Cigarettes and soda pop

Serendipity is a beautiful thing. The recent sell-off in the technology sector made for a perfect demonstration of why seemingly arcane subjects like the capitalization weighting of stocks within exchange traded funds matters. There have been a couple of days lately where S&P 500 indexed funds – which contain the exact same stocks, but in different proportions – saw their performance bifurcated. Meaning, one ETF went up, while others declined. All this is explained in the post below this one.

So, now we’re going to talk about an adjustment in sector allocations that I made about a month ago inside a couple of IRAs. First, I am not suggesting you make this shift in your personal accounts. Second, please note that one reason for making these changes was purely emotional.

For me, one of the more confusing designations is the distinction between Consumer Staples versus Consumer Discretionary. A comparison of these two sectors using Vanguard ETFs helps explain the good and bad of augmenting a pure S&P 500 ETF with additional holdings. VCR is a consumer discretionary EFT with 374 individual stocks, though the top 10 holdings comprise 50% of the total valuation. VDC is a consumer staples ETF with 107 stocks and the top 10 holdings representing a whopping 60% of the fund.

My confusion revolves mostly around why any individual stock is considered a “staple” as opposed to a “discretionary” choice that consumers can make. For VDC (staples) the largest position at 10% of the fund is Proctor & Gamble (PG). With 65 consumer brands, twenty-one that each generate over $1-billion in annual sales, most folks probably need something from their product lines (laundry, baby care, feminine care, and grooming). But the other four stocks in the top five holdings, comprising a third of the entire fund, are either tobacco companies or soft drink manufacturers. How cigarettes and sodas can be classified as “consumer staples” elude me completely. An additional holding is Molson Coors Brewing. While beer strikes me as a perfectly acceptable daily requirement, it is safe to assume most people would disagree.

For VCR (discretionary) the largest holding is Amazon, weighing in at 12% and Home Depot a distant second at 6% of the fund. That Home Depot provides more products necessary for day-to-day living, as a home owner or a renter, than a brewery or cigarette vendor seems to be stating the obvious. Another top five holding is Disney (DIS) and lots of people like cartoons, Star Wars and theme parks.

Now, a quick interlude focused on the S&P 500, the favorite proxy for U.S. equities here at Invest-Notes. The stocks included in the S&P are, mostly, the largest and most respected companies in the U.S. However, smaller companies tend to outperform large cap(italization) stocks over time. But as a group smaller cap stocks tend to be more volatile, and hence riskier for individual investors. Sector funds can provide exposure to smaller companies while increasing exposure to the core holdings of pure S&P funds.

In May I sold all of the VDC funds in two IRAs and redeployed the proceeds into VCR. Here is a quick summary of the reasons that drove this decision. Understand that this list gives the conclusions of my thinking, not the information that underpins these statements.

  • Diversification is better achieved since VCR has over 370 stocks and VDC only 107
  • Individual equities in VCR are more appealing based on current consumer trends, like the shift toward online purchases (Amazon), increasing home ownership (Home Depot) and a preference for experiences over stuff (Disney)
  • Personally, I don’t want to own businesses that hurt their customers – tobacco and soft drinks
  • As for beer, I’ve been a longtime owner of Heineken stock and will remain so
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Hitting the reset button

Apologies for the delay in delivering this post. Frankly, I’ve been struggling a bit with what to do about Invest-Notes. Not for the first time my enthusiasm around writing articles has waned. And if I’m not excited about what’s being written it is unlikely readers will be excited about they are reading. October will mark ten years that I’ve penned this blog and while I debated about winding the site down, I’d honestly rather not.

The first time I struggled with “what to do different” a decision was made to not force an article every Sunday – as I did for the first few years. This change was well received by readers. The second time, a couple of years ago after my personal portfolio had migrated to exchange traded funds, I determined not to focus on stock picking but discuss the philosophy of investing. This change hasn’t worked out as well.

So thanks to my friend, and long-time Invest-Notes reader, Rick who over a glass (or two) of wine recently asked the question that originally jump-started this enterprise a decade ago, “But what should I do with my portfolio?” Valuations are high by historical standards and the world a more confusing place on so many levels. Yet we know that a major impact on our future financial status is driven by the money we have invested in both taxable and retirement accounts. Yes, the market mayhem of the dot-com bubble in 2000 and the financial crisis of 2008 represent the painful side of investing. Nonetheless those who have stayed the course – and stayed invested – have profited handsomely. Nobody ever said it was going to be easy.

