk of buying-in and having your bet work against you.

My strategy is to keep risk at a minimum, emphasize yield and cash, and to trade when I see a sector-appropriate value unfold.

The eventual definitional conclusion to a downside cycle is an upcycle.  We simply have to avoid guesswork, hypothesis and quick pressure.

Market Commentary for the week of November 14, 2011

Yield conundrum.
Incredibly low interest rates are telling us a story that few seem able to decipher.  For well over a year, interest rates on cash deposits have been near zero, while the “reward” for being a long-term Treasury investor has hovered below 3 percent.  The last time rates coalesced around 2 percent was more than a generation ago.

Concurrently, the economy has lost buying power, jobs, and valuation.  As every global bourse in my universe struggles to gain upside traction, a worldwide decline in sentiment, earnings acceleration, and pricing power has diminished the foundation of free-exchange and capital markets.  The erosion of market fundamentals and fairness has been the single greatest consequence of disinflation and low interest rates in this decade.

The negative real rate of return on cash is a continuing indication that the economy is moving down, not up.  As investors seek yield in gold, distressed bonds and hybrid ETF’s, they drain money away from equity speculation and money market reserves, making it more difficult for a market, or economic, upside trend to materialize.

Two sides, same story.

Global stagnation and disinflation are the opposite progenitors of what we need for expansion, and lurk as the iceberg in the water that might sink economic renaissance.

If one considers the enormous effort put in by Federal Reserve monetary policy and state austerity measures to keep the cost of money low, one might easily understand how those policies overextended and why there is a gap in savings rates between the wealthy and the not-so-wealthy, as well as the older generation versus the younger.  We have spent so much time, and money, chasing real estate, gold, stocks, artwork, leverage, and greed during the past twenty years that we forgot the proverbial “rainy day,” not to mention the well-being of our neighbors and friends.  That rainy day is here, in spades.

The key to ameliorating our “cashless recovery” is to allow rates to follow market forces upwards consistent with an historical ebb and flow over generations.  This could create a cycle of savings, higher return on time deposits, modest expansionary inflation, and jobs creation, as opposed to our current state of low rates, high speculation, loss of value in asset classes, and psychological despair.

Nature versus nurture.

Markets are obviously complex.  But they play to a natural cycle, a progression that evolves over time from high growth to low growth, inflation to deflation.  Any artificial manipulation of those cycles interferes with the nature of things, the laws of supply and demand.  Build up too much cash and you create demand for something that might not ordinarily exist as we did with real estate (homes) and gold.  Our most recent run-up in equity prices and tangible assets was the direct result of policies and objectives which magnified boom times, high enthusiasm, and, unfortunately, artificial market forces created by a desire not to have the bull market end.  Trying to avoid what is historically preordained by history, physics, and science is a dangerous game.  The synthesis of new banking and brokerage products in order to maintain profit margins is an alchemy that we can ill afford, and a game with which the public has already grown tired and suspicious.

In the end, both bond investors and stock investors are suffering.  Today, we no longer have a definitional “alternative investment scenario” in which bonds offer the safe-haven from equity volatility and risk that they might otherwise.  Instead, we are governed not by science, statistics, and methodology, but by synthesized monetary policy that has backed itself into an untenable corner.

Strangely, it might be a victory if the markets simply were to “break even” in the end and recalibrate a new equilibrium.

(Note: the next market weekly will be published on Tuesday, November 29^th.  In the meantime, Happy Thanksgiving to all my valued readers!!)

Market Commentary for the week of November 7, 2011

Crushing.
A violent shakeout in global equity bourses is reverberating to U.S. shores, and exacerbating the fear that a second global credit/equity crisis is likely.  In response, the domestic equity markets (U.S.) shook significantly last week, despite intraday bargain-hunting and attempts to forget altogether an unresponsive fundamental framework.

In hindsight, my call towards a more conservative asset allocation model this past summer was fortuitous.  The financial markets don’t trust the underlying fundamental statistics, and the public doesn’t trust the financial markets.  All told, we are reeling from two primary evaluations:  (1) the data is unbelievable, if not remarkably poor; (2) the public perceives an inequity in the way wealth is earned.

