I'm just a squirrel looking for a nut.
Actually, I figure at some point managing your savings becomes fairly important and a record of my thoughts just seems like a good way to keep myself honest. It's easy to only give yourself credit for correct ideas.
I've sold what I'm going to sell for the year and am 31% invested at this point. I bought a car, have a bond fund for the first time and am going to ride out the rest of the year as is. I could actually use a break from thinking about this for a while.
Here's where I stand:
So ... I was all set to make a big mortgage payment and starting thinking ... what if the market goes down 2,000 points and I can't buy any of it? (I'm a sucker for a bargain, you know.) So I've resolved to do the following:
I've got $30k that is just sitting around in cash; this was going to be my first big mortgage payment. Instead of paying now, I'm waiting until the end of the year. That will cost me $540 in tax-deductable mortgage interest. That seems small. If the Dow goes down to 9100, that's going back in the market instead of toward the mortgage. So I'm effectively paying $540 for a put that could be worth several thousand. That seems reasonable.
If the Dow goes down to 8,100 I'm selling the bonds and putting that back in the market. There's about $50k of that.
The real question is whether I want any of that to happen or not.
I thought that the middle of the year would be a good point to stop and take stock of what has happened so far. I have kept really good records of my choices and compared all of them to the return I would have had by investing in the S&P 500 from Vanguard (VFINX). I just record the price I would have paid for VFINX and determine which choices win and lose, including dividends. I have not included any cash or company stock (we have weird stock that doesn’t really fit in this discussion) so any “market timing” gains or losses are not included. I’m simply talking about my stock/bond choices and whether they win or loose vs the S&P. In other words, how am I at picking stocks?
5 years ago I would have laughed in your face if you would have told me you invested in individual stocks. (Why are you doing that? Because you hate money?) I didn’t think anyone could beat the market. 4 years ago I finally diverged from the S&P to buy an international index fund (I know, kooky talk!) Then 3 years ago I finally started picking sectors, ETFs, and even a couple individual stocks. At one point I didn’t own a single dollar of the S&P which means I went from 100% S&P to 0% S&P in the course of about 2 years. One of my thoughts at the beginning of this year was to get back into the S&P which I did to some extent. That’s been the right choice to this point out at least compared to the other investments I was in. So it’s interesting that I’ve unintentionally started to come full circle.
Anyway, let’s start with high-level summary. Keep in mind all of my comments are vs. the S&P unless otherwise noted.
I beat or tied (+/- 1%) the S&P in 9 out of 10 quarters. If you feel like like stopping here and sending me your money you may want to read on. In the quarter that I did not beat the S&P, my choices cost me $18k, turning the disastrous QIV08 into an absolute abortion. S&P was down something like 25%; I was down a truly painful 35%. The most I’ve even been “up” in aggregate was about $22k and the most I’ve ever been “down” was about $14k.
So, I find this amazing, but after 10 quarters of gnashing my teeth, listening to banker calls, and begging my company Treasury reps for the pension analysis reports, I’m down $730 vs the S&P. About .002%. In other words, I’m dead even. I could maybe get away with saying there is a moral victory in there somewhere since the fees I’ve paid are more than the $730 but people would also rightly say that fees are part of the equation. It would also probably be accurate to say that I’m a loser when considering taxes (the buying and selling is not as tax efficient as just holding the S&P, or at least I would imagine).
But the point is, I’ve tried pretty darn hard for several years now and have broken exactly even. My conclusion is that I’ve chosen riskier than the S&P, so when the market goes up, I go up a little more, and vice versa. None of my choices are utilities or P&G, what fun would that be? Instead, I’ve got energy funds and Singapore ETFs (in other words, high Beta choices)
So, here’s a rundown of all my choices and how they’ve fared. All figures are lifetime, not just 2010. And a little commentary regarding where I screwed up or not.
I currently own:
Large Growth (VIGRX) International (VGTSX) Emerging Markets (VEIEX) Singapore ETF ((EWS) Agriculture ETF (MOO) POT (POT) Gold ETF (GLD) Total Bond Fund (VBMFX)
Everyone keeps saying that the large, quality companies are due to take off because the small caps have had a spectacular decade. I’m up $1,700 on the pick (VIGRX) but am basically still waiting for that to happen.
