As we approach knocking on the door of the new year, we reflect that what sometimes precedes the year end is often an indicator of what follows after the page turns. While the broad averages flirt repetitively with new highs, the make-up of those landmark breakthroughs really are not necessarily a mirror image of what's occurring in the economy, but simply pretence, taking you and your money for a glorious ride devoid of any real meaning...other than to increase or decrease with extreme volatility your brokerage and 401-k valuations. The last three days of last week were 200 point Dow Jones "E ticket rides"!! Along those lines, I would caution that 2015 cannot reasonably be a carbon copy of this year's upside achievements.....or 2013 for that matter.
Why? Well, the simple answer is that the obvious
divergences and disconnects between the stock market and the global economy are
too wide to sustain one, the other, or both for any duration. While
I continue to support the view that the long term prospects for equity
performance and economic growth are good, the stresses being placed on both by
their performance in this post-recovery phase are vast.
The
market continues to curry favor with investors simply by refusing to succumb to
the weight of its own advance. And yet,
relative strength quotients....a measure of duration and acceleration of
current trends.... have been sustaining at unreasonably high levels, setting up
an inverse probability of direction.
While it is far more sexy to respond to "trend" rather
than "objective data", we have to be able to distinguish between a
mirage and a building, and to know the difference between the two.
Anyone
who still believes that 20%-plus equity returns are the norm, not an
aberration, is fooling himself.
"Yes,
but everyone is winning and benefitting from the rally. It's indelible",
the proponents say.
Indeed,
that is exactly how we should have felt during the recovery rally. My client's portfolios have prospered in the
last year, the last two years, and the past several decades thanks to a
discipline of prudent asset allocation and sector rotation. The difference in philosophy, however, is
that we attempt not to
be swept down by the unforeseen capitulations of exogenous mania. And for the most part, we have not.
The
art of portfolio management, versus oblique stock-picking, is to manage trends
unemotionally and objectively, and to perform in all economic climates to
achieve positive alpha throughout. Draw downs are not a viable option when
seeking portfolio equilibrium for the long-term, and in many cases too
disastrous from which to recover.
Despite
the fact that global equity valuations and cycle stochastics remain extended,
we favor equities as an appropriate vehicle to achieve portfolio capital gains
for the next year. We are not caught up
in the definition of "bullish"
or "bearish"
because every sector has an appropriate
role to play in our overall asset allocation process. I consider the distribution and weighting of
those sector allocations to be more significant to portfolio performance than
any particular winners or losers we might own.
That having been said, note how many (or few) equities actually are
leading the rally during the recovery. A
shallow breadth to be sure.
Critical
After
we dig below the surface of what we know and what is obvious, the popular,
easiest notion is not always a direct route to portfolio success. Most indicators are suggesting implicitly
that 2015 might not measure up to the past two years' recovery pace. If we do see improvements in the economy, I
suspect that they will come slower than we hope, and actually look more like
historical norms in terms of rate and magnitude.
The
financial markets should complement those improvements in the economy with performance
of their own...if we, as investors, can
only come to understand the importance of realistic timelines and expectations,
and stop trying to hit "the home run" every time.
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