Social unrest is nothing new.  Dangerous and divisive periods have always been a part of social discourse.  The unfortunate reality, though, is that rebellion and upheaval today is perceived to be caused by economic “unfairness” and the belief that pain and opportunity are not allocated evenly amongst the populace.  The market’s, and society’s, mood will continue to darken as the economy tailspins into a “have versus have-not” paradigm.

Previous economic and social crises have shown to have a timeline.  There is no historical, or quantifiable, evaluation which can be used as a template for all uniformly.  The goal is to avoid psychological default before economic default.  As long as the crisis is being addressed, there is hope to avoid manic deterioration.

Whether that means fiscal or monetary, public or private, national or global solutions is unclear.  We do know that in the internet age, information is not safe-harbored only in one geography.  The Arab Spring is the most cogent example, and most recent, of how quickly the timeline can progress.  By all accountable measures, our leaders are trying to assuage the rage, but the solutions cannot fully be found in money, alone. 

Opportunity.

Massive stock rallies are not entirely built upon cash.  They are built, too, upon optimism and common goals.  Until or unless a credible, common-sense package of ideas is presented, we should hardly expect money to be allocated to risk.

The world has had a difficult catharsis in the last year.  But the seeds of the bear were planted by our own behavior for decades prior.  The entire globe spent and leveraged a market boom that seemed unstoppable, “different this time,” as our dot.com brethren called it.  But nothing is ever really different.  Such is the antecedent of quantitative market studies.  Everything is measurable.  The last bull was no more quantitatively different than those bull markets which preceded it.

The cumulative effect of our currency/monetary policies is to eviscerate our coping policies, our options, for dealing with the consequences of our actions.  Once painted into a corner, we became trapped, taking a lot of innocent people out with the tide.

Even though we might try mightily, the current rhythm of market stochastics is negative.  For the next few years our “bullish” efforts will be spent simply trying to reverse the current downtrend’s magnitude and velocity.  Of that I am certain.

Market Commentary for the week of November 1, 2011

One trick ponies.
It strikes me as odd, and slightly disturbing, that a one day rally on Wall Street, particularly seemed to be caused by a news-worthy event in Europe, can effect a total change in psychology and newspaper headlines.  This manic upside/downside emotional swing is neither healthy nor representative of the facts.  Simply by saying we’ve turned a corner doesn’t make it so, or ease instantaneously the underlying causes of the recession.

The nuance between exact science and interpretation is a fine-line, but not to be discounted too easily.

Besides, investors don’t expect the markets to turn on a dime, even though they might hope for such.

Increasing levels of debt, and depleting savings rates, are part of our economic landscape.  Both foreign and domestic banks have smaller resources, larger exposure to potential risk/default, and are loathe to lend money indiscriminately.  This is not a happy time to be a purchaser or a lender. The sheer magnitude of the financial crisis, factually and emotionally, cannot be diminished by one day’s collective sigh of relief.

Therefore, I worry that a complacency might extend to the financial community that could accelerate a kind of manic “gunslinging” in the markets reminiscent of times when only the speculators made money.  We need to return to value-based, and values-based, fundamental analysis before committing our capital once again to rally attempts.

Unfortunately, I don’t think the time is yet at hand.

Sustainable metrics.

We are, however, dealing with a “new normal.”  As I have previously written, trading cycles have contracted.  Here is where a quantitative discipline might aid the average investor.  Instead of guessing what might work, one can use the rhythm and pulse of market cycles to amplify potential capital gains expansion (in sectors and securities) and minimize the impact of negative trends or expectations upon the portfolio as a whole.  By combining the interaction of price and relative strength quotients, one can maximize the existing amplitude of cycle measures by buying, or selling, at appropriate and measurable inflection points.

The collapse of the global credit markets didn’t occur on one date-specific in October 2008.  No, the seeds had to have been sown over decades prior, culminating in a seminal period from which we are still evolving. Within that context, a global financial and economic recovery might be occurring, but the decisions needed to create that recovery must be made not simply by default, but by active participation.  What we saw last week from the EU was a start, but not sufficient to turn a bear psychology, and a bear market, into a celebration of bull market renaissance.

My trendlines and sector-strength distribution analysis indicates that, despite the inter-day advances most recently seen, the market is consolidating laterally around secular resistance levels initiated in 2006, and which persist mightily today in restricting intermediate and short-term attempts to justify upwards movement otherwise.  However, given the time of year, I would expect portfolios and portfolio managers to try to maximize upside opportunities within short cycle advances, having the effect of elongating short sine waves, making them appear more robust than underlying fundamentals should indicate.