International, Emerging, and Singapore have done well also, I’m up about $4,300 combined. I sold half of my Emerging Markets earlier this year; that was a good move.
MOO and POT are my “the world is getting hungrier every day” play which has not worked. I’m down $2,200 which is a lot for the small investment I’ve made in them. I’m still really surprised these haven’t worked out.
I’ve had GLD for a while now, wish I had a lot more. I’m up $1,600 on a small investment. That’s probably my best pick so far, except for …
…the Total Bond Fund (VBMFX) that I bought in April of this year at almost the exact equity peak of the year. Booyah! I sold International and other stuff and bought this. A great lucky call, netting me $5,500 in about 60 days.
Some losers that I’ve sold:
International Growth (VWIGX) – This fund just stinks. It got creamed by the International Index and I lost about $2,600.
Brazil ETF (EWZ) – Bad, bad timing on this one. Bought it right before the ’08 crash and it crashed at triple speed. $3,500 loss.
REITs (VGSIX) – Same as above. I bought this on the advice of some genius banker on a conference call. $1,700 loss.
Banks ETF (VFH) – Thought I could time the turnaround, didn’t have the stomach for it, sold too early. $500 loss. At one point I emailed my buddy asking him how Bank of America’s market cap could be $100M less than it’s book value. He didn’t know and I didn’t do anything about it. Then their stock tripled from the date of the email.
DBA & DBC (Commodities) – Long ago thought inflation was coming and commodities were the way to get some protection. Bad move - $3,000 loss.
Shorting Treasuries (TBT) Whoops. That's got to be the play at some point, right? Not yet. $3,300 loss last year.
Energy (VGENX) – This was a good choice, netting about $3,000. I sold it earlier this year as part of my “market timing” experiment.
So what did I learn from all this? I think more than anything else, stay away from the conventional wisdom. At the 2007/2008 peak I bought into the REIT talk and the Brazil talk. A couple areas that had done very well to that point and it was easy to believe the story.
Basically, you probably have to learn your ideas from somewhere but it can’t be the same ideas that everyone already knows. If you don't have a unique point of view your willing to bet on, it's a fools errand. It’s a fine line I guess.
Lastly, you have to really stop and think who is telling you the story. TV guys and banks are basically always selling the Bull story to try to get you to execute the next buy trade. The Internet guys are mainly selling doom and gloom ("but if you subscribe to our newsletter we'll tell you how bad it's going to get and what canned goods are the best to have!") So you have to take both points of view with a grain of salt. There are some good ideas coming from both but you have to filter the noise.
So, what's going to happen? It still feels to me like we are in the middle of a massive experiment in the US. A banking crisis that we export to the rest of the world. A housing market hanging from a cliff held up by government institutions (Fannie, Freddy, FHA) that are incompetent at best while also being fundamentally, structurally heading for failure and liquidation unless an endless supply of US Government funds continues to be provided. Over-leveraging by public and private sectors both before and after the crisis.
But instead of our currency crashing, giving us the chance to export some goods and even everything out, we are the least ugly dog at the dance and our debt become more popular than ever. But as some smart guy once said, "If something can't continue forever, it will stop." So this will stop too. But what happens then and in the meantime?
The knee-jerk reaction of many is that inflation is coming in a big way. Maybe that's true. But I have to think that the moment the Treasury even starts to think about flooding the market (by issuing to the Fed?) with massive amounts of Treasuries, the market will anticipate the carnage, sending rates up significantly. Both the Treasury and the Fed know that, and neither want that, in a really big way.
I bet they tiptoe around their offices not wanting to do ANYTHING that would spook the bond market and ruin their 3% interest rates on TRILLIONS of dollars. Isn't how you would feel in their spot? Adding to their fear, if that happened, consumer credit would collapse. People can't afford 5% mortgages, want to try 12% and see how that works out? No one could afford anything, and prices would collapse.
Also, a big difference with the US as compared to say Japan, is that so much of our interest on Treasuries is payable overseas. So as interest rates go up, more and more dollars leave the US. One more way the money supply falls.
So, I have to believe the government is much more likely to just try to wait this out and suffer through years of a low growth, deflationary environment while we try to pay down this debt. Only if the economy gets to a devastating point will the Government finally just start passing out money because that's the only option they have. Then I think you are talking about the end of currency and hyperinflation. But that couldn't happen in my view for at least another 5-10 years.
