April 24, 2018

Three is the Number


Today the US Treasury 10yr Note traded above 3% for the first time in nearly five years. This is a significant move for two reasons. First it’s a sign that the statistical measures of inflation are being taken seriously by the markets and that for the first time in recent memory the combination of stronger economic growth and higher interest rates make welcome the growth as well of some interesting opportunities to invest in bonds. It should also be mentioned that the Fed’s ambition to unwind some of their post crisis stimulus was expected to bring on a negative reception from the interest rate markets. But as usual when markets decline they uncover hidden treats and for now what is happening is not a surprise, at least when considering the following.

The Economy
The economy is growing. It’s not that strong except when compared to the years following the financial crisis when GDP growth stagnated around 1.5%. Now it’s around 3% and when adding in inflation is decidedly a growing economy. However, in light of the confirmation suggested by todays move in interest rates the past few weeks have also seen some slowing down in inflation as suggested by the
-.01% consumer inflation (CPI) data. On other recently strong fronts the slowdown, in spite of an intact positive trend, can be seen in Housing Starts (growing but from unstable sectors) , Manufacturing (growing but in recently depressed mining and industrial production only) Retail Sales (growing but erratic due to weather and seasonal factors) and I think you get the idea. As long as this trend continues the Fed could likely remain attentive, but the markets are a different factor.

The Markets
There are a number of behaviors inherent in the stock and bond markets that can be expected in the search of value and opportunities. First and foremost is that those markets don’t need help to move outside of the investing public. The move above 3% today was the bond markets impatience with waiting for the Fed to stop talking and start raising interest rates and in the meantime stocks will weaken until the bond market figures it all out. The former important because when the Fed does tighten, the only thing for interest rates to do then is, nothing, which is good for stocks. And the latter because broad markets will have given up some value to present some compelling opportunities.

External Events
This week’s move to smooth out trade tensions is being generally overlooked in favor of more biting news. Today’s decline in the markets driven primarily by steep drops in Google (GOOGL) and Facebook (FB) that will likely be followed up by the recent establishment of a privacy council for the European Union that is predictably going hard after the two companies. Issues with the upcoming meeting between the US and North Korean leaders shouldn’t have too much impact, except putting some weight on defense stocks should a deal be struck. And the only outlier is still China who has stepped up their ambition to serve their country with their own network of companies. Sound familiar? In my opinion I still think a deal will be struck as part of a broad trade deal (maybe even a revamped, more inclusive TPP) to help both China and their largest European partners in addition to the US. Any other issue of a political nature will have as much influence on the markets as they’ve had since they began.

Gold
Or should I say Bitcoin. The curious rebound in the prices of an array of crypto currencies just at the time the US and Euro Asian broad markets are correcting is no accident. We’ve written before the potential for a leading cryptocurrencies to replace singular defensive investments such as Gold and Fine Art and it would appear to be playing out in the past week. Appearances can be misleading, so I’ll keep everyone updated.

Down the Road
The challenges of the broad markets are in my opinion the same as they’ve been since last year. The increased level of growth has, I believe, caught the Federal Reserve by surprise and pushed their agenda to include an additional rate hike in this year. Economics, as we analyzed, don’t necessarily suggest the same level of strength coming down the road. That doesn’t mean the economy will sink, or the yield curve will follow by inverting (sometimes considered a precursor to recession) it more likely suggests a period of static change, especially with so much happening on the trade front, and our entering into the spring and summer season. There is notion that it is wise to sell in May and go away for the summer. We’ve already sold a little to slow down and take in the scenery, but believe the opportunity to speed up will be on the horizon.

April 20, 2018

Because of Nothing


“Myths almost always start with a state of extreme disorder” – Rene Girard

Professor Girard introduced us to the primacy of human behaviorism, scapegoating. Today the fixation that humanity has shown in its evolution is alive and well throughout the world and as it relates to the purpose of this letter, to find the basis for the obsession that pundits and their community display with finding a reason the stock market moves on any given day. Trouble is, history, ripe with empirical evidence shows only those events, recently characterized as “Black Swan” events, think 9/11, which have a direct impact on the changes in the global equity indexes on a given day. Everything else moves in far slower motion than we are all often led to believe.

The reason to bring this up is my obsession with demystifying my industry and underscore the importance of aggregate economic, corporate and geopolitical data in the effort, not to predict the future but, to be as close as we can to being in the right place at the right time. I can be content with that posture mostly because the efforts in timing markets through the use of quantitative technical analysis or the more popular algorithmic randomization models have succeeded in convincing investors that predicting the outcome of the stock markets is close at hand. I disagree.

