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Friday, March 10, 2017

Warning Signs?

WSJ: (both articles on March 10)

Corporate Insiders Haven’t Been This Uninterested in Buying Stocks Since Ronald Reagan Was President

There were 279 insider buyers in January, the lowest in records going back to 198




Individuals Tiptoe Further Into Long-Running Stock Rally

Choice for some individual investors: miss out, or risk getting in at the top

Monday, March 6, 2017

What is in Those Value and Momentum ETFs?

My previous post noted the shift from value to momentum since the turn of the year. Below are top holdings and sector weightings for those ETFs.


MTUM Momentum

Top Holdings

Company
Symbol
% Assets
Facebook Inc A
5.44%
Amazon.com Inc
5.20%
Procter & Gamble Co
5.18%
Johnson & Johnson
4.71%
Microsoft Corp
4.43%
UnitedHealth Group Inc
3.62%
NVIDIA Corp
2.64%
Qualcomm Inc
2.59%
Alphabet Inc A
2.59%
Alphabet Inc C
2.51%



Sector Weightings (%)

SectorMTUM

Basic Materials

0.02

Consumer Cyclical

0.07

Financial Services

0.04

Realestate

0.03

Consumer Defensive

0.1

Healthcare

0.13

Utilities

0.07

Communication Services

0.04

Energy

0.02

Industrials

0.1

Technology

0.39



VBR Small Value

Top 10 Holdings (4.64% of Total Assets)

Company
Symbol
% Assets
Targa Resources Corp
0.56%
Huntington Ingalls Industries Inc
0.51%
CDW Corp
0.47%
Atmos Energy Corp
0.45%
Broadridge Financial Solutions Inc
0.45%
UGI Corp
0.45%
The Valspar Corp
0.45%
Steel Dynamics Inc
0.44%
Westar Energy Inc
0.44%
East West Bancorp Inc
0.42%



Sector Weightings (%)

SectorVBR

Basic Materials

0.07

Consumer Cyclical

0.11

Financial Services

0.2

Realestate

0.1

Consumer Defensive

0.04

Healthcare

0.06

Utilities

0.06

Communication Services

0.01

Energy

0.06

Industrials

0.18

Technology

0.1











VTV Large Value



Top 10 Holdings (27.62% of Total Assets)


Company
Symbol
% Assets
Microsoft Corp
4.41%
Exxon Mobil Corp
3.21%
Berkshire Hathaway Inc B
2.92%
Johnson & Johnson
2.84%
JPMorgan Chase & Co
2.80%
General Electric Co
2.43%
AT&T Inc
T
2.39%
Wells Fargo & Co
2.35%
Procter & Gamble Co
2.16%
Bank of America Corporation
2.11%





Sector Weightings (%)

SectorVTV

Basic Materials

0.03

Consumer Cyclical

0.05

Financial Services

0.24

Realestate

0.01

Consumer Defensive

0.09

Healthcare

0.13

Utilities

0.06

Communication Services

0.05

Energy

0.1

Industrials

0.12

Technology

0.12

Saturday, March 4, 2017

Phase 2 of the “Trump Rally” …. Getting Riskier?






There is no doubt that the markets have had a strong rally since election day. But the market movements since the turn of the year may indicate that the markets may have moved into a riskier phase where the forces of momentum, fear and greed have taken hold.



I always find amusing the explanations for short term expecially one day market movements. Often there are internal factors to the markets that are responsible for the large moves more than a news event; even though pundits point only to the news event. I am reminded of the episode described in a recent book on hedge funds in which the hedge fund needed to buy stocks simply to unwind a complex position that involved short positions in those stocks. As the stocks rose in response to their buying (which had absolutely nothing to do with the specific fundamentals of the companies) they laughed as they looked up at their television screens and watched as pundits gave “fundamental analysis” of the companies to explain the rise,

In my view, something similar happened during the one day move up of 1.7%   in the S+P 500 the day after Trump’s speech to Congress. Somehow a “more Presidential” tone a more businesslike blue tie substituted for the red ones he usually preferred and a list of proposals short on specifics and sure to face a tough time in Congress with at best implementation over a period of months if not a year “explained the move”.



