A Dash of Insight

Investors are Reaching -- and Making Big Mistakes

Has anyone else noticed the rise of dubious investment propositions?

I am getting quite a few inquiries from clients and others about some great opportunities they have been offered.

I am seeing more email than usual about "home run" stocks and systems.

Both print and television adds have a focus on gold.  Please note that we frequently have positions in gold ETF's, but some of the advertising recommends gold strategies where investor might overpay for illiquid assets, and also pay a big commission.

There are systems that seem to offer a guaranteed yield far above prevailing rates, without much ability to gauge the underlying value.

These are only examples.

I am working on a series covering this theme.  I invite readers, including colleagues in the advisory business, to send me additional examples.

More to come....

[long GDX and XME]

How I Pick Stocks

Valued commenter Mike C. asks for a change of pace from my regular topics and a focus on more specific stock picking.  He notes that I have said several times that there are plenty of opportunities.  So what are they?

This is a thoughtful question, so let me start down the path to a complete answer.  I cannot get there in one article, but this will be a start.

Mission and Audience

Anyone who is a regular reader knows that I have not catered to the existing Internet audience.  If you follow blog statistics, it is pretty obvious how you should get a big audience, and I do not do it!  Here is a list of things that I am doing wrong in a marketing campaign:

• I do not think the world is coming to an end;
• I do not  see the immediate application of Austrian economics (but I watch the debate carefully);
• I do not hate Obama (nor did I hate George Bush);
• I do not hate the Fed, nor do I see them as responsible for everything that has gone wrong;
• I do not see a conspiracy around every corner;
• I do not think that government is a unilateral force organized to lie to us, manipulating data.

Putting this into a positive statement, I think that government leaders, whatever their party, are attempting to avert a deeper recession and to create employment.  Presidents Bush and Obama both did their best, given the circumstances, the existing law, their teams, and their ideology.

The government is on a mission.  You may not like the policies, but as an investor, you fight it at your peril.

This is an unpopular viewpoint in the Internet audience.  This audience has had an undue influence on mainstream media, where writers are under pressure to get readers, comments, and page views.

It reminds me of the Truman versus Dewey polls, where newspapers all predicted the Dewey victory based upon their letters to the editor.  People need to realize that Internet blog ratings, Seeking Alpha popularity, and CNBC viewer polls, are all culled from a special audience.  If I were to take this seriously, I would quit writing!

My real audience consists of people who are not even following the Internet debates.  My ideal client is an expert in what she does in her work and is looking for an expert to help with her investments.  I use the feminine gender advisedly, since guys (including me) do not like to ask for directions.  People who want to read a few Internet articles, ask about last year's performance, and think they have a "feel for the market" are not my best potential clients.

Briefly put, I am writing a book for people who are not currently reading my blog, but who need help.  Having said this, I am delighted that some current readers find my material useful, and I value their comments and contributions.  I know from my email that many readers are other investment advisors who share the challenges I face.

Also, I write at night, after my day's work is done.  My list of blog agenda items grows more rapidly than I can work.  It is a labor of love, and one that I will never complete.

My Approach

The approach that I use is not a secret.  Anyone writing to me gets a nice description and a performance update.  I am not allowed to advertise this (so say my lawyers), but the excellent results are available upon request.  I talk to every potential investor.  If someone wants overall advice on asset allocation, I provide that.  If they want a good long-only approach as part of the portfolio, I screen them for risk tolerance and suitability.  That is part of being a Registered Investment Advisor.

With this "disclaimer" in mind, here is an overview of my stock-picking approach.

Find a Theme.  I look for themes where there is excessive skepticism.  I use my extensive background in economics (where I have real training, used to follow actual data and opinions), in politics (where I have built a sister site to track everything relevant), and in valuation (where I relate forward stock potential to alternative investments).  I use daily analysis of data to challenge and review these viewpoints.