In answer to Rick’s query I shared a couple of equity purchases and sales in my own accounts over the last few weeks. These included ideas for my retirement accounts, but mostly my gambling account. Long term moves for the former, short term plays for the latter (and much smaller account). The original justification for moving away from providing specific trade advice was the discomfort of talking about investment ideas that I personally never followed through on. Going forward the plan is to only talk about specific actions I have taken within the investment accounts I am responsible for. And since I don’t really trade that often, we’ll also spend some time talking about the decision making processes that lead to what account adjustments are shared here.

Which brings Invest-Notes full circle. Originally I wanted to ensure that I could explain to myself what I was doing and why. This, in turn, allowed family and friends to have access to investment ideas beyond the popular press – for better or worse. You have been warned.

Now we’re coming up to the end of the first half of 2017. It has been a very profitable ride in most market sectors and the BIG question is can it continue. While I can’t answer that question, there’s a couple of ways to think about what to do next if, like me, you make quarterly purchases in retirement accounts.

So far in 2017 just ten stocks account for almost 50% of the gains in the S&P 500. Now, the S&P is “cap weighted” meaning that the more valuable a company is, the bigger proportion it occupies within the index. For example, Apple (AAPL) is the biggest company on earth, so it receives the largest “weighting” of the 500 stocks in the index. Currently, AAPL is over 3.5% of the total of the index. By contrast, Exxon is 1.5% of the index and Home Depot is less than 1%. If the index was not “cap weighted” then no stock would comprise more than 0.25% of index value. This simply means that when AAPL goes up or down it has a much bigger impact on the value of the index than other stocks. This is reflected in the price of S&P 500 exchange traded funds like VOO and SPY, two of the largest ETFs available.

To sum up the paragraph above, the top four holdings in the S&P 500 index are Apple, Microsoft, Amazon and Facebook. These four stocks account for 10% of the total value of the entire index. The S&P is up around 9% year-to-date, while the Dow Jones Index is only up about 7%. But then the DJI does not include Amazon or Facebook, both up about 35% so far this year. Now, at some point, the rocket ride will end. Maybe these four stocks simply quit shooting higher, or maybe they peak and their stock prices drop? Either way the impact on the S&P will be to deliver an underperformance with an outsized impact on the entire index.

Around the end of June, or first part of July, I’ll make an addition to my holdings of S&P 500 index funds in retirement accounts. That addition will be the Guggenheim S&P 500 Equal Weight ETF (RSP) where none of the 500 stocks makes up more than 0.25% of the total index value. When, not if, a market correction occurs, the high-flyers tend to fall furthest. Twenty-five percent of my retirement accounts are in VOO and RSP. While VOO is my largest single holding, RSP is quickly catching up.

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Through a glass, darkly

Recently accused of seeing the glass half-empty instead of half-full, I replied that the analogy was not a good one for the issue at hand. I couldn’t even find the glass being discussed and so really had no insight as to the contents. Similarly, the newest breed of ETFs (Exchange Traded Funds) have begun to look a lot like the mutual funds, and even hedge funds, they were supposed to replace. It isn’t that any particular ETF is good or bad, the question needs to be what is in the ETF.

We’re big fans of ETFs at Invest-Notes, and have been for several years. Yet what they originally were versus what many are becoming is a concern to be aware of. In a nutshell, an ETF is a portfolio of (usually) equities that matches a common benchmark. The most well-known example is the Dow Jones Index, a collection of the forty biggest and most recognizable companies in the United States. Another major index is the S&P 500 (the preferred proxy for the overall market here at Invest-Notes), which includes most of the Dow components and another 350, or so, companies meeting requirements about market capitalization and share price. The single biggest ETF is also one of the first, SPY, which mirrors the S&P 500 index.