A more nuanced approach would take account of internal issues within the market and behavioral factors.

 For example, the “implied volatility “(VIX) has gone up as the market has risen. The VIX is generally referred to as the “fear index”. But more correctly it reflects the price of options and while it is certainly a fear index when the price of downside protection options(puts) goes up, an increase in demand for options that increase in market value when markets rise (call options) can also cause an increase in the VIX. One popular strategy among investors has been the “covered call” in which the investor owns the stock and sells a call option at a strike price above the current market price with the investor collecting the option premium. Such a strategy is very attractive if the stock remains stable or rises modestly…the investor collects the extra money from the call premium and the call premium gives a bit of a cushion against falls in the stock’s value. But when the market rallies sharply and the stock price moves above the strike price the short call rises in price and the investor is unable to profit from the large rally in the stock price. As investors rush to buy back the short (sold) call options demand goes up as does implied volatility (VIX). And the call buying creates a cascading effect creating further demand for the underlying stock or index.



Other factors unrelated to the “more Presidential tone” in a single speech are related to investor behavior No doubt a one day market move leads to short covering by those leveraged traders that had positioned themselves to a market decline. And one cannot underestimate the behavior of investors “professional” and individual who anxious not to miss out on the party who “throw in the towel” and buy stocks…even at record highs.

During Wednesday’s rally, the Dow Jones Industrial Average shot up more than 300 points, carrying blue chips over 21000 for the first time in history. The Dow closed at 21005.71 on Friday.
On Wednesday, $8.2 billion in new shares were created in State Street Corp.’s SPDR S&P 500 ETF, the market’s oldest and largest fund. Daily fund flows can be volatile, particularly in this $250 billion ETF, which State Street said is the most-traded security in the world.


Big institutional investors use the ETF to put cash to work in a variety of ways while they select individual stocks.
That wasn’t necessarily the case Wednesday, said Matt Bartolini, head of SPDR Americas research for State Street. He examines daily flows in a larger context, looking at trading in options, futures and other ETFs to determine if a one-day flow is part of a larger trade. While there was some options activity Wednesday, it wasn’t enough to explain the big inflow, which was the ninth-largest in the fund’s history.
“One-day flows around market events, like [President Donald] Trump’s address to Congress, can be indicators of market sentiment,” Mr. Bartolini said.
Still, such enthusiasm on the part of retail investors, after years of apathy, could be a reinforcing sign that the yearslong rally is getting tired. Wall Street lore has it that individual investors are often late to step in or out of the market.






One way to see the difference in the market behavior in the period from election to year end and that of 2017 is to look at “factor/smart beta” ETFs. These ETFs some newer and some that have been around for quite a while overweight stocks with specific characteristics.

Evidence is quite strong that two factors: value and momentum have long term outperformance over traditional cap weighted indices. And the two factors can be complementary as each factor shows strong performance under different periods and market conditions.

 I think the best explanation is behavioral: value stocks outperform because investors tend to get over pessimistic on stocks pushing their prices down below levels that could be justified by their fundamentals. As the great value investor Benjamin Graham wrote “in the short term the market is a beauty contest in the long run it is a weighing machine”. Value ETFs include Vanguards large cap Value ETF (ticker VTV) and small cap value ETF (ticker VBR)



Momentum strategies form a way to take advantage of the “beauty contest” aspect of markets by holding stocks that have strong upside price momentum and selling them when the momentum slows even before the stock declines in value or selling when the price movement reverses. The largest momentum factor: ETF has ticker MTUM
So, it is interesting to see the two phases of the post-election market rally by comparing the overall US stock market (ticker VTI) with the large cap value ETF VTV the small cap value ETF VBR and the momentum ETF VBR.
Here is what the price movements looked like from the day after the election through end 2016 (the line graph shows performance, the bar graph both performance and volatility. The colors are same in both charts). Value performance massively exceeded momentum which increased in value only .5% far below the overall market and the value indices which also outperformed the overall market (Vanguard total stock market ticker VTI)