Either way, caution at oversold tops is always more prudent than chasing a trend once it has maximized valuation.

Market Commentary for the week of October 24, 2011

Locked in.

The U.S. Federal Reserve, and a majority of global state treasuries, have made the decision that keeping money “inexpensive” is at least one of the tools they can use both to rescue and sustain economic growth.  This policy has been a boon to those with money, and a severe hindrance to those without.  A vexing conundrum exists when monetary policy is designed to promote the flow of money into dynamic expansion, but the spigot gets blocked because psychology and momentum are running in the opposite direction.  In the meantime, savings rates have nearly disappeared, along with whatever savings the “losers” in this game had to begin with.

While production and utilization stay on hiatus, the markets consolidate laterally, or downwards, reflecting a declining earnings rate for business worldwide.  With exception to intraday attempts to “break above” important technical areas of resistance, a sideways accumulation is suggesting that any momentum in the last few weeks is nearly dissipated.  As a result at the top of the range, here, the evidence is inconclusive to call for a trend reversal upwards.

My prediction is that a golden, but inefficient, confluence is occurring in which monetary policy, fiscal policy, markets, and the economy conspire to erode any confidence that last bull might have inspired.  “Wait and see” is hardly the stuff of economic expansion.

Credible protest.

Given that the predicate for future economic policy is lower rates, not higher, our current investment dynamic must be to shorten fixed income maturity scales, find yield where it exists, trade capital gains more aggressively, and fix downside risk to a nominal baseline.  To do this, I have already shifted portfolio maturities, secured long term gains in fixed income product, reallocated equity portfolios towards utility shares and traditional consumer non-cyclical earnings performers, and been more diligent about stop-loss mandates.

This will not return enthusiasm to the marketplace, but it will help to mitigate the impact of a daily drumbeat of factors which might erode confidence in the process itself.  Thus far this strategy is working, keeping us well ahead of any balanced benchmarks against which our performance is measured.

But we need, also, to pay attention to the potential for capital gains, even in a counter cyclical, unproductive market.

Premise delayed.

Which might come first: a stronger, more prolific economic expansion or a solid rebound in global equity performance?  History has shown that the markets tend to precede an upside economic recovery, but linger longer at the top as economic activity begins its unseen decline.  Therefore, those factors which dictate demographic, economic, and psychological recovery must be a part of our portfolio selection process.  To wit, my work is indicating nascent synergies in biotech, high tech, alternative (replenishable) energy, agriculture and water purification, waste management and ecology, and global telecommunications.  These sectors are borderless, seamless, and non-capitalization specific.

Nevertheless, short term oscillators are indicating a continuation of the current bear market.  In most models, a 10-15% decline is probable both in indices and in individual stocks that one might own.  As well, a seismic rotation in leadership is occurring, robbing the traditional name-brands of their defensive luster.

As earnings acceleration rates evaporate, unemployment expands, and industrial investment declines, it is imperative not to play the same game with the same chips with the same strategy and expect traditional 1980’s –style performance.

The tightrope narrows, and lengthens, at the same time.

Market Commentary for the week of October 17, 2011

Heard this before?
Look out for number one.

Buy on margin.

Zero percent interest rates.

It’s your own darn fault.

The big payoff.

Collateralized Mortgage Obligation.

Free market capitalism.

Chances are your reaction to each, or all, of the above phrases derives from your age, your socio-economic level, your occupation or your moral fabric.  It’s a good bet that at least one of those phrases evokes a visceral, emotional response in addition to whatever fact-based analysis you bring to bear.

In any case, this is the new reality of our time.

While the tech revolution of 2000 produced its share of paradigm changes, nothing so changed the economic landscape as an era of misuse and leverage of the financial system by insiders and outliers alike.  Unfortunately, what we are left with is a decade-past of complex issues, and a decade-forward of extraordinary remediation.  In the meantime, net valuations of portfolios, homes, and personal net worth have been readjusted downwards to a “new normal.”

By the numbers.

For those of us “seniors,” the problems are now owned by the next generations.  For them, it is a striking and overwhelming legacy which, not of their doing, they must attempt to fix.

