JR Snell Capital Management, LLC

I’m usually hesitant to employ sports analogies in my musings as they can sometimes be tiring and clichéd. But, the tempered exuberance springing from the recent stock market run-up has me thinking of a slumping homerun hitter who suddenly redeems himself and his team with a bases-clearing dinger, and the fans, who had been ruthlessly cursing him, once again cling to the fleeting moment as proof (or, more accurately, hope) that all is well again.  Is this a baseball moment for investors?

When the stock market surges, as it finally did in the 4^th quarter, one can imaginatively correlate it to the scene of a cheering crowd springing to its feet as it watches the home run ball sail over the fence. That is, if there was even a crowd there to see it.  It’s likely that most of the fans, disheartened by the poor performance of their team over the season, just stayed home, which was largely the case when the stock market began its run up in September.  Most investors didn’t get into the game until the rally was well underway.

Cut to the player who, day in and day out, manages to find a way to get on base, drawing walks, spraying singles to all fields, and occasionally powering one to the outfield.  If he gets on base four or five times out of ten, he creates more opportunities to score runs than the long ball hitter who can’t find the ball 75% of the time.  This is not to diminish the importance of the long ball; we all need one occasionally to help us win a game.  But, if you’re not getting on base enough, you’re not creating enough opportunities to score.

History has shown that hitters or teams that rely upon a long ball strategy have a much more difficult time in overcoming slumps. They must continue to use the high-risk tactic of swinging for the fences in order to catch up in a game or in the standings.  Interestingly, no team since the year 2000 has ever led the league in homeruns and won the World Series.

We employ an “on base” strategy in our portfolio management that seeks to get runners on base and then find a way to score runs.  It involves waiting patiently at the plate for the right pitch that we can convert to singles with disciplined, high percentage swings.  While we do hit one out of the park occasionally, it’s our on base strategy that has kept us in the game in good and bad markets, scoring runs for our clients, and winning more than we lose.

I’ve beaten this baseball analogy to death, and promise no more, at least for awhile. The baseline point to be made here is that it’s much easier to control the game and score runs with a multi-dimensional strategy than simply swinging for the fences.

If you want to contact me to discuss your on base investment strategy, I promise not to bring up baseball.

We’ve had this running conversation about Treasury bonds for a little over a year now, as we suggested here in late November 2009 that you might want to get involved in Treasuries for a portion of your account.

We didn’t really broadcast our spring Treasury buying spree (we have to keep some things “client only”), but our clients saw it in their accounts… and this has been the last time (March – April 2010) that we did any serious accumulation of Treasury bonds in client accounts.

In my late August post, we suggested that if you are “following along” you might want to consider moving out of the longer-term treasuries.  We didn’t really offer up the mechanics of why we were suggesting this, we just offered up that we were liquidating Treasury positions in client accounts.

Although we’re not purposely contrarian in our investment style, our way of thinking typically puts us at odds with the mainstream. Apparently, many in the media are seeing an end to a multi-year bond run as of the past few weeks.

Bonds have been a major magnet for new money over the past two years – until last month. According to the Investment Company Institute (ICI), the weekly net new cash flow to the bond market eclipsed stocks for two years, until the two weeks ending November 23.

Click to enlarge

Paradoxically, to us it’s beginning to look interesting again!

I don’t know what the rest of the financial press has been looking at (maybe nothing?), but the chart to the left is what we’ve been watching for the past couple of years.

Just so you know where we’re coming from.

fed, investing strategies, Market Comments, market timing, treasuries, treasury

Yesterday, I had a client mention to me that I had “been busy” lately… which is code for “making his portfolio a lot of money recently”.

Since we don’t believe in the old-school “buy-and-hope” investment strategy (see “How Investing Got Broken”), we tend to sit around for a while (usually in cash) waiting for opportunities… and then we strike and sometimes make a whole year’s worth of returns in a few months… which is a little bit of what happened recently.

In it’s simplest form, asset allocation for most people means that they hold varying percentages of different asset classes all the time. The theory is that when one asset class performs poorly the other asset class will be performing well… thereby smoothing out the bumps… and unfortunately, guaranteeing mediocrity.

Our approach is a little different (see “How We’re Fixing It”) because we prefer to sit on the sidelines until the time seems reasonable to make a move. We don’t feel like we have to be doing something for the sake of keeping busy or pretending that “busy-ness” is the same as profitability.