My current themes include the following:

• Recognition that public policy initiatives, from all government sources, are focused upon economic growth and recession concerns.  You can worry about inflation and excessive government, but the concern is too early for practical investment purposes.  There is plenty of stimulus in the pipeline, and more is about to be enacted.
• Health care companies.  The uncertainty about the final shape of a bill, and whether something will be passed, have cast a pall over the entire sector.  It will not end badly for all of these stocks, despite the day-to-day market reaction.
• Growth stocks.  There are always growth opportunities, if one looks at data and trends.  I always have some growth in the portfolio.
• Energy stocks.  When economic growth was more promising, we were near a tipping point in energy prices.  There are many forces providing a bottom in these sectors, and the upside is significant.

There are other themes, but let us stick with those for the moment.  I am always adding or adjusting themes.

Find a stock.  I look for stocks with the themes in mind.  At the moment, here are some considerations I have in mind:

• International exposure.  Many US companies have a  balance between US and foreign sales.  They are less exposed to a weaker dollar, and may even benefit.
• Cost cutting.  Companies that have reduced costs are well-placed to enjoy a revenue rebound and extra earnings.
• Analyst disfavor.  I like stocks that are unloved by the analyst community.  Unlike others, I think that analysts do a reasonable job on earnings forecasts.  They are too slow in changing official ratings.  I often buy when the consensus ratings are low, and sell when they are high.
• Resistance to risk.  Some companies have a business model that can dodge the apparent pitfalls.
• Stocks that have lagged the market in the rebound from the pre-Lehman levels, a point that I am using as an initial target.

Specific Ideas

I have revealed and recommended some of our holdings in past articles, especially in my 2009 preview piece.  I still like Transocean Energy (RIG), Apple Computers, Inc.  (AAPL), ResMed (RMD), and Caterpillar, (CAT), for reasons that should be obvious from the above analysis --- energy, growth, health (with resistance to skepticism) and global economic growth.  I also own Intel (INTC) which I may not have mentioned before.

While the stocks have all rallied, they are all still buyable right now.  I own them for myself and for clients.

I take a fresh look each day.  Is this a stock that I want to own for the next month, next six months, or the next year?

I recently recommended Research in Motion (RIMM) as a good post-earnings candidate, when the stock sold off sharply.  The thesis is growth in the mobile Internet space, but I like holding it along with Apple to avoid changes in market share.

A Final Thought

I mention these stocks as examples.  Obviously, my actual analysis involves much more detail.  In a future article, I will take a single example and show how it fits the criteria.

Thanks again to Mike C. for the suggestion.  Tomorrow night I have a fine birthday celebration planned in Chicago for my wife and my son (birthdays two days apart).  That means no article tomorrow.  While I love to write about stocks, it is not something I can do every day.

Summer Quiz

Some neighbors had a block party last night.  Our neighborhood has many intelligent people.  While there is plenty of diversity in race and religion, there are many shared values about kids and community.

Nearly everyone is a successful professional person.  There were plenty of opinions about the economy and the current investing climate.  Partly (but not entirely) from this experience, here are a few questions.

1. We have an honest coin which we flip 20,000 times.  We keep a running count of whether heads or tails is in the lead.  How many lead changes would you expect?  (A good ballpark answer could be the winner here).
2. The M1 and M2 measures of money supply have increased dramatically this year, in response to the Obama budget and stimulus spending. (True or False)
3. The number of "jobs created" last month was negative.  Over 300,000 jobs were lost, and this number was skewed by imaginary jobs from something called the "birth death model."  How many jobs were really created?
4. The Fed balance sheet has ballooned since Obama took office. (True or False)
5. You get the chance to be on a game show.  The host lets you pick one of three doors for a prize.  One door has a great prize and the others have trivial rewards.  You make your pick.  The host (who knows where the real prize is) reveals one of the two alternatives and offers you the chance to switch your choice.  Should you do so?
6. The percentage of those currently unemployed rivals the figures from the Great Depression.  (True or False).
7. The government stress tests for financial institutions have something called an "adverse scenario."  The conditions from that scenario have already been met, or nearly so.  (True or False)
8. From the peak, how much have personal consumption expenditures declined?

