Tactics

When Dark Clouds Fill the Sky

© Can Stock Photo / pzAxe

Warren Buffett’s latest shareholder letter contained a remarkable paragraph:

“Every decade or so, dark clouds will fill the economic skies, and they will briefly rain gold. When downpours of that sort occur, it’s imperative that we rush outdoors carrying washtubs, not teaspoons. And that we will do.”

Long-time clients saw how this worked in the recovery from the 2009 crisis low point, and the post-9/11 lows in 2002. You are a remarkable group: when others panicked and sold out, many of you stayed the course. There is no guarantee, of course, that history will repeat, or that past performance indicates future outcomes.

Like great chess players, we need to be thinking many moves ahead. In our opinion, the economy in the US and around the globe is pretty good. We do not buy the whole stock market, we pick our spots. And we are excited about those spots.

But we do need to be steeled to both occasional market corrections of up to 10%, and the deeper declines that occur from time to time. They cannot be reliably predicted. What is in our control, however, is how we react. Do we sell out at low points, or get in position for a possible recovery? We are taking steps that may mitigate a general market decline—no guarantees, of course.

We are a little more prone to keep a little cash in reserve, to diversify into lower-priced markets, to continue to prune holdings that may be extended and add names we believe to be bargains. Most of our holdings are not sitting at all-time highs, although overall market averages are–the S&P 500 for example reached a new high as recently as March 1st1. You can read about our current themes here.

In the very best case, markets and our account values fluctuate. This is the tradeoff we accept in order to seek the returns we need to pursue our goals.

We have a great partnership with you, our amazing group of clients. You understand living with volatility can lead to long term rewards. We think we know what to do, whether the skies are blue or the dark clouds have gathered. If you have questions or comments, please write or call.

1Market data from Standard & Poor’s


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Stock investing involves risk including loss of principal.

There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.

A Penny for Your Stocks

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Occasionally, you will hear the term “penny stocks” coming up in investment advice. Often this may be in the form of a slick advertisement telling you how much money you’re missing out on by not investing in penny stocks. Unfortunately, in many cases these solicitations are trying to take advantage of you.

What are penny stocks, and why are they so dangerous? So-called penny stocks are stocks that are not listed on any major stock exchange, which typically trade for very low prices per share. In general a company’s share price does not necessarily tell you much about the quality of a company, since different companies float different numbers of shares. But small, unlisted companies generally are not able to circulate useful numbers of shares at anything above a very low price, and typically trade at a few dollars per share or less.

Because these companies float relatively small numbers of shares, they are subject to extreme volatility and their prices may experience very rapid swings up or down. This may not sound so bad on paper (at least the “up” part), but unlisted stocks also suffer serious liquidity risks. Unlike exchange-listed stocks, you can’t push a button and buy or sell penny stocks with an accurate price quote at any given time: over-the-counter stock transactions depend on being able to track down another buyer or seller and negotiate with them. You might buy a stock at $0.20 and watch it go up to $0.30, only to find that nobody actually wants to buy it from you for $0.30. By the time you manage to unload your shares, you may be back down to $0.20 or even lower.

These risks should be enough to warn away most reasonable investors. But on top of that, the structural problems that plague penny stocks also make them an attractive hunting ground for predatory scammers. The classic “pump and dump” scam takes advantage of low trade volumes to easily run up the price with relatively modest stock purchases. The rising price can then be used to encourage victims to buy in, driving the price even higher. At this point the scammer pulls the plug and sells their shares at a profit, crashing the price and leaving their victims holding devalued shares in a worthless company. Any time you hear someone discussing penny stocks, there is a good chance they are either a scammer or a victim who has already been pulled in.

Many such scams have been showing up lately because the scammers have a powerful new bait in the form of cannabis company stocks. The growing trend of state-by-state marijuana legalization has created lucrative new markets that many investors want to get in on, but the continuing threat of legal action at a federal level keeps legitimate finance companies on the sidelines. As a response a number of fly-by-night companies have formed claiming to offer vehicles for individual investors to buy into the growing marijuana market. Be warned: not only could these companies be shut down overnight by federal agencies, many of them are bogus to begin with.