So, it should be pretty straight forward. You purchase an ETF that holds the same stocks that are in the index. Because the fees for these funds are typically a fraction of the cost of similarly structured mutual funds, they provide a better return (or less loss of capital in down markets). Since equity markets have a long history of going up more than they go down over time (up 60% of the time, down 40%), investors see improved returns. Ideally, an investor decides where they are most comfortable – and suitably diversified – making regular contributions over time.

But there are now a lot of ETFs without indexes, holding low quality bonds, physical gold (bullion and coins) as well as foreign stocks and bonds from other countries. This helps explain the recent news about troubles at some new ETFs that invest in very small companies, assets that can be hard to sell, or even other tightly focused ETFs.

One particular story revolves around gold-focused ETFs finding it hard to invest all the money that had been pouring in as gold caught a bid this spring. Some funds were buying physical gold, but also small gold mining stocks and even other ETFs also holding the same assets. Needless to say, all the folks rushing into gold ETFs as they went up have recently tried to get out as the price moves the other way. This in turn has caused some serious gyrations in the market. Can a glass be half full of itself?

Now we have a simple idea – low cost funds tied to recognized benchmarks – being made more and more complex in order to attract buyers as well as providing excuses for additional layers of fees. And, much like the manipulation of home mortgages by investment banks that became gasoline fueling the financial meltdown of 2008-2009, there are now ETFs that have gone bad. Caveat emptor, indeed.

Yet there are a couple of simple solution. ETFs are not stocks to be bought and sold – they are intended to be long term holdings that increase wealth over time. Forget the idea of market timing in the ETF arena and avoid jumping on the hot play of the day. Both my kids both started IRAs last fall and asked for suggestions on how to get started. Again, I recommended keeping it simple:

An S&P 500 ETF – VOO (though I prefer RSP) = 50%

An all-world fund with no U.S. stocks – VUE = 25%

A small cap fund to counter-balance the large cap stocks that dominate the S&P – VBR = 25%

Last year a three-part series giving the history of ETFs and how they work was posted here on Invest-Notes. For those wanting more information:

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Heaven is not the day after tomorrow

During a recent conversation with fellow board members of a not-for-profit organization the topic of “unrealized” gains came up while reviewing financial statements. In discussing how this number (a big unrealized gain in 2016) was mostly irrelevant to our operating budget, it was interesting to see the different responses. It occurred to me that this topic is relevant to individual investors and complimentary to the last Invest-Notes post on calculating investment returns. When is a profit or a loss not really either one?

An unfortunately common story heard from investment managers is about the tendency for people to panic during market drops. The problem is multifaceted with otherwise sober investors suddenly trying to time the market, taking losses on stocks, giving up dividend income and often generating unnecessary tax bills. And when the panic ends? How to determine when to start purchasing equities again, yet another opportunity for market timing – an activity long demonstrated to be harmful for your portfolio.

Now this is not to say that an investor should never sell, just that any decision to make changes in the holdings of an IRA or other investment accounts should be done deliberately and with intention. Not during a time of emotional and financial stress. As the Boys from Bespoke pointed out recently (, highly recommended) eight years after the market crash of 2008-2009 only 16 of the stocks that were in the S&P 500 at that time are down. In contrast, 39 stocks in the S&P have seen gains of 1,000%, or more, over the same period.

So let’s do a thought experiment today. We’re going to look at a gold coin (let’s make it a one-ounce Gold American Eagle) and ten shares of Apple stock (AAPL). Let’s assume that these assets are in a retirement account that is unlikely to see any withdrawals for another decade. Today that gold coin is worth about $1,250, and the ten AAPL shares around $1,400. Now for the fun…

In 2015 that gold coin was worth $1,000, and in 2012 it was worth about $1,700. It is the same coin and has never been removed from the safe deposit box since 2006 when you originally purchased it. With a current value of $1,200, have you made $200 or lost $500? Yes, a trick question, since you paid $600 in 2006. Same with AAPL; in 2015 the shares were valued at about $1,000 and in 2012 they were worth $750. But in 2006 you paid $150 – yes, one hundred and fifty dollars for ten shares.

