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I love it when folks ask me these questions and the conversation that ensues. The talks are always fun and interesting because, in general, most investors and their advisors often put the cart before the horse when determining investment strategies. They’re seeking tactics without first formulating an objective.
So, my standard reply to these questions is, “Overall, what are you trying to accomplish with this pile of money?”
I started asking this question way back in 1999, and it’s been a game-changer. Once you figure out what you want to achieve with your money in order to accomplish your long-term goals, the next question to tackle is the way to go about doing it.
My clients know what they want to do with their money, the timeframe they’re working with, and the amount of downside risk they’re comfortable with. In other words, they know when to say, “I have had enough, get me out!”
So, what’s your investment strategy?
I utilize several strategies that are all are tactical in nature. They’re 100 percent rules-based and don’t involve emotion. I arrived at these strategies by accident. In my early years of investing, I basically tried everything, eventually landing on a tried-and-true method of “Point and Figure” charting.
If you’re trying to be tactical with your investing -- meaning you’re trying to decide how much or how little you’ll be invested in the market -- and you attempt to do it based on something like earnings, well then you may have a problem. See, generally accepted accounting procedures (GAAP) standards have changed over the years. GAAP standards are the commonly followed accounting rules used in financial reporting.
Comparisons are difficult utilizing this method. When earnings are “A,” stock valuations should be “B.” For example, if a stock is earning $2 per share and trading at $20, then the price-to-earnings (P/E) multiple is 10. We also use this with the whole stock market. But, why would the market multiple today be the same as it was in the 1970s and 1980s? People say the bear market of the 1970s ended in 1982 when the market traded at 10 times earnings or a multiple of 10. So, this is where the market needs to get to for there to be a bottom in the market.
Nope, sorry. The reason is the make-up of the Standard and Poor’s 500 (S&P 500) in the early 1980s was predominately large industrial companies. So, by definition, those companies have a lower P/E multiple. They are very high cost of capital, dirty businesses with huge employee costs.
Should those issues be valued the same way we value technology companies like Facebook and Amazon today? Those companies, both high-margin, low-capital businesses, make up more than 20 percent of the S&P 500 today. Technology is a high-multiple business (close to a 20) versus, say, a copper smelter business at 10.
So, you can’t really invest based on valuation because valuation is not a static concept; it’s ever-evolving.
This is just one of hundreds of investment strategy examples. Some investors rely on economic data. But, growth has been near 1 percent and the market has skyrocketed. Some use analyst recommendations. But, that didn’t work. Remember the dot-com crash of 2000?
Some use Wall Street strategist targets. Not very reliable. Some use correlations. Nope. In 2008, everything tanked. Fed Minutes? I remember the Greenspan brief case indicator. That also failed. Seasonal Cycles? No good!
All of these are strategies that have changed over time, as society evolved. And, they certainly don’t last forever. I don’t understand how someone can build and manage a portfolio based on a foundation of shifting sand.
I’ve brushed aside a lot of investment concepts in my long career. Not because they were irrelevant, not because they didn’t work. I passed them up because they simply didn’t work reliably enough to generate consistent buy and sell signals.
At the end of the day, the only concept left is, “What is the market doing?” That’s it. There’s nothing else. By the way, this concept is not really a great foundation on which to base buy and sell decisions. But it’s the only strategy reliable enough that the input doesn’t change. It’s based solely on prices.
So my investment strategy is evidence-based. And the evidence says that markets in a downtrend tend to continue to trend lower, so it’s probably not a good idea to be fully invested when this occurs. Markets that are in an uptrend tend to continue to trend higher, so it’s probably a good idea to be fully invested when this occurs.
You’ve got to consider that trends change, then figure out how you want to deal with a changing trend. To begin, you don’t want to be too sensitive or emotional because you’ll be trading every five minutes, and that just doesn’t work.
I like to tell people that I don’t run a hedge fund, I run a wealth management firm. I’m a fiduciary. I require a decision point that is consistent over time and doesn’t have me buying and selling every time there is a hiccup or correction in the market.
Therefore, I use Point and Figure technical analysis. I believe it’s the most valuable tool available to provide insight in the stock market. At the end of the day, price is the primary way to analyze the markets.
So, the only question that really matters is, “What is the price?” Studying and understanding how other people are looking at price is the primary way to look at the markets. This is not to say that looking at valuations, news or other concepts is not valuable. But, if what we’re principally concerned with is price, then why wouldn’t we start and end with the study of price?