What follows is a section from the “Thoughts & Analysis” portion of my monthly letter to investors at T11 Capital. I have created an email list that sends this report out at the beginning of each month to those interested. The full report contains commentary about the general markets and individual positions held in managed portfolios, as well as overall performance. To be added to the list email me at mail@T11Capital.com
I thought it appropriate to rename this section after feeling that the obligation to "Look Ahead" was preventing me from discussing various thoughts, analysis and philosophies that are an important parts of my process. It is also true that as an investor in the markets, I don't want to necessarily be sidetracked by short-term analysis, although I have been relatively immune from confusing short-term thoughts with long-term objectives. I have no desire to risk my immunity, however.
Just as there are various imperceptible laws that govern human affairs, it can only be assumed that similar laws will also dictate the affairs of the financial markets. After all, financial markets are simply a reflection of the perception of a particular group at any given moment. This group, as opposed to the popular perception of seeking a balanced state, remains in the constant realm of disequilibrium. Markets are never balanced in nature, as balance inherently suggests predictability of an outcome.
Proportionately as it applies to the financial markets dictates that disproportionate cause will lead to disproportionate effects. There has been no better proof of this law at work than what we have experienced with the near vertical run that has taken place since the 2009 bottom.
The current bull market was born from a disproportionately negative circumstance that was singular in its scope and breadth. The accompanying reaction that took place in terms of monetary policy was also disproportionate and singular in nature.
The law of proportionately will dictate that the effect of such disproportionate negative circumstances should be equally disproportionate on the positive end. This is simply how proportionately works. The further you stretch the rubber band to one side, the more powerful the reaction will be to the opposite side. The greater force you use to hit a tennis ball into a wall, the greater force it will exert on its return to your racket. This is proportionately in its simplest terms.
Already we are seeing clues in the form of the extraordinary persistence this market has had on the upside. There have been numerous reports of record stretches without a 5% pullback in the major averages. There has been a record stretch of months without a touch of the 200 day moving average for the S&P. And so on and so forth.
These beacons of strength that the market is continuously demonstrating are by no means a sign of excess, by any stretch. Those who put their faith in the various forms of technical and fundamental analysis will always be lead astray by the markets as they will invariably confuse a prevailing bias with the data being presented. This leads to cherry picking analysis that justifies ones bias instead of looking at the data from an unbiased point of view.
And then there is the point of the data, especially of a fundamental type, being useless in attempting to determine when a bull market has reached maturity. Technical analysis only lags slightly behind in its uselessness for determining when a bull market is peaking.
Since the beginning of this bull market, every year there have been reports of excessive valuation as determined by the price/earnings ratio of the S&P 500. And every year the ratio is adjusted upward further.
Since the beginning of this bull market, there have been numerous technical measures that have compared both sentiment and price to previous bull market peaks in 1999 and especially 2007. Each of them has come and gone with a flurry of fanfare only to disappear into an abyss once the market continues moving to new highs.
It is only natural then to assume that utilizing traditional means to understand the persistence of bull markets is not just an effort in futility but also an effort in stupidity, as well. It may just be true that this analysis of attempting to determine when and where a bull market stops exists because if it didn't there would be nothing to talk about.
The markets attempt at filling a pause in a conversation, therefore, should by no means have an effect on an investor's portfolio allocation.
To quote one of my favorite passages from Reminiscences of a Stock Operator:
“And right here let me say one thing: After spending many years in Wall Street and after making and losing millions of dollars I want to tell you this: It never was my thinking that made the big money for me. It always was my sitting. Got that? My sitting tight! It is no trick at all to be right on the market. You always find lots of early bulls in bull markets and early bears in bear markets. I’ve known many men who were right at exactly the right time, and began buying or selling stocks when prices were at the very level which should show the greatest profit. And their experience invariably matched mine that is, they made no real money out of it. Men who can both be right and sit tight are uncommon. I found it one of the hardest things to learn. But it is only after a stock operator has firmly grasped this that he can make big money. It is literally true that millions come easier to a trader after he knows how to trade than hundreds did in the days of his ignorance.”
Bringing us to the current portfolio of stocks that inhabit the portfolios. It is true that when a portfolio is doing well a manager can only interfere with results via unnecessary activity that inhibits growth. Therefore, when a portfolio of stocks is outperforming it should be left to itself. Attempting to refine it any further will only inhibit performance as opposed to enhancing it.
On the opposite end of the spectrum when a portfolio is underperforming a talented asset manager should be able to reverse the negative momentum in performance through activity. It is then that a portfolio should be refined, rebuilt and tinkered with until it is functioning normally once again. This is a situation where talent clearly meets opportunity, with the outcome being positive more times than not.
To be called an asset manager then is incorrect. What I do is manage risk through decisions that have positive long term expected values. As the value of those decisions deteriorates, it is up to me to recognize what is occurring and correct it with the appropriate steps.
Thus far into 2015 my actions have been infrequent as the work I did in late 2014 to rebalance the portfolios after a difficult period of performance seems to be in the early stages of profitability. Any further actions from this point, given continued positive performance, can only impede our success.
As Warren Buffett is quoted as saying, “If at first you succeed, quit trying.”