Until you sell an asset it is only worth whatever anyone will pay for it. Gold has demonstrated an ability over very, very long periods of time to be an asset that holds it value. Consider that Benjamin Franklin wrote that in his lifetime an ounce of gold would buy a very nice suit. And a bespoke suit can be had today for $1,250. As for AAPL, well, the first iPhone was sold in 2007 spurring a revolution in communication that led AAPL to become the most valuable company on the planet. But whether a share costs $12 or $140, it still represents only a miniscule ownership of a publicly held company, and a stake you have absolutely no control over in terms of pricing.

Successful investing is almost always a result of critical thinking (don’t panic as markets move dramatically up or down) and patience (it’s a marathon, not a sprint). Heaven is not the day after tomorrow.

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Don’t kid yourself

A note arrived from a long time Invest-Notes reader claiming bragging rights for having an IRA that did much better than the S&P 500 in 2016. His plan, he explained, was to begin spending more time “managing” his investments since he had “cracked the code” on “beating the markets.” When pressed to explain his methodology for calculating the return earned on his IRA he replied simply, “I took the account value on January 1 of this year and subtracted the account value from the previous January 1.”

There is much to laude in this this narrative. Making regular contributions to retirement accounts and monitoring the performance of these accounts are things we should all be doing. None the less, my spidey-senses were tingling and I pressed for a bit more detail. Did he make the maximum contribution in 2016 ($6,500 for those of us over a certain age)? Yes, and he was just sorry not to have made the contribution earlier in the year. Had dividends been included in the calculations? They had not, but this just proved that the returns were even better than originally calculated. How much trading occurred during 2016 in this account? Clearly not enough considering how well those few trades played out.

According to the Employee Benefit Research Institute the average IRA balance for someone around 55 years old is about $100,000. A late start in saving for the future meant this particular account was below average. But just how much money is needed for retirement? There is a simple calculation in the terrific new book, Right Away and All At Once by Greg Brennenman, that everyone should know about. Calculate what your annual income after you leave the workforce will need to be to maintain your current lifestyle. And don’t kid yourself, there’s not going to be any big decrease in your spending level.

Assume a 5% annual return on your savings – again, don’t kid yourself – and the calculation is straight forward. So if you want to have $160,000 in annual income, you need $3.2 million dollars in your IRA (or whatever savings vehicles you have). You can use whatever number you want, this is just the example in the book. Which also provides the wise counsel, “It is not lost on me that the average household income in the United States is less than $160,000 per year; we all tend to want more than we have. Happiness always seems to be right around the corner.”

It turns out that when calculating the returns on his IRA, this investor included the $6,500 contribution as a return on investments, which it was not. Meaning around 7% of the calculated returns came from his annual contribution. In fact, the S&P earned north of 11% last year and in this case, the actual return on his IRA investments mildly underperformed the S&P. Yet this story does have a happy ending.

First, more things are going right than wrong. His annual IRA contribution for 2017 has already been made and the decision to begin doing more trading in the account has been shelved. Additionally, an effort will be made to set aside some additional savings towards retirement. Second, a healthy dose of reality is good. We all want to be above average, which is a tough goal to reach statistically. The whole point of investment vehicles like indexed exchange traded funds is that average is not a bad thing for most investors. We also tend to overlook account fees and transaction costs, which have an outsized effect on smaller investment accounts.

Finally, and perhaps most importantly, this investor didn’t blame the messenger. We had a constructive conversation and he plans to continue as an Invest-Notes reader. My thanks go to all of you readers for making these kinds of interactions possible.

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Who are those guys?

Butch Cassidy and the Sundance Kid marveled (in the movie at least) at the tenacity of the paid posse of characters tracking them relentlessly for reward money. Perhaps an indication of the mind-set separating guys looking for a quick hit (Butch and the Kid) and those willing to doggedly pursue a profit (bounty hunters).

The source of this musing was a note from the Boys at Bespoke (highly recommended, talking about current trends in the sentiment of investment newsletter writers. An interesting group and one generally viewed a bit warily here at Invest-Notes. There are a few grizzled veterans held in high esteem, folks like Ned Davis and Barry Ritholtz, because they focus on providing context. They help us think about stuff often not found on our personal radar due to both bias and ignorance. They don’t tell us what to do, they teach us how to think.