If asked by a younger person, your son or daughter perhaps, “can it get better?” can you respond with a straight face and without remorse that it might?

I am not a pessimist.  I worry, however, about the effect of our economic transgressions upon the psyche of young adults and children.

Globally, the number of industrial and manufacturing jobs is ceding growth to technology and “service” jobs.  Cities are experiencing population and demographic migration.  One is more likely today to relocate from one’s hometown than to stay.  Yet statistics indicate that more adult children are moving back in with their parents for economic reasons than at any time in the last 60 years.

Move over George Costanza.  You’re not the only one moving back in with Frank and Estelle. 

Get busy.

Some of these demographic shifts are tomorrow’s investment opportunities.  As I have written, sectors such as biopharmaceuticals, agriculture, technology, and alternative energy have become the “industrials” for the next generation.  How long can we wait?

To accelerate these phenomena into trends requires political and fiscal discipline, moral conviction, and monetary commitment.  We’re open for business, but nobody’s home.

The primary trigger to ignite global economic renaissance is psychological will, and an abundance of confidence in the fairness of the system.

Funds?  Yes.

Willpower?  For certain.

Reality?  Not yet.

Market Commentary for the week of October 10, 2011

Trap door.

There is one certainty about today’s financial markets:  nothing is certain.  Traversing the economic landscape is akin to walking across a room with a trap door looming unseen.

It is not just equities which pose this risk.  Austerity programs worldwide are forcing interest rates down, and bid prices to fall as well.  In effect, waiting until maturity is one’s greatest hope for financial recapture in a bond portfolio.  As strongly as capital gains drove bond investing during a period of declining rates, strategic options don’t exist anymore as long as interest rates remain pegged to these low levels.

It’s an interesting juxtaposition.  As stock prices fall, so too do bond prices, losing the “alternative investment scenario” portfolio managers have come to rely upon for risk diversification.

The reasons for this are many, not the least of which is a deterioration of fundamentals and psychology (conviction) about investing in the first place.  Natural resources, industrial production, hiring, and debt levels are trends with negative direction.  An increasing focus upon the lack of conviction has drawn an imaginary line between what is possible and what is necessary to revitalize an economy stalled, or in reverse.  Wild swings in valuation during the previous two months confirm that volatility and inertia are going to sustain for awhile longer.

As we look for alternatives, our aperture must widen to include demographic themes which resonate counter cyclically.  That is, irrespective of the direction of stocks or bonds, we must find those things which need to be done and hope to make capital gains probabilities from them.

Downs.

I’ve had some clients ask me why we “lost” some money from portfolio valuation during the previous quarter.  It’s a question that is not so much seeking a market hypothesis or written text.  Rather, it speaks to portfolio methodology, in which case our “losses” were less than the benchmarks because we don’t use the benchmarks as our axis.

Instead, through asset allocation and risk diversification amongst sectors, we didn’t “lose” anything, we simply followed, to a lesser degree, the ebb and flow of the broader financial markets.

Investing is not static.  One’s high water mark in April is not the apex of valuation, nor is October the nadir.  The trend is significant, and my clients know that we have outperformed the trend by a significant amount over time because we know how to avoid risk, and to balance asset allocation probabilities.

It is vital not to throw all one’s eggs in one basket.  If you owned only gold, or timber, or IBM, your fortunes vacillated from undue risk-taking.  Growth prospects heighten when a portfolio is structurally diversified.  As downtrends continue to widen, by asset class and sector, bottoms look more tenuous and likely to “break.”  Weeks of downside uncertainty and market volatility heighten the probability that the trap door might drop into a hard fall.

Such is not what I wish for, but get nervous about nonetheless.

Temporarily, I will focus on correlating asset balance to risk parameters, avoiding the possibility of seismic underperformance or dislocation.  If that means shortening investment durations, my hope would be to yield positive alpha during manic upside feeding frenzies.

Market Commentary for the week of October 1, 2011

gold.com

It was pretty much assured at the end of the 1990’s that if you affixed the suffix “.dot com” to the end of a company’s name, you were going to make money owning the equity.  The mania surrounding the internet almost guaranteed a flow of speculative capital into new entrepreneurial ventures.  Indeed, the markets exploded in valuation during that time particularly in technology shares, so one might have expected that at some point there was potential for reversal.  Unfortunately, the .dot com enthusiasts never expected their new paradigm to recede by 90%.