If you think you are smart and knowledgeable, send us an entry at falin at newarc dot com.  We will give a nice prize and some recognition to the winning entry.  We have a couple of days of travel, so you have some time to submit your answers.

TCA-ETF Update Delayed

For the third consecutive weekend, events have reduced the relevance of our regular analysis.  We will post the update on last Thursday's ratings on a delayed basis.

At the moment we are focused on current events.

When the Blogosphere Works -- and When it Doesn't

At "A Dash" we have an ongoing interest in how consumers--especially investors-- can get useful information from the Internet.  It is one of the chapters in our book, where will consider in detail the various Internet sources.  It is important to understand what one can and cannot learn from the Wild West Blogosphere.

Background

Abnormal Returns, one of our long-standing featured sites, helps investors learn what they should be reading.  It takes a lot of work to read and consider scores of different offerings, selecting a few to include in the daily list of readings.  The comments helpfully suggest the nature of the content.  We look for this guidance every day, and so should you.

We think of our "Abnormal Friend" as an editor who considers whatever we present.  While "A Dash" is not a traffic-driven business, we are always interested in the "editor's" reaction to our work, and we appreciate getting some new readers.  Without readers and their comments, our job would be more difficult.

On occasion, the author of Abnormal Returns, an investment professional with impressive credentials, steps out of his normal role and becomes an author.  This is almost always interesting.

The Issue

In a stimulating and provocative article, Abnormal Returns points out the advantage of the blogosphere over mainstream media.  The article cites another of our featured sources, Adam Warner, as follows:

Do you remember the incident last month when a noted writer went off on the editor of one the most successful sports blogs? Adam Warner at the Daily Options Report has a nice post on the topic of how the blogosphere helps sort through competing claims. It is not always a pretty process. A site like ours helps play a small role in this by pointing out the current schools of thought. We like how Adam concludes:

To me, it’s ultimately a meritocracy, albeit an imperfect one. There are some great blogs that get lousy readership and some lousy ones that top the charts. But by and large, it sorts itself out…

This is a strong argument, one well worth our attention.

A Problem?
As we would expect, it does not always work so smoothly.  As so often happens, considering extreme cases helps to highlight the key variables.  Let us consider one of the finest hours for the Internet in action.

They call it "Rathergate."  Too bad.  This was a sad end to a distinguished career.  To summarize briefly (full story here)  in the 2004 Presidential election campaign there was a big issue about George W. Bush's military service. CBS ran with a story about the President's military service, using documents from his commander, then deceased.

Within hours, significant challenges to the story appeared on the Internet in blogs and forums.  Several sources noted discrepancies that called into question the authenticity of the documents.

Key Criteria

The challenge to CBS worked for several reasons:

• There was widespread interest.  This was important news, about an important issue.
• The key question played to the strength of the Internet -- there were relevant experts out there, and this was a good way to reach them.
• The evidence was clear and easy to understand.  The interpretation of various typefaces and other evidence did not require any special training.  The average reader could see, understand, and reach a conclusion.
• CBS could not "stonewall."  Other media sources understood and took up the case.

How Does this work in the Investment Blogosphere?

Simply put, it does not.  Let us suppose that a big-time pundit (think CBS) puts forth an outrageous claim that can be proved to be incorrect.  Of the many thousands reading the claim, a few note the error.  Let us go back to the key criteria.

• There is no widespread interest.  Readers are uninterested in disputes, (he said this, he said that, blah blah).  Unless the specific question is large, it becomes a death by a thousand cuts.  Many distortions build a false picture.
• There are relevant experts, but their incentive to challenge CBS is lacking.  Most of those writing on the Internet are driven by traffic.  It is not wise to "step on Superman's cape" so most experts will not do so.
• The evidence may not be obvious to the lay observer.  It is there, and quite understandable, but it requires a few minutes of reading.  This gets beyond the hurdle for most readers.  It is not the graphic "set shot" of the Rathergate memos.
• Superman can stonewall.  He needs only to act "put upon."  There is no incentive for anyone to challenge him.  In fact, the incentives are the opposite.  Suppose you are writing a relatively new blog for a MSM outlet.  Your success and your job are related to traffic.  Would you rather get some friendly recommendations from Superman or get into his Hall of Shame?