The market since the beginning of 2017 shows a totally different story: a massive outperformance for momentum stocks…in other words a major reason for the stocks that are outperforming is that they are already going up….in other words a major reason for the market going up since the turn of the year is the “beauty contest”.





during the day from its IPO price. The bulls are counting on Snap performing post IPO like Facebook


 while bear race concern ti will look like twitter post IPO.



:



There are plenty of cautionary signs.

The IPO is unusual in that investors aren't granted voting rights for the shares on offer. Instead, Spiegel and Murphy own the bulk of shares with such power.

Snap isn't making money, even though it's a huge hit with mobile users, averaging nearly 160 million visitors daily and nearly 10 billion video views daily. The company lost $514.6 million on sales of $404 million in 2016, and user growth has slowed. Investors can't tell if it's another Facebook, on the way to giant user growth, sales and profits, or the next Twitter, whose tepid user growth has disenchanted advertisers and kept it in the red.

Among the optimists, Doug Clinton, an analyst with Minneapolis-based Loup Ventures, thinks Snap could grow revenues 100% to $800 million in 2017 and says Snap is smart to position itself as a camera company.

I have no idea how SNAP stock will perform in the future nor do I place much faith in short term market forecasts. Mine or anyone else’s. But I am sure that long term investors benefit from the following:

Not market timing

Sticking to a long-term allocation



Rebalancing their portfolios which leads to selling parts of their portfolio that have increased in value and buying those that have underperformed.



But time after time shows that investors professional and otherwise tend to chase markets and buy high and sell low…. phase two of the “Trump rally” may be one of those examples.

A recent research paper for Financial advisors from Vanguardbased on their research on fund flows through January 2017(and those trends doubtless continued) reached similar conclusions:





Investor risk: Pedal to the metal ... or not so fast?

Key highlights
Our risk speedometers show that recent months echo a common trend: As stock prices rise, so does investor willingness to take on risk.
·         The strong inflows to riskier assets can further increase investors' risk profiles, exposing their portfolios to even greater downside risk. This is particularly concerning, given the current market conditions and our guarded outlook.
·         This may be a good time to review your clients' portfolios to make sure they're not overly vulnerable in the event of a market correction. Rebalancing can help reduce downside risk.


·   


We've long tracked industry cash flows to develop insights into what investors, collectively, are doing with a substantial portion of investable assets.1 Our risk speedometers—our unique lens on investor behavior that we introduced last month and have updated with January data below—and related cash-flow research also highlight trends that may not be apparent in raw cash-flow data. The result is a nuanced picture of how investors are responding to market developments. These nuances sometimes reveal that the reality of investor behavior is more complex than conventional wisdom suggests.

Global equity markets continued their upward trajectory in January, with the FTSE Global All Cap Index returning 2.7% for the month and 6.2% for the three months ended January 31. To no one's surprise, industry cash flows favored riskier asset classes, including U.S., international, and sector equities. In January, these funds and ETFs, netted more than $31 billion, bringing their three-month net cash flow to nearly $100 billion. This is the largest three-month net investment since December 2014 and the ninth-largest in history.



          









                                                                                                        












     
  

Wednesday, August 24, 2016

Why You Shouldn't Pay Attention to Short Term Market Movements and News..A Great Case Study...

I'm back after a bit of a summer hiatus

Exactly two months ago the British voted to "Brexit" leave the European Union. This was almost universally regarded as a worst case outcome with disastrous long term consequences for European stocks. European stocks fell a mouth dropping 10% the day after the vote....and where are we a mere two months later ? As can be seen in the graphs below European stocks (etf VGK) and German stocks (ETF EWG)  and even the UK (etf ewu) have recovered entirely from the drop on August 25 in response to the Brexit vote. The Euro is virtually unchanged against the dollar ...only the British pound shows a sharp fall since the Brexit vote.