It seems there was an absence of rational evaluation.  Today’s fixation upon gold is a newer version of the same theme. 

Science tells us that for a rule to be proven it must contain objective, repeatable hypotheses.  Irrespective of changes in demand, location, supply or intention, investor’s fixation upon gold defies investment rules, investment logic and investment science.  One can certainly understand the obsession.  In times of economic and psychological distress people turn to safe havens.  Gold, however, is an inert base metal.  Except for the value which we ascribe to it, it has no inherent monetary value.  Imagine, for example, if historically we ascribed such reverence to pigs.  We might be worshipping pigs 2.0 or pigs.com.

Contrast the mania generated by gold today with the dot.com mania a decade ago and you have the makings of another calamitous market capitulation.

Markets.

A fixation with tangible metals is both forward looking as well as reflective melancholy.  Because the price of commodities had risen in the past, people might expect that it is likely to do so again under similar circumstances.  In the case of commodities, gold in particular, trends lose their appeal when everyone already knows that the valuations have become inflated.  In today’s case, for example, we have been in a twelve year commodities price expansion.  While some might try to eke out the last few cycles of profit within that trend, others (like me) wonder how much greedier can the trend enthusiasts be.  There are no linear cycles that last forever and no free lunches.

The difference between the speculators and the “tortoises” is that the speculators always believe “it’s different this time.”  That is not good portfolio modeling, it is gambling.

Changes in valuation come about because one side of a bet believes the other side is wrong.  Prices move contemporaneously to the psychology of the day.  If it were otherwise, then every bet would always be a winner.

Quantitative strategists, like myself, worry about probabilities of performance, not absolute guarantees.  Thus, asset allocation plays a greater role in the potential for a portfolio’s capital gains than do any of the individual constituents within that portfolio.  The science is imprecise.  The market does not always ebb and flow to a particular schedule, calendar, or theme.  I worry that any singular sector obsession is usually a recipe for portfolio deterioration, not growth.  Once again, our erstwhile dot.gold enthusiasts believe otherwise.

Let’s put the market today in perspective.  We have just experienced the longest, and magnitudinally largest, bull market in history.  That was followed by a series of capitulations that nearly eroded any price gains of the last decade.  We are presently within the second intermediate downleg within that capitulation (bear) waiting for the downcycles to disappear.  Superimposed upon this circadian rhythm are fiscal, monetary, and psychological factors which require remediation before the markets can resume an all-inclusive bull phase.  We are not there yet.  A fixation upon gold, in my view, is a distraction from the fear and uneasiness we feel, not a secular trend or market norm.

My contemporaries are quick to jump in and say “Who cares why the price of gold goes up.  Let’s simply make money off it.”  Well, my concern is that an inordinate amount of capital allocated to one security is both a potential pitfall as well as a moral hazard to investors.  Capital which might otherwise be resourced to doing something good is being siphoned off to make a quick profit.  If that’s the way of the markets, it’s misplaced.

The scope of the distraction is not uniquely American.  All global baskets are affected today by decades of credit, excess, and leverage.  While there may not be a coordinated, syncopated element to these events, they do, nevertheless, overlay the landscape in a similar manner.  All governments must live within their means.  Some geographies are “richer” than others.  For the most part, austerity is the byword of the day.

Our problem in the markets today, though, is that linkage between global economies has never been stronger.  The old axiom that “if China sneezes, America catches cold” is a metaphor which might apply to any two countries linked by currency, commerce, or mission.  Today’s market crisis is, in fact, a global market crisis, one which needs synergy to repair, not nationalism.

Since financial markets are also linked electronically, there also exists an international horizontal relationship between psychology and finance.  Investors who seek to reduce risk might find global solutions as palatable as domestic ideas.  The landscape of risk/reward algorithms is widening as never before.  As solutions widen, correlation of data becomes more efficient.  While there is no standardization of data analysis, I’m finding my own database to be more inclusive of capitalization parameters, sectors, geographies, and technology.

Strategy.

So, amidst the confusion about where we go from here, how should investors play the current secular cycle?