Penny stocks may seem like an enticing way to get in on the ground floor of the next big thing. But companies with the next big thing generally don’t go directly to market—if someone has a great business idea, you can bet it will be snapped up by private venture capitalists. Penny stocks are a minefield best avoided altogether. As always, remember: if something sounds too good to be true, it probably is.

If you hear about a “fabulous” investment opportunity and need help figuring out whether it is legitimate, please give us a call or email us.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Stock investing involves risk including loss of principal.

Fear and Greed

© Can Stock Photo / Andreus

Two of the primary emotions affecting the stock market, it is said, are fear and greed.

Facts and figures are prominent in our work of assessing and ranking various investment opportunities. But in the day to day action of any market, buyers and sellers and their motivations have an oversize impact.

In our view, fear has dominated most of the last eight years in the US stock market. Many investors sold out after the double drubbings beginning in 2000 and in 2007. Money flows from retail investors, reflecting withdrawals from the market in most recent years, seem to confirm it.

Anecdotally, we also noticed burgeoning interest in strategies that hoped to avoid exposure to the stock market yet still make money. Commodities, derivatives, factor investing, bonds at low interest rates and other fads drew in a lot of money. This, we believe, reflected fear of the stock market.

For much of the market rise since 2009, it was said to be ‘the most hated rally in history’ because so many people missed out.

Knowing Warren Buffett’s famous dictum, “Be greedy when others are fearful, and fearful when others are greedy,” we stayed the course through the downturn. None of us hated this rally, did we?

Now the market sits at all-time highs. This probably makes sense when earnings are high and rising, and interest rates remain fairly low. But we are on the lookout for signs that greed has become the dominant force in the market. When others become greedy, perhaps we need to become fearful.

We are also doing other things, as well. You may have noticed winning positions getting trimmed back, and potential new bargains (we hope!) being added to portfolios. Owning bargains is no guarantee against loss, but we believe it helps. We are also nibbling at other markets in other lands, ones that have lagged and may be at low levels.

Our new portfolio design, accommodating layers of cash and more moderate investments as well as our traditional research-driven core layer, is another way to attempt to mitigate future downside.

The markets go up and down. We cannot build wealth over the long haul without facing that, and living with it. If you would like to talk about your portfolio or situation in detail, please call or email us.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Stock investing involves risk including loss of principal.

Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values will decline as interest rates rise and bonds are subject to availability and change in price.

International investing involves special risks such as currency fluctuation and political instability and may not be suitable for all investors. These risks are often heightened for investments in emerging markets.

Spring 2017 Market Themes

© Can Stock Photo / photoslb

We look for promising investments by studying opportunities in detail, reading annual reports, SEC filings, analyst commentary, and doing our own arithmetic. Potential gains live in the gap between the unfolding reality and consensus expectations. The outcome of this study and thought is a list of investments we would like to own.

Although we look at individual companies, we often find themes in our list. This makes sense when you consider that undervalued companies are often found in unpopular industries.

Last fall we wrote about three of our market themes. Biotechnology companies, the evolution of the automobile, and natural resources continue to figure into our thinking. Other themes have emerged.

Consolidation has fundamentally changed the dynamics of the airline industry. It used to be that fierce waves of competition caused price cutting, which led to poor financial results and even bankruptcies. But there are not twenty players, or even ten any more. Consolidation and liquidation has reduced the number of major competitors to four.

The four biggies compete with each other, but more gently. Each knows that lower growth ambitions and stable pricing may lead to greater profits than higher growth ambitions and lower prices. This idea of a pricing oligopoly seems to explain the behavior of the airlines, which are booking record profits. We believe the market has not awoken to the new dynamics, and undervalues the stocks. We may be wrong.

The European equity markets have had one problem after another for more than a decade. An index of major blue chip stocks, the Eurostoxx 50, is lower than it was ten years ago. Meanwhile in the US, major averages have doubled. Dividend yields and prices are more favorable “over there.” So we have begun to include European equity exposure in portfolios.