So where has that left me? You’ll never hear me utter the word ‘in reality”, or “the truth of the matter is” for the sole reason is I personally believe that the only thing I can be certain of is that I can’t be certain of anything. Which leaves me to rely on information that is more tangible than a forecast. For example, I talk about risk. What is it? Well, if you have cash, your only risk is spending it too fast. But if you invest that cash into Amazon stock, well, that’s altogether a different kind of risk. Can you still see it diminish, maybe? The point is that to me, risk is measurable, and at the risk of over simplification, if I invested in Apple (AAPL) or Bitcoin you would probably guess correctly which is the riskier investment. When I recently invested in Tesla, I received a few calls asking me to explain the risk. To which I answered that I held a position for clients that was big enough to help drive the sector it was in (along with Amazon (AMZN), Home Depot (HD) and Alibaba (BABA)) but small enough to be less of an impact on the portfolio as a whole, in the event it declined,

In the meantime your alternative to investing is living and working. Mine is knowing that much that is reported in the media is conjecture, in our industry the most recent being that trade war is coming so sell stocks, and is often met with stock market ambivalence. That doesn’t meant the stock market isn’t susceptible to added volatility, or even a continuation of its recent correction. But it would more likely happen because, economic data slows down, unemployment increases or interest rates move up faster than the current rate of inflation would suggest. A lot to absorb, but luckily a lot easier to for me to track as well, both historically and in the present.


April 3, 2018

An Aphorism for Tech


Are the markets really failing, or are they just trying to say something? Investing is not the same as managing stocks and assets are not companies, which run on balance sheets not words, and fed on executive management not shareholders. And when changes that have occurred since the public introduction of the internet have shaken industries to the core, none less prepared than retail nor more prepared than finance, it’s hard not to take the recent drop in tech valuation seriously but also with a little curiosity mixed in. Every description of tech companies is probably right, Facebook has been politically irresponsible, Apple is a classic capitalist pig, Microsoft is becoming the new “old” tech company and Google was first to monetize our privacy. A lot to absorb, but I admit I’m not as concerned as those who profit from fear would like us to be, but I’m also not without concern. These are volatile times and I think the stock market has simply caught up.

Facebook (FB)
It’s common for human beings to believe most sincerely in those things that also serve their personal interests. Since its inception FB has been surrounded with a contentious crowd including those as eager to exploit it as those to destroy it. Led by a man-child who up until this day continues to exhibit the adolescent mannerisms that are the earmark of the modern day billionaire.  Zuckerberg is nonetheless the face of FB and therefor is there any reason we should be surprised by anything that is being said to attack or defend the company’s values? No, and neither should we be surprised at the volatility the stock is experiencing, at least until it announces its earnings next month. In all the biggest problem facing Facebook has been discussed here before, namely that its revenue flow is based on consumer vigor, which in turn is elevated by cleverly aimed digital advertisers. If there is an economic slowdown in the future, and too much of the current volatility raises that probability, FB could find its revenue slowing as well. A current position of 1-2% is a good intermediate term play, and the recent drop is the beginning of an opportunity.

Apple (AAPL)
AAPL gave us the iPod. Some are old enough to remember listening to an AM radio with earphones, migrating to FM, to Walkman, to Discman, all the way to iPod. My point? Its originality didn’t rest in what the device could do it rested in how it did it. The move to the iPhone was then meticulously introduced and the subsequent introduction of the iPad alongside to complete a device for everybody that could do everything the previous products did and more. My other point? AAPL has a neat way of cannibalizing its older products such as IPod and even removing support of the device inside of a few years to compel users to upgrade to newer products. This kind of savvy capitalism is old school and in my opinion the behavior will increase because AAPL will unlikely come up with another brilliant idea soon and they know it. One reason why they are introducing their newest iPad, a nine inch model for $325 (cheap by Apple standards) is to target institutions of education. A noble aim, but also one likely to get crowded over the next five years as Microsoft and Google bring their own widely familiar hard/software products to the game. AAPL has sold off a lot, pays a decent dividend and will always be a good holding. A current position of 2-3% is a good long term play.