In an off-the-cuff moment to my client, I equated our management style to that of a hyena stalking prey. We sit in the grass off of the side of the path watching and waiting for an easy opportunity to pass by. We are conserving energy (capital) while we wait so that we will have the energy (capital) to pounce immediately when opportunity presents itself.

There can be long periods of solitude followed by intense periods of feasting, but there is also relatively little risk to the hyena’s life. And this fits our style nicely, thank you.

buy and hope, cash, investing strategies, safety, strategy, timing

When I sit down with clients (or clients to be) we talk about “bubbles” at some point in our series of conversations. I usually recommend a book called “Extraordinary Popular Delusions and the Madness of Crowds”.

It’s a tough read for a couple of reasons… it’s very thick (over 700 pages) and it’s written in the style that folks used back in 1841. For me, it takes a lot of concentration to read and comprehend just because the style is so foreign to our contemporary way.

Nonetheless, it’s an important book and details a number of historical speculative bubbles. By recommending and discussing the book for clients, I am leaving a couple of messages… First, it’s human nature and second, it’s nothing new.

The NY Times has now recently published an article that demonstrates that there is a chemical reaction that occurs in our brains that makes us “feel good” when prices are running up speculatively.

But according to the article, while dopamine is flowing freely and generously for most of the run-up, the dopamine STOPS firing as we hit the more “bubble” phase of the run-up (the last phase).

The chemical changes might be that “little voice” or a general feeling of uneasiness about overall conditions. But, because of what’s called the “Country Club Effect”, nearly everyone ignores “the little voice” much to their later chagrin.

Many times successful investing seems to be having the ability to heed the warnings of that “little voice” instead of allowing your rational mind to convince you otherwise.

Now it seems that there’s a rational explanation for why the smart decision sometimes appears to be the irrational decision. Hmmm, interesting.

interest rates, investing strategies, Market Comments, market timing, s&p 500, treasuries, treasury

For months and months (or maybe even a year) I’ve been banging on the table about how I expect that a decent portion of account returns for 2010 might just come from long-term (20+ years) government bonds.

I anticipate that US Treasury securities will continue to be our baseline method providing the ability to persevere for the next who-knows-how-long.

and…

I would expect that between positioning in and out of Treasuries as appropriate and positioning in and out of equities as appropriate, our clients will continue to persevere… and quite possibly prosper.

You can read these quotes in context here. You can also review some of my other musings about the long US Treasury Bond “opportunity” here and here.

This is how we felt about long-term treasuries last year at Thanksgiving, from our post called, “Picking at Your Turkey”:

Following this premise, it wouldn’t hurt to accumulate some longer treasuries… like in the 20 year (give or take 5) range. I hear people whining about only getting 4.20% on a 20 year treasury… but I think if a person accepts what might be the ”new normal”… 4.20% might not look that bad, in hindsight.

We’re not married to holding on to the things for 20 years though. If we were presented with some outsized gains on our treasuries over the next year or two, we wouldn’t be afraid to take the profits and find a new home for the proceeds.

We are in line with mainstream thought in that we believe that bonds as an asset class (and specifically long-term government bonds) might be a good thing to have in your portfolio at most times. However, we depart from the mainstream because we do not statically allocate a portion of a clients’ portfolio to bonds and then hang on for hell or high water. Radically, we believe that there might be times when it is not a good time to make new purchases of the “long bond”.

And in a further logical departure from current financial dogma, we believe that there are even a few times where it’s in our best interest to actually sell them out of our accounts completely.

NOW WOULD BE ONE OF THOSE TIMES.

buy and hope, interest rates, investing strategies, Market Comments, market timing, timing, treasuries, treasury

I usually write a letter to clients that we include with the quarterly performance reports that all clients receive. I believe, in light of recent market movements that this quarter’s letter might be of interest to a broader range of folks. Please contact us if you have any questions or you wish to begin our free Roadmap Analysis to see if you’re on track to meet your financial goals.

Dear Client,

To say that the last three months have been dramatic is to REALLY say something because it comes on the heels of a heart-stopping stock market selloff followed by a mind-bending reaction rally… the likes of which haven’t been seen since Herbert Hoover was in office.

And who could forget that that it has been only about a decade since the stock market last showed us it’s “teeth”? It’s certainly been an era to feel like one could easily get “bitten” as an investor.

