December 19, 2012

Expecting the Unexpected

Investing, as I've often written is part science, part art form. The science is the practical discipline that results in efficient execution and oversight (boring, right?) But while science can fulfill a need, it is the art that can frame the value in otherwise misleading landmarks most notably prevailing in our emotions.   For me expectations are at the root of most emotions, namely the more emotionally grounded the expectations the more likely the unexpected result.  Simply put the financial markets don’t decline when people expect them to, they decline when they don’t.

This brings me to this time of year when the broad markets perform in a manner that I describe as consistent with needs over emotions. The needs are the various portfolio shifts that cause some beloved stocks, such as Apple (-19%), to sharply decline and others show a year end spike higher such as Ford Motor (+18%). While the moves are generally blamed on hostile forces such as market manipulators, which make for more lively press, the truth is far more pragmatic. Apple for example, whose stock price had risen over four times the value of the S&P Index, also had the highest market cap* in the Index (NASDAQ) where it resides. And without going into too much detail in addition to the many impressive statistics much of the rise in its price has been at the behest of its most loyal customers. Nice idea, but the truth is investors are not by and large a loyal bunch and with profit taking and the potential for the Capital Gains Tax rate to increase next year due to a fiscal cliff compromise the reasons to sell far outweigh the reasons to buy and so goes the stock price. The needs outweighed the emotions and it’s playing out as I expected.

Going forward is still anyone’s guess, but many of the efforts I’m making to take advantage of these yearend conditions include the following:


Most people know the various risk models I use are designed to make the time reviewing portfolios more productive. At this time of year my review is as always focused on Asset Allocation** but I take it a step further to review the individual holdings. This is because a new year generally brings with it heightened expectations touched by economic and political winds and neatly wrapped in optimism or pessimism. For the record I believe many investors and would be investors remain cautious about the stock market and ongoing political discord feeds economic uncertainty.


If the Asset Allocation review is in line with a clients expectations, and the individual holdings are in line with my expectations than I leave the account alone. However, should the account need more bonds and less foreign exposure than I’ll rebalance it. My goal is always to stay true to the client’s expectations.

Tax Harvesting

My review may also include extra steps with regard to taxable accounts. These are the accounts where most of the holdings are designed for tax advantage. For example accounts invested in municipal bonds for the tax free income. Sometimes assets that have been held for over a year can be sold with a gain or a loss that takes advantage of Capital Gains Tax rules which  also provides a strong incentive to invest long term rather than speculate short term.

This year end market environment is especially busy with fiscal cliff issues and its accompanying concerns. But overall, the economy is already showing some signs of weakness that while not snapping to growth will breathe a sigh of relief and might drift for a quarter. On some days, that’s as good as a rally!

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