So, what's a girl to do? I think you hunker down and enjoy the low prices if you are in a position to do so. If you have a bunch of debt, you're not going to enjoy anything. If you have a bunch of debt and no job I think you are in for a lot of pain. Don't get suckered into levering up to buy a house or car at LOW LOW! interest rates; if you can't pay cash, you can't afford it.
My paranoia is picking up speed. I took another historically radical step last night - selling my Vanguard Energy fund (VGENX) in its entirety - $35k or so. It's down this year from the BP fiasco but is overall a winner, netting about $3,000 over what the S&P would have given me in the same period.
I'm going to use the proceeds to pay down my mortgage, which seems a little nutty at 3.25% but I figure the rate (it's an ARM) is going up sooner rather than later. I'll be down to about 30% "in" the market (well, I guess that will maybe not be right after I throw it at my mortgage) but it's safe to say my exposure to the market is going to be really low. I've also got some capital gains protection from previous years losses; the $8k capital gain should be tax-free.
I just did something I've never done before: pay extra on my mortgage. I've got a little extra cash in my checking account and just don't have anywhere I want to put it. I'm scared of stocks, investing in bonds seems crazy when rates can't go any lower, and cash earns you nothing. The idea seems a little silly though, my mortgage is crazy low (3.25% on an ARM I got in 2003) and on top of that you of course get the tax deduction.
I guess I would say that right now, I'm actually perfectly happy "locking in" a 3.25% return but wonder how long it will be before I want the use of those funds to invest and can't get them back. But on the other hand, how long will it be until that ARM skyrockets when the USA debt party is over? Maybe not long.
The next thing to worry about is the 2011 tax increases that are coming. I have to think this can't help but influence the thought process of entrepreneurs out there. Income taxes, dividend taxes, capital gains taxes, partnership taxes, and estate taxes are all scheduled to go up at the beginning of 2011.
You don't think there is a whole army of 60 year old guys running small businesses that figure that's a good reason to hang it up? I do. And they control a big part of the economy and GDP growth (99% of all businesses and employers of more than half of the total workforce). I suspect that discretionary deals and business from 2011 are going to be rushed into this year's business at the expense of next's. It's cash for clunkers for small business leaders! Pull next year's business into this year and worry about next year later. Or never.
For the opposite effect, we can look at the way Reagan's tax cuts affected GDP when he slashed tax rates across the board. Here is a chart of year over year changes in real GDP starting in 1980.
Anyone care to guess what quarter they took effect? You nailed it - QI83.
People will argue that inflation was finally being tamed (the chart is real GDP though) and we were coming out of recession, etc. And they would be right. But I don't think there is any way to argue that this doesn't at least tell the story that taxes matter and that they influence behavior. And that means a certain number of business owners are about to decide that dealing with employees, the economy, and the maze of other problems is just not worth it in the face of reduced income in 2011. It's just a matter of how many.
I think the phrase I'm looking for is double dip.
6/11/10 edit: here's Arthur Laffer's video on the subject.
This guy is starting to get to me. He's been right an awful lot and predicting some pretty bad stuff.
This is just one of many clips; he's all over You Tube.
Many of the clips are the same, he simply thinks the US is in for a world of hurt. It all sounds like a lot of crackpot nonsense until you look at his track record. I guess I ultimately think he's going too far but it's a little scary.
I don't know how the state of banking and mortgages doesn't get more negative press. It makes me feel like I'm not getting what's going on. Fannie and Freddie are endless pits of incompetence and are simply engaging in a financial model that does not work. And THEY are propping up the entire banking industry since the overwhelming majority of the collateral that the banks are counting on is houses. And no one even talks about FHA which has actually been originating more loans that Fannie and Freddie. The entire market is on life support, sustained by the Federal government. Period.
Add to that the fact that it's getting cool to tell your bank to go eff itself by simply ceasing to send in the monthly mortgage payment since you are under water anyway. It takes them a year to finally notice and kick you out, meanwhile you've saved $15,000 in mortgage payments and you move into an apartment. Anyone out there else feel like a total sucker for paying in full?
And also this little gem. These are heavy resets of mortgage rates in 2010 and 2011. Maybe it's no big deal because reset rates are going to be pretty low but it's another piece of tinder in the forest.