Of course recently, just at the point that it feels like we deserve to have some stock and bond market stability, we are again subjected to the kind of volatility extremes that have been cropping up more and more often the last few years. Have we been shown that we’re only living in the “eye of the financial storm” at the moment?

The first quarter of 2010 seemed to come and go quietly as we moved toward ever higher highs. I jotted a web site update in mid-May as I noted that I was feeling a certain level of complacency creeping back in to investor’s attitudes about the markets. Since then I’ve also been reminded by a client of a web site update from February of 2009 in which I wrote the following…

At present, I’m thinking that we’re probably looking at some serious deflation for a while and then a very muted, long term half recovery that could stretch out to a decade or so.

This leads me to a place where cash is king at the moment for most of our money.

Fortunately, these things usually unveil in slow motion. So slow in fact that people begin to dismiss their earlier premises and question their previous conclusions even though they are probably still correct.

Could it be just that simple? Could it be that many investors have dismissed their earlier correct assumptions because it is all taking so long? Is this “thing” so massive and lumbering that it can only unfold in “slow motion”?

During the second quarter, the buzz suddenly became about sovereign debt, which we’ve known for a while was going to become a problem one day soon. It appears that “one day soon” might be nearer than we thought and the market has been asking the question, “If the rescuers need rescuing, who is left to bail out whom?”

The tacit assumption has long been that China will provide some base level of support for the balance of the world via overwhelming demand for everything in the face of an otherwise global economic slowdown. However, there’s been recent chatter about a growing housing bubble in China and speculation that this might just be “the other shoe” to drop on an otherwise fragile global economy, bringing Round Two of the Global Financial Crisis with it.

But it hasn’t been just the stock and the bond markets that have been particularly quarrelsome the past few years. It’s been downright difficult, if not treacherous being an investor in any arena. For instance, real estate did something that it has never done before: It decreased in value. Conventional wisdom had it that despite the leverage routinely used by real estate investors, it was still considered a “safe” investment because real estate prices have never, ever gone down… not even during the Great Depression. The only safe bet now is that investors will never look at real estate investments the same way again.

Other types of investments have all experienced similar difficulties: Private loans, small business loans, real estate loans and partnerships, even previously assumed long time successes such as Bernie Madoff and a host of other Ponzi-schemers that have all been discovered to be “swimming naked” the moment the money tide went out.

So, while the financial turmoil of the past couple of years wipes out or changes much of the world’s conventional wisdom, it also performs a “cleansing” that presents new opportunities with new players in a new financial landscape.

All of the turmoil of the past few years will one day pass and the opportunities will be there for those of us who refuse to focus on the past. We need to keep our focus on keeping our minds open to the new and different opportunities that most certainly will present themselves in the future… while persevering through the “creative destruction” that we find ourselves in the midst of today.

Our Current Outlook

Bill Gross of PIMCO (Pacific Investment Management Co) speaks of an economic era that we are entering that he is calling the “new normal”. In recent papers he has been going into great detail as to the justification behind his theory, but basically “new normal” means an extended period of sub-par growth throughout world economies.

A favorite theory being embraced by what I believe might be the majority of investors is this theory that some day in the not too distant future we will be wrestling with some significant inflation pressures… possibly even a stagflation situation (stagnant economy, rising prices).

Over the past year or so, I’ve been inclined to side with those that anticipate inflation, but now I am beginning to modify my view of our future world. I’m beginning to consider the possibility that our current Keynesian monetary policy of flooding the economy with money MAY NOT lead to inflationary pressures. After watching unemployment not respond to unprecedented government spending, and housing not respond to historically low interest rates, I’m starting to see the US economy and perhaps the world economy as a “leaky bucket”: We continue to pour more and more into the bucket, but it is leaking out just as quickly (or even more quickly).

What is the “leak” in the bucket? I believe the “leak” is the process of deleveraging… up and down the line… from the smallest of consumers struggling to pay off their JC Penney charge card all the way up to the nation of Greece struggling to pay down their country’s debt.

Until the world deleverages, nations can pour as much money as they want into their respective economies and still not see net economic gains. They can throw it toward bailing out the banks, or homeowners, or other countries. At the end of the day it is just moving it from one side of someone’s balance sheet to the other side of someone else’s balance sheet.