I am a believer, corroborated by my research and track record, that one needs to widen the aperture of perception in order to capture trends as they initiate upside momentum.  In other words, invest in your own morality and observations about enduring need.  If, in fact, capitalism is a problem-solving machine, then divert your attention from fad, and focus, rather, upon demand and need.  Currently those themes are embodied by biopharmaceuticals and biotech; technology; agriculture including, water access and availability; and brick and mortar infrastructure.  This is not to suggest that other sectors might not generate capital gains, too.  I am simply reflecting the probabilities of long-term portfolio appreciation as depicted within my global universe of financial data.

We also need, somehow, to clear up the angst and despair associated with investing.

Our financial institutions have been besmirched by individuals and collectives who used the mechanism for their own gain.  Policies and measures must be implemented so that oversight is expanded and confidence is returned.  That is not a political statement.  I don’t care whether such measures are self-imposed (well, maybe I do care) or mandated by government.  What we do know is that neither body was previously able to police the market sufficiently to abrogate the effects of human nature:  greed, avarice, and self aggrandizement.  I have always advocated for moral capitalism, by which investment returns and psychological ardor are supported by what is “right.”  Who’s “right,” of course, is the question.

Can the markets bring stability and confidence back?  I hope so, but fear that structural inequalities have become part of the system.  Trading has become technology.  Technology processes bits of information faster than one person can comprehend.  Systems can talk to each other, and effect transactions, automatically.  Old–fashioned due diligence, research, even hunch, is being supplanted by opportunistic algorithms that compute probabilities.

Wait a minute!!  “Aren’t you a quantitative analyst, Mr. George?”  Indeed, I am.  With a brain, heart, and a pause for subjective reflection.  My track record is not simply a black-box solution, but a customized solution for individual’s needs and risk/reward tolerances.  That’s something no computer can do.  We don’t need to hit home runs in order to keep investors in the game.  We simply need to be attuned to their needs and provide a logical, systematic discipline which reflects their values.

There is no hedging that responsibility.  The erosion of investor confidence has done more to erode capital valuations than all the remediations Wall Street has tried to pawn on them.  A useful response to the .dot.com syndrome is to stop trying to replace fundamentals with fad.

 

 

Asset Allocation:

Equity 25%/Fixed Income 40%/Cash 35%

Market Commentary for the week of September 26, 2011

Fantasy.

When a hunter runs out of arrows in the forest, it’s usually curtains for him, or, at best, a poor hunting season.  When the Federal Reserve Board runs out of tools to “fix” the economy, it’s an even worse scenario.  They are not simply useless, they become irrelevant.

And so, last week the Fed meekly bought more long-term treasuries in an effort to salve the economy by keeping interest rates, all across the time spectrum, low.  Instead, what they wrought was disdain, confusion, and declining confidence.

I’ve said it before.  Low interest rates today are analogous to giving free drinks at closing time.  You can lead a horse to water, but you can’t make him spend.

Instead, what the markets need is a surplus of cash with an incentive to buy.  Globally, such just isn’t the case.

Rather, we are faced with austerity packages and budget-cutting, which puts the onus not so much on liquidity (monetary policy) but upon demand (fiscal policy).  It’s no wonder the global financial markets gyrate intraday upon rumor, innuendo, hyperbole, and rarely, data.

Reality.

In studying my proprietary stochastic integers (a tool which measures magnitude, amplitude, and distribution of cycle trends), I have observed that although global securities try to rally on “good” news, the magnitude and breadth of participation within the rally is diminishing.  Price levels are not making new highs.  In fact, we are threatened with the possibility that sector lows might breach even further downwards.  Nothing demonstrates this more than the calamity inflicted by the Fed upon the markets last Thursday, a 400 point drop in valuation.

Within this search for downside stability we must juxtapose a panoply of bad economic news, earnings levels not withstanding.  In my vernacular, earnings that derive from technology efficiencies, layoffs, mergers or acquisitions are neither “moral,” nor real earnings acceleration.  Demand is the key to building a better mousetrap.  “If you build it (and they need it) they will come.”  Thus, the burden for recovery is entrepreneurship and the immediacy of filling a need by investment of capital.

Within that framework, the markets (and the economy) are too awestruck to get out of their own way.  Therefore, I envision a scenario in which prices decline in financial securities by as much as 15-20%.