I stumbled across this other day; it's Robert Shiller's (of Shiller housing index fame) bubble checklist. Each bullet is better than the last. Seriously, how do we not realize these when we're smack dab in the middle of one of them?
Sharp increases in the price of an asset like real estate or dot-com shares
Great public excitement about said increases
An accompanying media frenzy
Stories of people earning a lot of money, causing envy among people who aren’t
Growing interest in the asset class among the general public
“New era” theories to justify unprecedented price increases
A decline in lending standards
Is that spot-on or what? Here's the original article.
At what point do you buy some shares of British Petroleum? Their little ditty has wiped out 25% of their Market Cap ($60B). They're clearly on the hook for cleanup and some big fines but could that be anywhere near $60B?
With a P/E of 7 (Exxon is 14) it sure it tempting. Barron's calls it a "deep value" play, which made me laugh out loud but got me thinking about it. I already own some of this as part of my Vanguard Energy fund (VGENX) but maybe I could stomach a little more?
The "con" side of the argument is that the whole world is thinking about this so could there truly be any undiscovered value here? I guess not. Any gain I suppose would basically be from buying risk. This stock is probably one step away from the craps table at this point.
Finished this book this afternoon, is an amazing compilation of financial disasters over time going back 800 years. It focuses largely on country (debt) crises, where countries essentially become insolvent. It's amazing how many of these have happened over the years and no one is immune (hello, USA!).
Not surprisingly (perhaps by definition?) crises are caused by buildup of debt during decent times either by being naive (USA, 2002-2007) or simply a desire by those less well-off to keep eating. Then the inevitable downturn comes and the government can't believe it happened to them ("we thought it was different this time!")
The book is long, here are the highlights that I absorbed:
Countries regularly grow out of the inflation associated with emerging markets. All emerging markets have high inflation (USA in the late 1700s was some of the worst of all time, over 100% a year for a few years). But no country has yet to grow out of the banking crisis cycle! Once you start to have them, they repeat and repeat. And they do not discriminate; they affect rich and poor countries alike. Government debt typically doubles following the banking crisis and is an order of magnitude larger than any bailout that needs to happen. Not surprisingly, bank-fueled recessions are the worst kind, in both severity and longevity.
We thought that we were different in many ways. Greenspan argued repeatedly that everything was fine because we had new financial innovations that tended to make prior risky ventures (loans for those who previously couldn't get them, etc.) ok now, because new financial products shifted risk appropriately and were a new tool at our disposal. Banking leaders essentially argued the same thing and used these ideas to justify bonuses for themselves and their employees.
Many warned of the impending disaster. Although I am not a fan, Paul Krugman argued that we were about to have a Wile E. Coyote moment. Others argued similarly.
Perhaps ironically, the most interesting part of the book for me was the description of perhaps what IS different with our crisis. Our exchange rates should have plummeted and interest rates should have soared. But actually, the opposite happened. Although we may have exported crisis to the rest of the world, everyone still viewed the US as the safest place to be. Our interest rates actually went down and the dollar strengthened to some extent. Pretty unusual.
One other thing that struck me in reading some of the warnings put forth years ago by those smart enough to see this coming was that they knew something was very wrong but they did not anticipate how it would play out. Krugman thought it would be the end of the dollar and low interest rates, Peter Schiff thought inflation would skyrocket. Maybe it's all still coming. It strikes me as yet another version of "the market will punish the most people it can" in the sense that even the conventional wisdom of an unforseen crisis is wrong.
I've been thinking a lot about the market lately. It really seems like we are at some kind of a turning point. I still tend to believe that we are headed for an environment of deleveraging and deflation and think the inflation nuts have it wrong, at least at this point. I've largely sold out of the market (I'm only 42% "In" at this point, very low for me) but am also of course worried that at 4,000 points below the last high, this might simply be a nice time to buy and get back in as the normal cyclical rise inevitably happens.
I sold about 25% of my portfolio in April and am feeling pretty smart about the 1,000 point drop in the last month or so. I'm sure it's just lucky, but whatever.
I bought a bunch of bonds and was concerned by Robert Prechter's prognosis about bonds being the biggest bubble of all but think maybe it's ok for now.