The only solution is time. We need time as individuals and as nations to deleverage ourselves. I’ve expressed my thoughts to many of you that our financial issues are “generational”… meaning that it will take a generation for them to work themselves through. For example, our exit from the housing crisis could come as a result of enough people walking away from their mortgages… but it will only transfer the debt to the bank and then to the government as the bank is again bailed out and then ultimately on to you and me in the form of higher taxes or an extended slow-growth economy. Another way to exit the housing crisis is to wait for enough people to have paid down enough of their mortgages to again be “above water” allowing normalcy to return to the housing market. I’m assuming it is to be a combination of both… but the end result is the same: It will take time. This is my version of Bill Gross’s “new normal”.

While one set of opportunities has been winding down for the last few years, a new set of opportunities has yet to reveal itself. This leaves us in a bit of a “no man’s land” in the investment landscape. But again, to simply persevere and avoid chasing “old” opportunities will insure our ability to take advantage of our as yet unseen future.

Specifically

I anticipate that US Treasury securities will continue to be our baseline method providing the ability to persevere for the next who-knows-how-long. I believe that part of the new normal involves some moderate level of deflation for the foreseeable future, allowing your purchasing power to increase even without any real investment returns.

I expect that we will continue to see extended and significant moves up and down in the stock markets… probably quite similar to what we experienced between the end of 2007, down to the March of 2009 lows and then up to the April of 2010 highs. Our opportunities in the stock market will come by accepting that there is a disconnect between the stock market and the economy and by taking advantage of the volatility that we are sure to experience because of it.

Although the market may show little to no net increase over the next decade or two, I would expect that between positioning in and out of Treasuries as appropriate and positioning in and out of equities as appropriate, our clients will continue to persevere… and quite possibly prosper.

As always, I am honored to be your guide through these historical times. Please feel free to call or email if you have any questions or need any assistance.

Jeff Snell

Managing Member, JR Snell Capital Management, LLC

investing, investing strategies, investments, Market Comments, strategy, timing, treasuries

If you’ve “subscribed” to get web site updates to keep one eye on the market while you do other things… this post is for you.

In my post “Market Timing for Dummies” I describe a methodology that I use to help us decide if we want to be generally in, or generally out of stocks. It’s not necessary to go into detail about the methodology of the indicator we use, as I go into it in detail here.

Click to Enlarge

Also, as a “bribe” for subscribing, you would have received a free report that describes how we use this indicator, how to calculate it and how to get it on your computer desktop for free.

If you’ve subscribed in the past and no longer have the report, please email us and we’ll send a copy. Use the Contact Us form and put in the comments that you are a subscriber to my blog and you’d like to receive a copy of the Market Timing Report.

…and if you haven’t subscribed to receive blog updates, then go here to subscribe and you’ll get a copy of the report for free.

Oh yeah… Why am I mentioning this now? Because as of Friday July 2nd, 2010, we kicked into a Bear Market according to this indicator.

Will the market crash? Will the indicator show a “false negative”? Hard to say, but rules is rules and if you’re following this indicator for some of your long term stock investments… well, it’s time to exit them for right now.

investments, Market Comments, market timing, markets, s&p 500, stocks, strategy, timing

“…random.”

Not what you were expecting?  Most folks would have finished the sentence “…not an indicator of future outcomes.” Or something similar.

It’s interesting to note that nearly every investor has been so brainwashed to this statement that they don’t really ”hear” it anymore. It’s in one ear and out the other and despite the warning, most investors and advisers demonstrate their conviction that the past performance of a mutual fund DOES matter by continuing to construct financial plans, asset allocation targets and efficient frontiers around the practice of analyzing the past to predict the future.

Actually, past performance may say something about the future of a mutual fund, but not in the way one would expect. A recent Standard & Poor’s research paper titled, “Does Past Performance Matter?” points out that the bottom quartile of mutual funds by performance are consistently the most likely to go out of business, be shut down, or be bought up and merged. Logically, I can understand this. Since investors continue to focus on past performance when a fund performs poorly they are more likely to extract their money from that fund. When a fund’s outflows drain it to a certain point, it is no longer profitable to keep running the fund. Close it, sell it, merge it.

What about the best of the rest?  Here are some facts from S&P’s recent report:

1. 1.7% of large-cap funds, 2.2% of mid-cap funds, and 4.6% of small-cap funds maintained a top-half ranking over five consecutive 12-month periods. Random expectations would suggest a rate of 6.25%.
2. 18.5% of large-cap funds with a top quartile ranking over the five years ending March 2005 maintained a top quartile ranking over the next five years. Only 12.7% of mid-cap funds and 25.0% of small-cap funds maintained a top quartile performance over the same period. Random expectations would suggest a repeat rate of 25%.