At the opposite extreme are pundits who focus on the stock du jour. My favorite example is the guy who provided a list of “Ten Stocks to Hold Forever.” His newsletter was aggressively priced, but as I was often told by subscribers he was an entertaining writer and his reasoning seemed pretty good. But it left me wondering; if I only need ten stocks and I’m done, what do I need a monthly newsletter for? Worse, each year featured a new set of “Ten Stocks to Hold Forever” and how is that supposed work? Add ten new stocks every year, or replace your forever stocks annually? Is this guy the criminal or the posse?

I have no hard data to back up this claim, but I’ll make it anyway. Most newsletter writers likely make their money from subscriptions fees, not from the results of their stock picking. To support this idea let’s go back to the Bespoke Report. On a graph overlaying the sentiment found in newsletters with the performance of the S&P 500 starting in 2002 displays little to inspire confidence. This sentiment measurement comes from a weekly survey by Investors Intelligence where the spread between the number of bears (negative on stocks) is subtracted from the number of bulls (positive on stock ownership).

Combine this with a necessity to continually come up with new investment ideas – to keep people reading and renewing their subscriptions – and there is little evidence that any investment strategy based on continual turnover of a portfolio is going to provide value over time. In many ways this concept has the sound of a do-it-yourself mutual fund where the investor gets to churn his account instead of an advisor.

In many cases the best to be said is that the majority of newsletters shared with me by Invest-Notes readers (usually to solicit an opinion on stocks being suggested) is the selections tend to be smaller, and often obscure, equities not much covered by the Wall Street crowd. Though it was Bolivia, a smaller and generally obscure, recommendation about where to go next that lead Butch and Sundance to a regrettable ending.

Another view:

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Got to be a mystic man

There is absolutely no evidence that reggae musician Peter Tosh was an equities enthusiast. Yet it is not impossible that he gave the subject some thought. This idea formed serendipitously after an event that occurred outside of my Invest-Notes bubble when I became re-acquaintance with the title cut from Tosh’s 1979 album, Mystic Man, which I have not heard in many years. Don’t laugh, think about it:

  • I’m a man of the past
  • And I’m living in the present
  • And I’m walking in the future

Okay, now a quick primer on investment strategies, made without judgment (it was Ned Davis, after all, who pointed out that it isn’t the strategy that matters, but the discipline to consistently implement one). The past would be folks like chartists, people who look to past performance, and the way equities have responded previously in similar situations, to create a context for future performance.

The present would be bottom-up analysts – a hedge fund type of thing – where painfully in-depth reviews of K-1’s, financial statements and engagement with current management are combined with analysis of industry performance and sales/distribution channel measurements; in other words, a laser focus on the here and now. Yet regardless of where you land within this spectrum, everyone is trying to figure out how to plan for the future.

So, while listening to Peter Tosh I was reading the third installment of the annual Barron’s investment roundtable when this line from one of the participants glowed on the page, “We expect it to trade for 20 times our 2018 estimate of $6.50 a share; the fiscal year ends Oct. 1. That implies 20% upside. The downside is $100 a share, or maybe $95.” A quick comparison of the 2016 results of this same group revealed the only person who did not have a money-losing investment idea was the owner of this quote. It was notable how few other recommendations even mentioned a downside; let alone what it might be.

The case was made for what could cause this stock to see an increase in earnings, an increase in its valuation (the price-to-earnings ratio) and what potential benefit accrues if these assumptions are correct. This is the standard narrative; why a stock is going up, and how much you could make. What caught my attention was the reasoning behind the downside projection. A well-run company, with a long history of delivering shareholder value (a consistently profitable enterprise through many economic environments) that does not face any obvious headwinds. In other words, in the event of an overly optimistic scenario for the future, the stock should muddle through – and remain profitable while delivering a consistently increasing dividend.

A review of some of the other Barron’s roundtable picks from 2016 showed several companies where the upside was expected to come from major surgery, which either didn’t occur, or after which the patient did not improve and often got worse. In retrospect, this feels more like speculating than investing. The chance and magnitude of potential loss matters, a lot.

The lesson here is to first understand the downside risk, which is more important than creating a dreamy view of an unknown future. As Warren Buffett has suggested, you don’t buy companies with problems to fix but businesses doing just fine that have opportunities for improvement. And just maybe, by starting with a view of past performance, then comparing and contrasting the most current performance and financial information is the most reasonable way to step comfortably into the future when looking at individual equities.