There's also a lot of back and forth on gold out there, and I own some which seems to be in conflict with my deflationary views. I'll probably keep that as well, I don't want to start trading every 10 minutes. It almost seems like having some gold makes sense simply because fewer and fewer people have trust in paper currencies every day. So I'm basically thinking that there will be less and less paper money out there (after deflation) but people STILL won't want it and are drifting toward gold.
Me and two buddies organized a lunch in January to talk about our investing ideas. I would love to be really good at this although though deep down I still believe beating the S&P500 is a fools errand. So it's just fun I guess, and I probably have too much time on my hands. I am down about 1% lifetime (vs. the S&P) at this point, which is pretty damn close to the fees I've probably paid! Interesting. My "master thesis" that any success I had in the past was picking risky stocks that did well when the market was up and not so well on the way down. That's basically what happened so far.
Anyway, here are the ideas I proposed at the time and I will probably update this post from time to time. We'll see how it goes.
Idea #1 - Sell Emerging Markets I had almost 10% in Emerging Markets (VEIEX) and sold that down to 5%. Emerging Markets were one of the three main ETF inflows in 2009, I figure it's time to get out. That's at odds with Jeremy Grantham who thinks this will be the bubble to end all bubbles (page 4 of the link). So far so good on this one, the S&P is a little ahead of VEIEX.
Idea #2 - Rebalance International & Domestic I was 2-to-1 International to Domestic and have almost reversed that. I'm 18% Domestic and 14% International currently. So far, that has been the right move as well.
Idea #3 - Tilt toward small cap stocks This would have been a great idea, too bad I didn't do it. Small caps have taken off like a rocket ship this year as evidenced by Vanguard's Small Cap vs Large Cap Indexes. Small caps have simply crushed other stocks for years and years, maybe it's just that easy? Don't know.
Idea #4 - Japan? This would be a contrary play for sure, but how badly beaten down is Japan? Their market has to recover at some point, right? I didn't do this one either, and the Japan ETF (EWJ) is neck and neck with the S&P YTD.
That's it. In general I'm pretty scared. Interest rates that can only go up, leverage, demographics, mortgage resets, politics, it all seems bad. AND everyone seems bullish! I don't get it.
At a conference last week I had the opportunity to listen to our company's economist whose views are entirely contrary to mine. I have heard a similar story from others (it seems to represent the conventional wisdom) and I'm just not buying it. I'll do him a dramatic disservice by boiling his points down to bullet points, but here they are:
Recovery for the next 2-3 years
Moderately painful inflation starting in a couple years
Depression in 2030 (due to declining demographics)
Let me address his last point first. I'm a big believer in demographics; I can't believe the concept doesn't get more attention. Hasn't everything that happened over the last 50 years attributable to the Baby Boomers? Didn't Japan go straight in the crapper when their Boomers retired?
US births peaked from 1945-1960 and the economy grinds to a halt and prices skyrocket in the 70s and 80s as they emerge on the workscene as kids and we have to train them but they start buying stuff and incurring debt. They are a pure drag on the economy just like babysitting 25 year olds in your company. Result: the economy suffers just like your company would.
Then they mature 10-20 years later as they take their careers seriously, have to start taking care of their kids, etc. and the economy explodes while ushering in an incredible technology boom. Then they think about retiring and the country finally realizes it likes the idea of "free" healthcare? Seriously, isn't it all about them?
So isn't the party about to end as they retire? The 1945 guys turn 65 this year and are starting to retire although the market turndown will of course slow down the process. I'm worried enough to attempt my first effort at market timing this year, selling down to 43% invested after being all-in (and sometimes leveraged!) for my entire investing career. So recovery according to our economist? I think we've already seen it (Dow is currently 11,000) If there is more, I have to think it's going to be short-lived. I'm "out" for now. Have fun folks, good luck.
Last, the inflation thing. Yes, governments are printing money. The stimulus package was $800B. I think we actually spent half of that. But isn't the massive deleveraging of the WORLD going to more than offset that and send us into DEflation? I think so. And don't forget that the market likes to punish the majority whenever it can. All those with debt (which is all of us) will HATE deflation, as we struggle under the same debt while our assets and paychecks shrink. I think we're way more like Japan than Zimbabwe.
So, I'm at odds with our resident genius. Probably not smart; we'll see what happens.