The report looks at a number of different time frames and durations and IN EVERY EXAMPLE one would have achieved better investment results by randomly selecting a mutual fund.

If you turn this analysis around, the conclusion is that selecting a mutual fund to invest in by researching and ranking historical returns will actually encourage a less successful investment experience going forward than simply throwing a dart.

We’ve always avoided mutual funds for our clients because of the costs of them, now we have another reason.

buy and hope, investing strategies, investments, strategy

The latest market meltdown has gotten folks asking me about our performance as compared to the stock market (again). But I’ve always thought a little differently about comparing our management of client accounts against various indices. (The industry calls this “benchmarking”.)

I find it interesting that investors would want to compare whole portfolio returns to the stock market. It’s funny how consumers of financial products maintain this decision bias by wanting to compare all returns “against the market” to decide if they’re getting good advice or not.

I don’t think investors are necessarily to blame for this bias… I think our industry might have brainwashed people to think this way. After being subjected to the stream of advertisements on TV and in magazines comparing “this fund” and “that fund” against the market, what can we expect investors to do when looking for intelligent ways to discern between copius financial choices?

To get market returns… or a reasonable comparison between what you’re doing versus what the market has done, you have to accept “market risk”. Yet, what I know from innumerable conversations with real people who have real concerns, investors do not want to accept “market risk” for the entirety of their investments.

I think a better “benchmark” to judge portfolio performance would be to compare your performance to what you set out to do. I call this “Personal Benchmarking”. Once you’ve released your portfolio from the chains of relative performance and embraced the concept of absolute performance (Personal Benchmarking) all investment decisions become significantly easier to make and to manage.

If you’ve planned that you’ll need a certain average annual rate of return to make your retirement work, what relevance is the stock market to you personally? It’s one of the hardest concepts to get your head around… but it’s worth it when you do… kind of Zen-like if you will.

So, we try to use the stock market as simply a tool to help us to reach your objectives. To do this, we have to first define your objectives, then we have to have the courage to “walk away” from the market when necessary and to exploit it when possible. (Hint: Get this report.)

If you REALLY think about doing things this way, you are naturally going to under perform when the market is “hot” and “risky”… and you’re going to outperform (sometimes significantly) when the market craters. But then again, who cares? The goal isn’t to “beat the market”, the goal is to continue on a track to meet your personal objectives?

beginner, investing, investing strategies, investments, market timing, rules, strategy, timing

For those of you wondering, I’m still here and still active. There are a few reasons that I haven’t written a lot here recently and a few reasons why I am ready to be a little more active poster these days.

Ahh priorities… Clients always get first whack at my time. I might be on the more  “public” tasks of preparing annual reports, quarterly reports, talking to accountants, compiling year-end numbers, or working on each client’s annual Roadmap planning updates.

Or, I might be on the more “in house” tasks of balancing or rebalancing client accounts, analyzing stock positions, considering stock positions, research, trading into or out of something that I like or don’t like, etc.

These two priorities have kept me pretty busy… end of year and most recently end of quarter stuff… But, I’ve also been busy with my second course of action, which is helping new people to become new clients. Since I really take my time with their stuff and all new clients go through the process of figuring out where they are and where they want to be, this can take a lot of time.

After all of this, comes time for blatant self promotion and article-writing… which includes sitting back (a little… not enough to tip over my chair) and observing the world of the markets with a fresh enough eye to comment on them.

While I have had some difficulties getting far enough down the list to get pen to paper (figuratively, of course), there’s the OTHER reason: Any pearl of wisdom starts with a grain of sand that aggravates enough to impel one to action.

Frankly, every time that I look back to my late November post, I observe that what I recommend is what I’m still doing… this is what I’m still thinking… this is how I’m still positioning client accounts. And you know what? The market is still where it was when I wrote the post in November, about 1100 on the S&P 500.

So what’s changed? What’s the “sand in my mussel”?

Complacency. I can feel it creeping in again. I feel it when I talk to clients and prospects and I even feel it in my casual conversations. It is just these times that the general public seems to get a wake up call. Are you going to answer it?

Market Comments, s&p 500, safety, stocks, strategy