The lessons from this. Certainly it shows the perils of attempting to time short term market movements or pay too much attention ot headlines. In fact for some disciplined long term investors that pursue rebalancing the sharp drop in European stocks could have presented an opportunity to actually add to an allocation in European stocks that might have become underweighted vs. target due to market movements.
VGK European Stock ETF
EWG German Stock ETF

EWU UK Stock ETF

British Pound/$ Exchange Rate

Euro/$ Exchange Rate


Sunday, May 29, 2016

How Is Your Diversification Doing ? Here's How to Find Out..and Why One can Never Get a Good Answer to that Question with Actively Managed Funds

The American Association of Individual Investors (AAII) has published an excellent article on the importance of portfolio diversification and ways to check it in your portfolio.


Since AAII is a group of  "do it yourselfers" who tend to devote significant time to their investments the article is geared to making use of available tools on the web and doing the analysis oneself.

Most investors haven't taken the time to become "investment nerds" and would prefer to have the analysis done by an investment professional and even those that have may want a "second opinion".

Advisors (like myself) have access to tools more sophisticated than the ones mentioned in the article and can generate an analysis not only giving an evaluation of your current portfolio..but also with specific recommendations for a more diversified..and often lower cost alternative.

Note that with a portfolio of actively management funds one can never know how diversified a portfolio is. Managers change their holdings and often report them only quarterly A true diversification analysis would have to be constantly updated to keep up with changes...and if one makes changes to make the portfolio of active funds more diversified it is like chasing shadows you never can know the real consequences of your changes

Contact me at lweinman@lweinmanadvisor.com if you are interested in such an analysis either in Southern California or Israel in person or via email/skype from anywhere else.

From the AAII (in italics my bolds) full content is herehttp://www.aaii.com/computerized-investing/article/Is-Your-Diversified-Portfolio-Truly-Diversified?a=weekly05172016nm&acc=o

Why is Diversification important ?

The best argument for mutual funds is that they offer safety and diversification. But they don't necessarily offer safety and diversification.—Ron Chernow

Mutual funds—and more recently, exchange-traded funds (ETFs)—have offered safety and diversification by allowing individual investors to buy shares in many companies in order to spread risk. It is important for investors to understand what role they play and what role the fund managers’ play in ensuring proper diversification of their portfolio. Additionally, investors need to understand when fund companies fail on proper diversification, how that results in improper diversification and what impact that could have on their portfolios. We highlight what diversification is and why it is important, then discuss why an appearance of being diversified may not mean that your portfolio is truly diversified. Finally, we identify ways that fund managers and investors can damage their portfolio diversification.

The Importance of Diversification

Diversification reduces risk by allocating investments among various financial instruments, industries and other categories. The theory is that some assets will outperform in certain scenarios while underperforming in other scenarios. The benefits of diversification will hold only if the securities in the portfolio are not perfectly correlated. Correlation is a statistical measure of how two securities move in relation to each other.

Research supports this contention, as is illustrated by the paper by William Goetzmann and Alok Kumar, “Equity Portfolio Diversification,” from the National Bureau of Economic Research. The authors found that investors who held the least-diversified portfolios in a pool of investors earned far less than the most-diversified group of investors....

The study determined that the least-diversified (lowest decile) group of investors earned 2.4% lower return annually than the most-diversified group (highest decile) of investors on a risk-adjusted basis. The economic cost of under-diversification was higher for the group of older investors, where the risk-adjusted performance differential between the least-diversified and the most-diversified investors was 3.1%

What Can a Portfolio Analysis Do For You ?