But…

There are exceptions, however.  Certain sectors have demonstrated a resilience more powerful than their contemporaries.  Regionally, those geographies with a high concentration in natural resources have done relatively better than their counterparts.  Canada, China, Chile, Brazil, South America, have pockets of capital gains, most notably in timber, coffee, energy, and gold.

Unfortunately, the global economy doesn’t consume coffee and gold on a 24 hour timeline.  We must create wealth, and wealth equality, sufficient to sustain purchases in non-tangible assets as well as socially responsible endeavors.  Education, agriculture, technology, pharmaceuticals, biotechnology, potable water, waste management, and transit infrastructure seem like a good place to start.  While everyone’s attention is on what’s not happening in the economy, sooner or later someone will sort out a moral/social hierarchy and get to work on solving problems, and building a network of capital gains opportunities in the process.

Market Commentary for the week of September 12, 2011

Bring it down.

September has been a wild ride for global financial markets, and October is expected to bring more of the same.  On the horizon is a key inflection point at which portfolio allocation might either protect or bury any portfolios.

As global economic recovery sputters, there is a new urgency about either continuing on a portfolio path of growth, or reverting altogether to a default cash position.

Within each scenario, however, is a psychological uneasiness that borders on shock and awe.  It is much more difficult to manage client’s downside risk appropriately, than to pick winners when all stocks are rising.  It would be better to endure slow torture than to be a strategist for global mutual funds, at present.

Ever since the last manic decline in 2008 investors have suffered from an “all or nothing” passion which seems to spark panic or euphoria with every tick of the averages.  In reality, though, they shudder at the notion of one more cataclysmic decline.

Market volatility, as a result, has accelerated.  Downswings, and upswings, during the last month took on epic proportions, sometimes gyrating 4 percent in a day, and aggregating week by week to near double-digit levels.  Unfortunately, the integers look to be getting worse, not better.  Economic and market woes are pushing sentiment and relative strength data downward.

Crossroad.

While the numbers on a daily basis occupy most of investor’s attention, it is critical to realize that the overriding secular trend is still down, and that cyclical rallies this summer have all occurred within that backdrop.  Oversold, bear market rallies are sucker plays that hold up nicely for a week or two, but erode under the weight of previous owners looking to get out.

It is also quite apparent that the kind of breadth required to move markets upward just isn’t going to happen anytime soon.  Instead, upticks are limited to defensive growth companies, while sector allocation by speculators is limited to gold, currencies, or tangible assets.  As a result, 80% or more of my equity responses are to the downside, with nominal refuge being offered in basic materials, healthcare, or technology.

As if these data aren’t enough, exogenous overlays weigh heavily upon any potential exuberance the markets might sustain.  In the United States, we are about to begin the race for a new presidential election, while in Europe the issues of debt sovereignty, terrorism and domestic fiscal policy occupy the spotlight.

It seems obvious that, despite short rallies’ attempts to move the needle, there are few compelling reasons to make equities the only choice for portfolio appreciation at this juncture.  By raising cash levels in our balanced accounts, we have averted the volatility conundrum for most “long only” investors, and are actually ahead (in absolute and relative terms) for the year.  That’s not saying much, because the clay we have been given to work with is contaminated and contracting.

I look for aborted attempts, still, to drive valuation and sentiment ahead, but with a predictable pratfall likely, nonetheless.  While the “are we or aren’t we” debate is likely to heat up, the key turnaround inflection point is months down the road.

Market Commentary for the week of September 6, 2011

No resolution.

With the market recovering only slightly last week, I am once again reminded of my admonition that the market and the economy are not interchangeable, one-and-the-same phenomena.  In fact I coined the term parallel disconnect to refer to two paths which seemingly move in lock-step, but which are not innately connected in any way.  To be sure, they are sometimes confused one for the other, but in real terms the events and triggers which guide one do not necessarily, or specifically, impact the other.

This constant debate that the global financial markets reflect directly the condition of the global economy can be disproved both anecdotally and quantitatively.  Do you actually believe your job becomes more secure simply because stock prices are rising?  I’ve got news for you.  Rising share prices, and greater wealth for shareholders, influences not in the least your job stability.  One might even observe that building higher valuations in the face of low employment emboldens companies not to hire as long as they can eke profitability out of their workforce.