The Buy List of thirty-some holdings reflects these themes and other opportunities we believe to be attractive. There are no guarantees on any of them. We can tell you we are excited about the prospects. If you would like to discuss your holdings or situation in detail, please write or call.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.

Stock investing involves risk including loss of principal.

Value investments can perform differently from the market as a whole. They can remain undervalued by the market for long periods of time.

Because of their narrow focus, sector investing will be subject to greater volatility than investing more broadly across many sectors and companies.

News from the Trade Desk

© Can Stock Photo / mflippo

 As a hands-on research and portfolio management shop, we develop capabilities that many advisors do not need or have. If we were just finding money and sending it off to a third party to manage, life would be simple (and boring).

From time to time our research uncovers potential opportunities in discounted corporate bonds. The market for these high yield bonds is challenging. At times the market is “thin,” which means there is a lack of buyers and sellers. That makes it difficult to complete the purchases we desire.

Fortunately, LPL Financial has experienced and capable traders on the bond desk. They help us execute multimillion dollar bulk transactions at the best available prices. Buying for many accounts at one time in a bulk deal is a more efficient way to do it.

The opportunity in bonds is somewhat rare. We have only purchased eight different issuing companies in sixteen years. But there is another kind of trading that is relatively constant—the purchase and sale of stock.

The bulk bond purchases led us to a breakthrough in our stock trading protocol. One day we learned at 1 P.M. that a big bond purchase had been completed. We needed to go through eighty accounts and make sales of stock to raise money to pay for the newly purchased bonds. We had two hours before the market closed.

We had devised a protocol (a set of rules) to guide us. The four holdings we liked the least were ranked in order of priority to sell. In each account, we sold in that order until the bonds were paid for. Greg Leibman worked from one end of the list, Mark Leibman worked from the other, and they met in the middle before the market closed.

More recently we adapted the protocol concept to make stock trades. We came to a negative conclusion about an industry we previously invested in—at the same time we uncovered a new opportunity in another industry. We devised a protocol to sell one and buy the other, and completed more than five hundred stock trades in a single day.

The trade desk is where two of our key activities come together for you: research and portfolio management. We are pleased at the continued development of our research. The time we save with effective operations goes back into communicating with you—so call or email if you would like perspective on any money question.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.

The market value of corporate bonds will fluctuate, and if the bond is sold prior to maturity, the investor’s yield may differ from the advertised yield.

Stock investing involves risk including loss of principal.

Case Study: The Portfolio of Mr. X

© Can Stock Photo / arekmalang

Over the last year or so, you taught us a lesson. We are a little embarrassed it took us so long to catch on. But learn we did, and now we are enjoying the payoff.

The lesson is, some people require a layer of cash or other cash equivalents in their accounts to reduce the volatility and risk of the overall portfolio. We used to see this as a form of heresy against our beloved three fundamental principles. Clients were encouraged to maintain their safety blanket somewhere else, so that we could concentrate on our traditional research-driven, focused approach to investing.

We still aren’t comfortable with market timing, and selling in a panic will always result in an invitation to do business elsewhere. But we finally have started listening to those who desire a portion of liquid assets inside their portfolios, or a layer of less volatile investments.

Mr. X is a patient man who has stuck with us despite our stubbornness. His philosophy nearly matches ours—but not quite. When he visited the shop recently to discuss his desire for a little less risk (again), we explained that we had adapted to preferences like his, and how much cash or liquid assets did he want to maintain in his account?

Mr. X could scarcely believe what he was hearing. He asked if we were really going to skip the part where we argue. When we assured him we would simply carry out his wishes, he was surprised and pleased.

Of course, we discussed the central tradeoff. Higher cash levels will generally result in lower long term returns. Mr. X pondered the issue, and specified a relatively modest fraction of the account to be in cash.

Trading lower returns for less volatility can have desirable effects. The cash layer may enable a person to stay with the overall plan in tough times. Financial confidence is a very nice thing to have, and the cash layer may help address it.

We have not abandoned our principles. We simply came to the realization that we could help more people invest more effectively if we listened to them more carefully. Life is better for us, and more pleasant for Mr. X as well.