Google (GOOGL)
Google is between the proverbial rock and hard place. The company is very much beholden to advertising for the majority of its revenue, but areas that it could easily monetize such as its Android operating system for smartphones, it provides for free. No small give up for a product that was determined in 2017 to be installed on over 60% of all smartphones in use. Luckily the company does charge for many of its phone services such as Gmail and Google Maps. And while the company closed any further research on its Google Glass product, probably squandering billions of dollars, could the future of the driverless car be in doubt? A lot to absorb and a lot to risk. However the company is innovative and could bounce back in the same way as Facebook, at least it should. A current position of 1-2% is a good intermediate term play and an increase would be warranted when the sector overall looks beaten up enough.

Amazon (AMZN)
AMZN is, in my opinion, the most interesting company in history. Even as the President tweets that the company is hurting brick and mortar and the US postal service, the overreaction of the stock price ignores the introduction of email and the subsequent revisiting of a time Ford was similarly attacked when the automobile virtually ended the pre-industrial horse and carriage. While the concern for disappearing industries is no laughing matter, AMZN is a true innovative business model that hasn’t competed as much as it has stood in the way. And with its bloated balance sheet and reckless business strategy (Washington Post, Whole Foods, Zappos, etc.) what next, Electric Cars, A Sports Team? In my opinion one can carry a 2-3% position easily in AMZN for the long term, but don’t count on an announcement of dividend nor a decrease in volatility any time soon.

Microsoft (MSFT)
MSFT is a company that only occasionally steps away s from its primary business. In the same way Apple forgets that it is a hardware company before a software company, MSFT is the reverse. So when the company tries to enter the cellphone industry, they shouldn’t have and they realized it quickly. This highlights the welcome decisiveness and professionalism of the current management. All of which drive the company’s resources in continuing to build its most popular product, Office. The result has been a better performance in the recent decline, for both fundamental reasons, and also, like AAPL, because it pays a healthy dividend. The likelihood of MSFT continuing this trend is high and maintaining a current position of 2-3% for the long term is in my opinion manageable risk.

Recommended positions in the Tech sector are also based on the impact that the recent volatility could mean for prices overall. One impact of a market decline could be a pause in consumer spending. Patience is a good investment, therefore I’ll lookout for changes in consumer sentiment data, which has been very strong over the past 12 months. Other impacts are irrational actions led by a very large contingent of self-proclaimed investors who, courtesy of human nature, are inclined to sell with enthusiasm and procrastinate on buying. And lastly is the short contingent, led by tech trading and hedge funds who see an opportunity to use volatility to their advantage by exploiting the channels of media to send opinions with unsubstantiated confidence and often uncertain credibility. Oh yeah, and losses.

March 22, 2018

Facebook, the Fed and the Playground

Facebook (FB) is cheap by fundamental standards, so is Apple (AAPL), however Tesla (TSLA) and Amazon (AMZN) are the exact opposite, we own them all. A big reason FB stands apart is because the company has casually generated more than enough revenue to justify its stock price, but it has done it with equally casual and explicit disdain for the shareholder.  

Over time FB has gotten away with this dysfunctional relationship because its users (clients) placed their trust in the company as opposed to the product. Perhaps showing my age I’ve always found it curious how companies such as Google (GOOGL) and FB have avoided what has been a decades long  denigration from my generation for every product from Big Macs to Talcum Powder without actually harming McDonalds (MCD) global expansion nor Johnson & Johnson’s (JNJ) lock on beauty and heath production.

But just as potato chips are unhealthy, some also taste good. That said, FB has made some very clever acquisitions over the years which seized on an unexpected gain. Namely that different generations are migrating to different platforms such as Instagram and WhatsApp that are represented within nearly 70 companies owned outright by FB and that’s made for enormous growth in users, their data and the high stakes applications and advertisers that pay heavily to play with them. At last count the company has $37 Billion dollars in cash to plow into new acquisitions including products you can hold in your hand such as Oculus, the Virtual Reality product or marketable software in fields of Self-Generated Application Development, E-Commerce and Artificial Intelligence.  So in addition to favoring some exposure in the stock I’m also curious if the company can actually achieve what is expected of them in the long term, namely, protection of user privacy and what can be done in the near term.

The issue of privacy has wide support among the public 45 and older and defended through powerful political legitimization. The US body could very likely seek regulatory revenge in the shape of a tax, similar to the European Community attacks over tech management of privacy issues which over the past two decades has cost the group billions.

The Fed
The reason I’m discussing the Fed is because yesterday two events took place. First the new Chairman of the Federal Reserve announced that the body would be raising its targeted rates by .25%, totally expected. What wasn’t expected was the Chairman’s announcement for strong growth expectations, tight job market expectations and higher than expected inflation to exceed 2.1% and moving towards 2.9%, the historical average. All this raised the likelihood of four rate increases this year as opposed to the expected three. This combined with continued challenge of current legislation going after Chinese violations of the WTO may not mean a trade war but raises the specter of retaliation.