Checking Your Diversification: An Example

For example, with a four-ETF portfolio that includes iShares Russell 2000 ETF (IWM), SPDR S&P 500 ETF (SPY), Vanguard FTSE All-World ex-US ETF (VEU) and Vanguard REIT ETF (VNQ), I have assembled what, on its face, appears to be a reasonably well-diversified portfolio.
For the purposes of this illustration, the holdings are equally weighted in terms of the number of



ETFNumber of SharesPrice per ShareTotal Investment ($)Percentage of PortfolioBeta
IWM100116.5511,65526.21.27
SPY100200.1020,02045.01.00
VEU10051.435,15311.61.19
VNQ10075.857,59517.10.94
Portfolio400--44,42399.91.09


Analyzing Portfolio Diversification In-Depth A Case Study

Using analytical tools which examine not just the actual holdings of the ETFs and funds in a portfolio not simply the categories given to the funds by the management firm gives a true picture of the portfolios diversification. Such an analysis can also take into account any individual stock holdings as well 

International diversification. A well diversified portfolio should be allocated around the world. The US makes up around half of the worlds market capitalization. While some would argue for a geographical allocation there is no one answer. Many experts see 20-30% as the optimal % of non US stocks to hold in a portfolio. Few would recommend a portfolio with no non US stocks. And within the non US stocks most if not all experts advise a mix of developed and emerging market stocks.

While an all ETF portfolio will generally be transparent  with  regards to geographic allocation ( a US stock ETF will not hold non US stocks) that is not the case with actively managed funds which are often if not usually allowed under the terms of their prospectus to invest with a different geographic mix than the ostensible fund category (a US stock funds investing in emerging market stocks for example)

For portfolios with bonds the same would be the case. A "go anywhere" actively managed bond fund or ETF may invest in bonds anywhere in the world while a bond index fund or ETF must match the specified index.

Here is what an analysis of the above portfolio would look like

The analysis  shows us that 89% of our sample ETF portfolio is U.S. stocks (Figure 1). This may or may not be a geographic diversification issue, depending on your risk tolerance.

Stock Diversification by Sector

An indepth analysis can also look inside the porfolio and check for other types of diversification

The analysis ..

indicates the sector percentage for the companies held by the ETFs. For example, it indicates that 47% of the companies represented in the portfolio are in a cyclical type of sector such as basic materials or financial services (Figure 2). Again, as an individual investor it is important to understand what your risk tolerance is compared to what the tool is showing you. Cyclical sectors can perform quite well when the economy is expanding, but can perform quite badly when the economy is weak. The holdings for a benchmark, typically the S&P 500, are also provided for some perspective....
What you are likely to see is significant differences between weights by sector for the broad index compared to your holdings. It is important to understand how those differences can affect your portfolio. For example, as we mentioned above, our self-constructed portfolio has 47% of its holdings in cyclical companies. The S&;P 500 index maintains only 31% in cyclicals. That is a very significant difference and will affect returns and volatility

In the example here the portfolio is comprised solely of ETFs but many portfolios include actively managed mutual funds and individual stocks making this type of "xray' analysis more important in understanding a portfolio's diversification.

In some cases an advisor might advocate changes in the portfolios's holdings to reduce a high allocation to a particular industry because of holdings in company stock or options. Because of taxes or other restrictions it might not be practical to sell the company stock so other adjustments can be made with a portfolio of transparent ETFs.

Figure 2. Sample ETF Portfolio Sector Breakdown
Source: Morningstar.com X-Ray.

In the case of our presumed “well-diversified” portfolio from above, we can see immediately on the X-Ray report that a critical error was made during construction of the portfolio. By equal-weighting the ETF shares in our portfolio, the report shows that we have 10 times the weighting in real estate that the S&P 500 has (Figure 2). In addition, we were apparently not aware that broad ETFs like SPY and others hold real estate. While REITs have, since 1971, returned 11.9% per year on average according to Ibbotson Associates (second only to small-cap stocks) and allowed investors a liquid way to gain exposure to real estate, this is more allocation to REITs than we thought. Being heavily overweight in real estate makes the portfolio vulnerable to the vagaries of that asset class. Is that what we thought we were getting? No? Surprise!