Conclusion

Abnormal Returns has raised on important and provocative question.  We suspect that he might eventually be correct.  It will require something far beyond his normal role.  The gatekeepers will need to be more like movie reviewer par excellence Roger Ebert, willing to criticize and review information instead of merely linking.  For the moment, the blogosphere does not have the self-correcting mechanisms that are needed.

Here is a simple test.  If the New York Times ran a story that had an error -- one that could be proven -- there would be a correction.

Do we see such corrections in investment blogs?

Financial Advisors and Individual Investors: Please help

Taking a helpful suggestion from friends, we have created a special page as a starting point for individual investors.  While our audience is diverse, we know from comments and email, that colleagues in the financial management business share our concerns about the challenges and pitfalls for the individual investor.

Please take a look at the new page, and fire away with any comments or suggestions.  We are especially interested in any prior articles that you found helpful.  We are also building an Internet Guide for investors who think it is wise to leave their financial advisor and get their own information online.

Comments welcome on this post, by email, or by telephone if the subject is complicated.

Thanks!

The Individual Investor Experience

At "A Dash" we let the big guys do the marketing research for us.  Television ads for online brokers indicate that "leading investors" are thinking for themselves instead of relying upon help from their former investment advisors.  Not wanting to be completely alone, however, investors want some help and comfort.  The online firms have "licensed representatives" available to offer help 24/7.

How is this working out?

We are interested in learning more about the experiences of individual investors who have decided to direct their own investments.  We are also interested in investment advisors whose clients direct all or a portion of their own accounts.

The information is for our book research, would be quoted only with permission, and names withheld in any references.  The names or email addresses will not be used for any commercial purpose beyond our research.  Please submit via our email address, at the top of the page on the left.

Questions

We are open to any and all observations, but the following questions might stimulate some thought.  There is no need to answer all of them.  It is just a list of ideas.  Feel free to raise or suggest any other questions.

How long have you been making your own investment decisions?

Do you stick to big issues like asset allocation, or do you pick your own mutual funds, bonds, and stocks.

Do you invest in ETF's?  Commodities?  Sell short?  Trade options?

What sources of information do you use in reaching your decisions?  In particular, do you read popular mainstream publications?  Do you watch financial TV or listen to radio programs?  Do you use stock screens?  Informational Internet sources?  Opinion and advisory sources?  What else?

How much time do you spend on your investments in an average week?

How many trades do you make in a month?

Do you follow a specific system?  What is your investment "style"?

How are you doing?  In particular, are you meeting your own expectations?  Do you check your performance records?

In a general sense -- say for the next six months or so -- do you see investment opportunity?  Are you bullish about stocks?  Bonds?  Commodities?

Why not a survey?

We have conducted professional surveys many times, both in the university setting and for consulting work.  A good survey starts with a good sample, and we are not going to get one.  There is no reason to infer a level of pseudo-science as one sees in some online polls.

We are simply interested in stimulating some opinions and comments about going it alone as an investor.  It is a reality check -- a way of finding out what works for people and what does not.

A little help from our friends

Thanks in advance to anyone helping with this project.  We will find some appropriate way to share some of the results on "A Dash" for the consideration of all.

Please do not be bashful.  We need to hear from a range of people regardless of their results.  Once again, please submit via our email address, at the top of the page on the left.

An Important Welcome -- and Some Housekeeping

Jackson Aaron Warbritton:  Welcome to the world!  Our congratulations to Renae and Jason on their new son, who has been described as beautiful and adorable.  The indications are that he will be tall, athletic, and attractive, like his parents.

Meanwhile, we are a bit short-handed, in spite of some valuable part-time helpers.

Thursday is the normal time for our TCA-ETF update.  We shall try to catch up on this when possible.

For the moment, those interested in the system should know that it now has a "buy" signal on 40 of the 44 ETF's and also on all of the major market indexes.

The top ETF's have not changed from last week.