The Markets
In my opinion, the sharp decline in the FB stock price over the last few days has less to do with widely distributed positions of 2-4%  but more of  a cut in concentrated 5-10% (and even higher) positions held by Hedge Funds and young investors eligible for that kind of risk. All of this has served to impact the broad indexes and for now, impact appears to be more a reflection of redistribution of risk and characteristically for this kind of environment the nervousness that takes place before earning season, which begins at the end of the month. Right now I believe cash is a desirable defense and I’ll be looking for opportunities in growing cyclical sectors such as Healthcare. Likewise, we’ll maintain positions of 1-3% respectful of the volatility that the abovementioned scenarios will create and like with all positions in the tech space, for example, take some profit now and then. Every major tech stock, including beloved Apple (AAPL) has given up price for some compelling buys over the last 5 years.

March 17, 2018

Don’t Quit Your Day Job

Most of you know by now that when it comes to investing I have an infrequently used approach, namely I get excited when markets correct, rattling on about opportunity and misdirected interference, but when they go up is when I become singularly annoyed. Not just because optimism diminishes with each record day, but because when markets rally for a long time, such as the last nine years, a pesky phenomenon occurs, namely, everybody starts to think they can do it. We’re at that time now, is it time to sell?

Investing result over the last 100 years is still driven by its primary fuel, luck. Keeping clients happy and distant has been a strategy nurtured by the industrial age and borrowed from many industries. However, what’s changed in recent years, in my opinion, has been a subtle transition from ambitious yet conflicted stock brokers to using discretionary institutional methodologies of investing, the kind used to manage corporate and municipal defined benefit assets. In short, science is finally taking over art in the race of discipline over decisiveness. And when I speak of science I’m not only talking about algorithmic voodoo and its army of fans empowered by the belief in its promise to unlock the secrets of investing. I’m talking about the science of behavior, of organization and of the math based systemization of monitoring of aggregate assets to grow in good times and protect in bad times. So what does all this mean for the armchair investor?

Behavior 
Algorithm is the buzzword of this century (not bitcoin) but does anyone really understand it? In fact most people seem content to having phones, watches and laptops concerned in only what they do and rarely for how they do it. In the book "Homo Deus: A Brief History of Tomorrow" by Yuval Noah Harari, the author devotes a few chapters to his characterization of the inner workings of the brain representing a better example of a working algorithmic model. We see something, our brain takes the object and runs it through our well stocked, albeit somewhat disorganized, legacy of facts and images and, aha! We have the answer to what we see. Add to that our dispositional influences and, maybe.  It’s always been said that emotion is a disproportionate factor in the volatility of the stock markets. Recently, common behavioral traps (buy high, sell low) have found a home in behavioral science.  

Organization  
Within nature math has been applied to ideas, bringing them together with platforms to quantitatively measure their impact. However it doesn’t always work. In years past much of quantitative analysis had been used adversely not because the substantive aspects of the formulas don’t ’work but because in financial services outcome is too often seen as more important than the sanctity of the determinant, often just another small act of sequential omissionThese days quantitative analysis is simply the way to alter the outcome of calculated, including some algorithmic, results allowing for variables created from typical dispositional influences, for example, judgmental bias, the number one hindrance to successful investing.

Systematic  
Technical analysis is essentially math based and designed to recognize (not predict) trend and momentum. In the end a technical indicator such as Relative Strength can tell you when a currency, commodity, equity or nearly everything in nature is a good investment however that's not the same as suggesting it worth paying attention to. This invited a scientific mind to find the lowest common denominator to best managing a portfolio of assets. Funny thing is the solutions were, as many scientists long agreed, easier than they were expected to be. The first premise in approaching to apply the new science to investing was accepting some parts of the concept of the efficient frontier. Namely that the global markets are reflective of all the information available. Therefore research can uncover much of said information, but no amount of research can give one a tool to consistently outperform the markets. Welcome, probability and its measurable fuel, risk. In my opinion risk is among the best ways to control and protect an asset. Simply put, if one fears that the market will go down they can buy (slow down) an ETF such as SPY (S&P 500). No one knows when the markets will correct, but probability can be applied better to when the markets will recover after they correct. At that time we can speed up if we sell SPY and buy AMZN (Amazon). The ability to systematically allocate and monitor accounts in this way introduces a level of control that armchair speculation will never need, nor accomplish.