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Bombs away, dream babies

Somewhere between Wonderland and Through the Looking-Glass, Alice called us all out when she confessed, “I give myself very good advice, but I very seldom follow it.” Which of us has not had to admit the same in the face of a self-inflicted bit of financial folly? And today, as the world seems to spin around us with the confused fury of a storm at sea, how can we keep our path true? I offer up an observation for your consideration.

The term “Madness of Crowds” originally entered my vocabulary as a teenager when I read – admittedly somewhat fitfully – Charles MacKay’s Extraordinary Popular Delusions and the Madness of Crowds, first published in 1841. Though much of the book is now long forgotten, the chapters describing a history of financial bubbles remains often quoted by really smart guys like Michael Lewis. To quickly summarize the substance of MacKay’s idea with a quote from the book, “Men, it has been well said, think in herds; it will be seen that they go mad in herds, while they only recover their senses slowly, and one by one.”

Though MacKay discusses the Dutch Tulip Mania of the 1630’s and Mississippi Company Bubble of the 1720’s, we need only look back to the DotCom crash of 2000 and the subprime chaos of 2008 for a personal and up-close look at our own propensity to become part of a crowd that ultimately gets roughed-up financially. Yet there is another way to consider this tendency as it occurs in a less visible but equally damaging way.

This current bull market, starting in 2009 – now the second longest run on record – was missed by many who clung to the notion that the future would look like the immediate past, a very common bias we all suffer from to varying degrees. As measured by the American Association of Individual Investors (AAII), while markets have doggedly moved up to all time record highs, the percentage of their members with a bullish sentiment has been under 50% for 108 weeks. So it is not necessarily that we suffer a financial loss from following the crowd, but that we lose opportunity.

Probably worth noting that in 1845, four years after MacKay published his book on the madness of crowds, he had the following to say about what would become known as the British Railway Mania, “There is no reason whatever to fear a crash.” He was wrong. Later editions of his book include a section about the Railway Mania crowd that he ultimately joined. Go ask Alice, indeed.

Finally, this week’s issue of Barron’s includes a letter to the editor noting that many of the pundits who rallied against a Trump presidency are now beneficiaries of the post-election rally. Specifically, according to Bob Barcell from Fort Collins, CO, “By my reckoning, over half of Barron’s top 50 bullish picks for 2016 owe better than half of their gains to the Trump Bump. Outside of Gotham, it is nothing short of sidesplitting to watch you breaking your collective arms patting yourselves on the back for the results of the thing you railed against, told us couldn’t happen, and swore we would regret if it did.”

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Something to think about

When you finally make the transition from individual stocks and traditional mutual funds to exchange-traded funds (ETF) as the bulk of your investment portfolio, the next step is to start thinking about asset allocation. While it is perfectly reasonable to expect that a handful of ETFs could be sufficient to ensure a solid long term return, it isn’t so much fun if you’ve ever enjoyed “playing the markets” over the years. So the chance to add a little alpha, if you are so inclined, is still possible. Even with an ETF portfolio.

As an example of how this works, let’s propose we become socially responsible investors. No, seriously, in one way or another, we all tend to embrace some investments and shun others for motives more emotional than logical. As noted here at Invest-Notes previously, tobacco stocks are eschewed. This is not a particularly smart decision; over the last five years Reynolds American (RAI) has doubled in price while offering a dividend north of 3%. But something just doesn’t feel right about profiting from a company whose primary product is cancer. Then again, as a long time owner of Heineken (HEINY), the same could be said about a company whose business is selling alcohol – and their five-year return isn’t nearly as compelling.

Okay, so you have an S&P 500 ETF, a couple of others offering international exposure and maybe even a bond fund (don’t laugh, think about it). Yet within the S&P are eleven clearly defined sector groups such as health care, energy, consumer staples and the new kid on the block, real estate investment trusts (REIT). Since the associated sector funds can move independently from the overall direction of the market (and the S&P 500), there can be opportunities to increase dividend yields, bargain hunt among sectors or lower volatility.