I am certainly a capitalist, although some might impute political motivation behind my commentary, but I know when I’m being taken to the cleaners.  As a scientist my job is to observe patterns of earnings acceleration and stock price performance.  But my data clearly indicates that today’s rising stock prices are being manifest from lower demand, smaller workforces, and greater speculation by those desperate to find or initiate trends.  Thus the parallel disconnect continues.

Any uncertainty over the market versus economic trends serves only to dampen enthusiasm for economic spending and to impede secular thematic trends.  All the way through, acrimony supplants harmony as weekly news and data become more disagreeable.

In exchange for this discord, we are left with longer periods of uncertainty, but tighter and higher levels of market volatility.  Clearly, today, the markets and the economy are not operating in lock-step, nor are they one-and-the-same.

Ceiling above.

Can we find any solace?  Sometimes a timeout, or capitulation, is necessary to review the landscape more effectively.  Last Friday’s downside reaction was emblematic of that disintegration.  You can’t go into battle and simply expect to forge straight ahead.  All the more reason that quantitative, parabolic studies make sense.  As in life, most phenomena move in cycles, ebbing and flowing.  The big mistake of the dot.com era was in thinking that technology, and the markets, forever forged onward in a linear (straight line) fashion.  We/they found out otherwise, as I had previously predicted.

How long can market-makers keep forging success out of inert economic news?  Posturing and posing only lasts for so long.  The latest economic data is still below expectations on a quarter-by-quarter evaluation.  Yet, we just keep creeping along.  Additional downside cycles are likely, in my estimation, because Relative Strength Quotients (RSI) and valuations are still too high.  Additionally, we need greater sector breadth participation in order to reverse the existing bear cycle.

There is no ambiguity in the global headlines or numbers.  Only in the way the markets seem to be responding to them.

Market Commentary for the week of August 29, 2011

It’s not you.

A number of factors have conspired to make investing not the same game it used to be, not the least of which is the excessive need for speed and immediacy of information. Keep in mind that before the internet, fortunes were also won and lost.  Key elements of due diligence exist today, just as they did then.  The difference is access and acceleration of information digested.  The human brain, unlike the computer, just isn’t wired for that type of speed when processing data.

As a result, many investors are unprepared for the impact of exogenous events upon their “plan.”  When the market moves at a snail’s pace, it is unacceptable to traders, when it moves at warp speed it is too fast for investors.

Whether you are one or the other, there is very little choice but to carry on dissatisfied, scared, or disassociated.

Fewer investors today, by my reckoning, are satisfied with their portfolios or their agents.  Many make it worse, in my judgment, by going it alone, trading off of discount platforms and do-it-yourself systems.  Those stresses don’t get any worse than having a full-time preoccupation with Wall Street’s faults and inefficiencies.  Most investors have an unrealistic set of expectations for success.  More often than not their one big “home run” is offset by a sequence of smaller, or larger, failures that net-out to nothing gained.  Too often, they fall short of their goals, increasing the stress level in their lives.

No compromise.

Sticking to an investment discipline is more often successful in achieving portfolio gains than jumping around looking for the next “hot” idea.  Going on vacation and forgetting the market sometimes produces a better result than a week of constant trading.

Everyone feels the pressure of trying to perform.  It appears, though, that the “experts” have bungled the assignment altogether.  Fiscal policy, boardroom decisions, computer programs, global politics, and exogenous influences have conjoined to produce a less efficient combination than at any time in market history.  These inefficiencies therefore create greater discomfort for the investment community.

It used to be an anomaly for the market to lose 4% of its value.  Last week, it happened at least twice…in one day!!  It is no longer an aberration that the market gyrates at this magnitude.  Moreover, its frequency is increasing, as well.  It is no wonder that investors might abandon the undertaking altogether.  And they have.

Others rush into gold, cotton, real estate, anything to provide temporary, but quick, relief.  That is not a strategy or methodology, despite what your best friend (the stock market genius) might tell you.  It is fear, greed, and selfishness at its worst.  It is the other end of the investment spectrum.  It is like a valium for the distressed mind.

The markets are likely to continue along with manic progression for awhile.  Fears about job security, real estate and portfolio valuation, and a global economy in ruins are sufficient to sustain a guesswork paradigm that could affect portfolios severely.

While I won’t suggest we turn off the computers and study our hunches more profoundly at the library, I might offer that man is a more potent weapon than a machine, and less likely to need a re-boot at the worst possible moment.