If these issues are pertinent to you, please write or call to talk about your situation.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.

Professionalism? Or Pandering?

© Can Stock Photo / stokkete

Two popular trends in the investment business may be affecting the financial health of clients. In my opinion the use of “risk tolerance assessment” tools, combined with the trend toward model portfolios, may be good for advisors and bad for the customer.

Many advisors use risk tolerance assessments. The issue is that when markets are lovely and rising, these tests have the potential to show that risk tolerance is high based on the client’s response. When markets are ugly and falling, they have the potential to show risk tolerance is low based on the client’s response. These tests measure changing conditions, not some fixed internal thermostat.

The potential for mischief comes into play when the results are tied to model portfolios. A lower risk tolerance potentially gets you a portfolio with less chance for long term growth, lower exposure to fluctuating but rewarding markets, and more supposedly stable investments with smaller potential returns. So the market goes down, risk tolerance goes down, and people may sell out at low points.

Conversely, when markets go up, risk tolerance goes up, and people may buy in at high points.

The old rule is ‘buy low, sell high.’ It is my opinion that the supposedly scientific approach of risk tolerance assessment tied to model portfolios encourages people to do exactly the opposite.

It appears to be objective, almost scientific. The pie charts are impressive. But the process panders to the worst elements of untrained human nature—and actual investment outcomes may show it.

It is as if the cardiologist, upon learning that a patient dislikes sweating, prescribes sitting on the couch instead of exercise. Or if a pediatrician first assesses a child’s tolerance for icky-tasting medicine, then tailors his prescription accordingly.

We believe that people can handle the truth. Our experience says people can learn to understand and live with volatility on some fraction of their wealth in order to strive for long term returns.

So the first step in our process is to determine if a prospective client can be an effective investor. It doesn’t matter to us whether they were born with great instincts or are trainable—we provide support and education through all kinds of markets. It takes a lot of effort, but we do it because of the results it may provide.

If you need a refresher on the ‘buy low, sell high’ thing or would like to discuss how this affects your plans and planning, please write or call.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.

There is no assurance that the techniques and strategies discussed are suitable for all investors or will yield positive outcomes. The purchase of certain securities may be required to effect some of the strategies. Investing involves risks including possible loss of principal.

If You Always Do What Everybody Else Does…

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Our clients know we are not like most other financial advisors. We used to be content to let people discover the differences at their own pace, if ever. But changes in the world have made clarity about the distinction a crucial matter—vital for us, vital for you.

The financial industry is responding to regulatory and competitive pressures by adopting standardized approaches for all investors. This ‘safe’ approach based on conventional thinking supposedly reduces risk of fines or litigation.

Consequently, many advisors spend no time reading SEC filings or analyzing financial statements or managing portfolios of stocks and bonds. Instead, they try to find people to stuff into one of three or five pie charts filled with packaged products.

There are more than 300 million people in the country. We do not believe you all fit into one of these pie charts.

Our principles-based approach is based on building custom portfolios for each client. We are contrarian—we do NOT want to do what everybody else does, and get what everybody else gets. We hope this is why you continue to do business with us.

With different methods, we get different outcomes. Client results generally do not match “benchmark” returns such as the S&P 500 Index, or what the pie chart would have gotten you. Sometimes we do better, sometimes we do worse, and over the long term we hope to come out ahead. No guarantees, of course.

Our portfolios also experience volatility. We all understand that this is an integral part of long term investing. We do not sell out just because the price goes down. Warren Buffett loves to buy when the price of a good opportunity declines, and so do we.

Since each client has a custom portfolio, there is a range of returns even among clients with similar objectives. We are constantly improving our portfolio process hoping that all clients receive as much benefit as possible from the opportunities we identify. But with our approach to portfolio-building, there are still nearly infinite variations in holdings. Money comes in at different times, and client preferences are taken into account when investing. Naturally outcomes differ one from the next.

Bottom line: if you want the benchmark return, or to end up with what everybody else gets, or to avoid volatility, you should find an advisor to slot you into a pie chart. Don’t worry, it is easy to find one—they are all over the place.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.