Here are two ways to think about framing your search criteria for investment options. First, consider the example above; no tobacco stocks. A decision is made to exclude an industry (or sector) based on personal preferences, not expected performance. A compelling example, despite your feelings about Islam, are the several U.S. mutual funds boasting impressive track records that look to sharia law to determine what stocks to exclude from their portfolio, such as alcohol and traditional banking stocks (because, loan interest = usury).

A second option is to include sector funds – or individual stocks – because they bring added value to your portfolio. The most obvious application is adding a sector fund that has recently underperformed. This is not unlike rebalancing, where on a regular basis winners are pared as losers are added, benefiting from reversion to the mean over time (while not personally a fan of this technique, it remains a viable option for inactive investors in retirement accounts). Another option is to include an individual equity for providing a meaningful dividend. I have some REITs and old fashion blue chip stocks for this role.

If you are less inclined to pick and choose, a variation of this idea is to split your regular investment in a core fund to 75/25, with 75% going to your core holding and 25% going to one of the sectors currently underperforming. Again, this is a way to harness the potential of mean reversion over time.

Yet regardless of whether you choose to hold a small group of well diversified ETFs that you purchase regularly over time, or take a flyer – regularly or occasionally – on a couple of additional holdings with a potential to provide value, your decisions should be made thoughtfully, and in keeping with your overall investment goals.

What, you have no investment plan? Ignore all of the above and get to basics.

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Back to Basics

In response to my musings on the Index of Revolutionary Potential, “Karcher’s college roommate” has asked what I plan on doing about it. Fair enough, Bruce.

First, I’ll be making the maximum contribution to our IRAs in January. Rather than wait until the beginning of the following year (ah, the folly of youth) to make our annual contributions, it should be taken care of first thing in a new year. And with traditional IRAs we also get the deduction against earned income. The reasoning here is simple; the longer your money has a chance to be invested tax free, the better your chances of long term success in saving for those golden years (this as an option to saving for retirement).

Now this does not mean that all the funds are immediately invested. I’ll generally spread the (mostly) ETF purchases over the first couple of months of a new year. But don’t take my word for it. Take a look at a five-year chart of the S&P 500. Except for 2015, where the S&P ended the year where it started – around 2000 – the other four years saw nice returns from investments made early in the year. And of course, in 2016 the massive sell-off in Jan-Feb has been followed by massive gains into the close of the year.

More importantly, while lots of folks have anxiously waited for a big sell-off to get invested, the S&P has moved from about 1250 in January of 2012 to around 2250 as of yesterday. As we’ve discussed here many times, markets tend to go up more often than they go down – especially over meaningful periods of time. So if you want to do some “market timing” try timing your purchases to the times when you have money to invest. A smarter guy than me has some good thoughts on this topic (see Ritholtz link below).

Second, I won’t be paying much attention to the numbers on the dial. There was a lot of excitement when the S&P 500 cracked the 2000 mark for the first time back in 2014. And still, the S&P was at 2000 again this summer. Unless you are highly skilled in the alchemy of gematria, focusing on an index’s current numerical status isn’t so much help. It is more important to be aware of trends in overall market movements, where momentum can be a powerful force and not so hard to divine (see Seth Masters link below). This applies to both the main indexes like the S&P 500 and Dow Jones, but also to individual asset classes such as energy, technology or finance.

Finally, I’m going to be watching (as James Thurber put it) not back in anger nor forward in fear, but around me in wonder during January. Until there is a bit more clarity around what our incoming president will do versus what he’s said he’ll do, I’ll stick with the discipline of making those IRA contributions early in the year, but probably sit tight until February before wading back into equity markets. Which means I can spend some time thinking about asset allocation (to individual asset classes such as energy, technology or finance), another discipline that doesn’t always get the attention it deserves from individual investors.

  1. Barry Ritholtz has an interesting perspective, “I am always astonished when I hear that new market highs are a reason to avoid equities”:

  1. Solid reasoning from a reasonable investor, “But what we can say with confidence is that we will ultimately end up going through the 20,000 level more than once because there will be more volatility ahead”:

This Saturday, December 17, 2016 I’ll be featuring the music of Lee Morgan on the jazz radio show Straight Ahead, at 8:00 am (central time zone). You can stream it live via the internet at, or play it back anytime during the week by accessing the archives at

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