The above example shows the "surprise' high weighting of real estate in the ETF portfolio. Doing a similar analysis on a portfolio with actively managed funds is likely to lead to even more"surprises"

Style and Market Capitalization:

Although not included in this article a portfolio analysis will also show the breakdown of the portfolio by size market capitalization and valuation measures. A diversified portfolio should include large and small cap stocks but an analysis of a portfolio may show a very low representation of small and mid cap stocks.

I have written about the perils of market capitalization portfolios that are top heavy with large cap growth stocks. A portfolio analysis can give an excellent idea of the actual holdings of the portfolio broken out by categories such as large small and mid cap and value vs growth stocks. It can also give specific etrics such as market capitalization, price earnings ratio and price to book.

There is a significant body of research showing that over the long term value stocks especially small cap value stocks outperform the market capitalization weighted indices. This analysis can show if a portfolio is positioned to take advantage of this potential outperformance.

Don't Forget the Bonds

A diversification analysis can also breakdown the bond holdings in a portfolio in terms of geographical diversification, maturity/duration , types of bonds and credit quality. Without performing an analysis of an entire portfolio it is impossible to know the potential impact of changes in exchange rates, economic conditions,and interest rates on a bond portfolio.

This analysis is particularly important if a portfolio includes an actively managed mutual fund where even a fund labelled a US Investment grade corporate bond fund might hold non US corporate bonds. In the case of "go anywhere' bond funds getting a handle on the actual portfolio allocation is even more important.


The Added Perils of Using Actively Managed Mutual Funds in Both Stocks and Bonds.

Actively managed mutual funds frequently have "style drift" in which their holdings differ from the category label of the fund for example a small cap value stock fund with a significant allocation to large cap growth stocks.

The same holds true for bond funds which may drift out of their style category. "Go anywhere" bond make understanding a portfolios bond diversification difficult if not impossible since they can drastically and frequently make major changes in the portfolio for instance going from a zero weighting in non US dollar denominated emerging market bonds to a significant weighting.


 Additionally since the fund is "actively managed" an analysis such as the one may be instantly out of date . In fact since actively managed funds report their holdings with a lag the portfolio analysis likely wont even reflect the actual portfolio at the time of the analysis (which of course can only be based on reproted data). In other words even with this great analystical tool creating a properly diversified portfolio of actively managed funds is like a game of "whack a mole" everytime you correct a lack of one type of diversification another cause of poor diversification emerges.

Analysis Must Be Combined with Action

The in depth analysis here is not a mere academic exercise it is a tool to show where changes need to be made to create a properly diversified portfolio.

A complete diversification analysis such as the one I perform for clients presents a before and after portfolio. That means an analysis of the diversification of the existing portfolio and recommended adjustments to make the portfolio more diversified..and another report similar to the one descirbed here analyzing the proposed portfolio after changes are made.

Rebalancing: Wash Rinse Repeat

The movement of the various holdings in a portfolio can drive a portfolio away from the target allocationa and level of diversification. An annual diversification analysis can keep the portfolio in line with the proper level of diversification by showing where rebalancing needs to be done.

The AAII article concludes:

Summary

We have learned that while portfolios can be constructed that appear to be diversified, digging deeper can show that the diversification is not appropriate for the investor’s needs. It is incumbent upon the investor to educate themselves not only on how to construct a well-diversified portfolio, but also on how to keep it well-diversified over time. While a fund manager may take actions that can result in improper diversification for the fund’s investors, there are things that investors can do to minimize the chances of improper diversification. Actions such as monitoring correlations and automatically reinvesting dividends, while not huge actions, can pay off in spades by keeping the portfolio appropriately diversified. The key is to be an educated investor.