The Big Payoff from Automobile Evolution

© Can Stock Photo / esperanzacarlos

Clients know we’ve been investing in different facets of the auto business for years. It is a vital industry. People need to go places, after all—to school, work, and play. The more we research, the more interesting the future becomes.

Here are some of the surprising things we have learned:

Going a mile in an electric vehicle, or a hybrid in electric mode, costs only three cents. Gasoline takes a dime. The seven cent difference adds up to $175 billion dollars annually in the US. 1

The idea of ‘autonomous vehicles’ or self-driving cars seems fantastic today. Rapid advances in radar, other forms of sensors, artificial intelligence, and communications are making the technology a reality. We will see it, at least in some form, in some places, in the not-too-distant future.

Engineers project that autonomous vehicles will experience a 90%-to-95% reduction in accidents compared to human-driven vehicles. We thought about what this could mean, and ran the numbers. Across the whole country, this means thirty thousand fewer traffic fatalities per year. Two million injuries would be avoided. In economic terms, $135 billion in property and human damage would be prevented every year, if the accident rate were reduced 90%.2

In a related development, the cost of solar electricity is falling about 10% per year3. This makes sense, because solar power is a technology and the price of technology tends to fall year by year. So the cost advantage of electric propulsion may grow even larger.

With these compelling economic factors, it is easy to forget that the price of electric vehicles is not yet low enough to be competitive with internal combustion engines. But as a client reminded us recently, “Wide screen televisions used to cost $12,000, too.” As volumes go up, prices will come down. We know how this works.

The benefits we’ve cited above amount to thousands of dollars per year, per household. This doesn’t count the time we might gain from not having to drive, or the significant health advantages from reduced vehicle emissions.

The prospects for a healthier, wealthier society are exciting. Change usually creates winners and losers. You know we will be studying these issues intensely and watching closely. Please call if you have questions or comments about how this may affect you.

1Calculated from US Department of Transportation figures

2National Transportation Safety Board statistics

3Farmer, J. Doyne & Lafond, Francois. How predictable is technological progress? Research Policy, 2016. Volume 45, Issue 3.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. All performance referenced is historical and is no guarantee of future results.

A 1-2-3 Approach to Investing

© Can Stock Photo / dexns

At times we feel embarrassed to be learning so much at a mature age. But we are grateful for the energy to attempt to improve what we are doing. Here we discuss developments in our portfolio management theory and practice.

One. Recently we figured out that one of our investment themes may benefit from a 1% position in a more speculative holding than we usually want to own. (By that we mean that 1% of a client portfolio could be invested in this company.) While failure could cost a dollar per dollar invested, success might return multiple dollars back, in our opinion.

We believe this makes sense because success might come at the expense of our other holdings. So one investment may serve to offset losses in another. No guarantees, of course.

We also realized that the 1% idea might help us in another way. Value investors have trouble buying exciting growth companies that have yet to develop large earnings, or dividends, or book value. But taking a smaller position in companies with solid prospects for growth can more easily be justified than buying a more sizable position. Perhaps this will let us participate with more comfort in the ownership of faster-growing companies.

Two. The next portfolio development came from our research into the biotech industry. The biopharmaceuticals each have their own specialties, and new products in various stages of development. Based on current earnings and prospects for growth, we wanted to gain exposure. It was too difficult to choose one over another, even among the larger and established companies. So we decided to buy 2% positions in each of four large players.

Three. We reduced our core position size from 5% to 3% for mainstream holdings. After 2015 we became interested in avoiding excessive portfolio volatility. Owning smaller pieces of more companies lets us be more diversified. We will also have more flexibility to let potential successful companies grow into larger fractions of the portfolio over time.

We are excited about the evolution in our thinking about the best ways to put portfolios together. Combined with the development of our trading protocols, we hope to put money to work faster than ever before—and in new ways. We still research carefully and come to conclusions only after thought and study, of course.

If you have questions or comments about how your portfolio is affected, or any other question we might help you with, please call or write.


The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

Stock investing involves risk including loss of principal.

Because of their narrow focus, sector investing will be subject to greater volatility than investing more broadly across many sectors and companies.