Good vs. Best

July 22, 2010

Relative Strength is just that-a method of measuring strength not in absolute terms, but in relative terms. It is one thing to attempt to assign an intrinsic value to a given security in isolation and another thing entirely to assign a relative value, or relative rank, within the context of a universe of securities.

I am reminded of a line from the film Crocodile Dundee, when a street hoodlum pulls a switchblade against our hero, Paul Hogan. “You call that a knife?” says Hogan incredulously, withdrawing a bowie blade from the back of his boot. “Now this,” he says with a sly grin, “is a knife.”

One of the biggest challenges for an investor is to be able to make the best use of limited resources. After all, the value of every investment portfolio is finite. How can you be sure that you are allocating your finite resources to those securities that represent the “best” investment opportunities and not just “good” or “acceptable” investment opportunities?

The elegance of systematic relative strength models is that all securities in the investment universe are evaluated relative to every other security in the investment universe. With this knowledge you can be sure that each of the final holdings has superior relative strength characteristics and, therefore, gives you the best probabilities of successful investment results.

HT: Dan Ariely, Predictably Irrational

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Posted by Andy Hyer

Large Cap Stocks: “Once in a Lifetime Opportunity”

July 22, 2010

Your heart will surely tell you that Bill Miller’s arguments in Large Cap Stocks Represent a Once in a Lifetime Opportunity are insane. However, your mind may tell you that he just might be right.

The public’s distaste for equities is palpable and understandable. Negative returns for 10 years in stocks while “riskless” treasuries have soared, and right after one of the best 6 months treasuries have had in the decade, is more than enough to convince folks that stocks are just not where you want to invest long term.

Then there is the really long term. Long term treasuries as measured by the Barclay’s Capital Long Term Treasury Bond total return index have beaten equities as measured by the S&P 500 year to date, and in the 1-, 3-, 5-, 10-, 15-, and 20-year time frames. It’s a tie at 25 years. Over 20 years of consistently superior returns over stocks in an asset guaranteed by the U.S. government seems to be sufficient to drive a stake through the heart of the idea that you want stocks for the long term. Gentlemen and ladies both prefer bonds. Who doesn’t?

It is almost a tautology in capital markets that the best investments are those with the worst previous returns, where expectations are low, demand is down, and prospects appear at best highly uncertain. In 1980 bonds had been through a 30 year bear market relative to stocks, inflation was soaring, yields were at historic highs, yet expected to go higher, and a long bull market in bonds was at hand. The idea that U.S. interest rates would be at all time lows 30 years later would have been dismissed as ludicrous. The situation is now reversed, with stocks having underperformed bonds for decades.

The point here is simple: U.S. large capitalization stocks represent a once in a lifetime opportunity in my opinion to buy the best quality companies in the world at bargain prices. The last time they were this cheap relative to bonds was 1951. I was 1 year old then, but did not have then sufficient sentience or capital to invest. I do now, and if you are reading this, so do you.

His whole article is well worth the read. If Bill Miller is right, does your investment strategy allow for the flexibility to capitalize on the type of move in large cap stocks that he foresees?

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Posted by Andy Hyer

Fund Flows

July 22, 2010

The Investment Company Institute is the national association of U.S. investment companies, including mutual funds, closed-end funds, exchange-traded funds (ETFs), and unit investment trusts (UITs). Members of ICI manage total assets of $11.82 trillion and serve nearly 90 million shareholders. Flow estimates are derived from data collected covering more than 95 percent of industry assets and are adjusted to represent industry totals.

Another $5 billion was added to taxable bonds and another $3 billion was withdrawn from domestic equity funds in the week ending 7/14. For the year, $144 billion has been added to taxable bond funds while $23 billion has been removed from domestic equity funds. Hybrids, municipal bonds, and foreign equity funds have all seen modest inflows for the year.

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Posted by Andy Hyer

The Next Shoe To Drop? Perhaps Not.

July 22, 2010

For months, the talk about commercial real estate centered around the fear that this could be “the next shoe to drop.” With that backdrop, I was surprised to come across Jeff Fox’s recent article Commerical Real Estate’s Death Knell May Have Been Premature.

In the face of some otherwise-daunting obstacles, commercial real estate is proving to be an attractive area for investors looking for bargains as loans come due and foreclosures mount.

Analysts have been warning for months that commercial real estate could be the next shoe to drop in the subprime mortgage collapse that came to a head in 2008.

But with signs of thawing in the securitization markets and indications that investors are ready to come to auction when properties are on the block, the idea that the industry represents a major looming danger for the economy is losing traction.

My emphasis added. At the time that we were buying commercial real estate ETFs in our Global Macro strategy in early 2010 articles like this were nowhere to be found. However, we bought it anyway because that what we do-buy and sell securities based solely on their relative strength. Performance in the table below is for the period 7/21/2009 - 7/21/2010 and YTD through 7/21/2010.

One of the realities of employing relative strength strategies is that we often buy and sell securities well before such action is being trumpeted in the main stream media. Waiting for the blessing of the main stream media before taking action is a recipe for disaster.

To receive the brochure for our Global Macro strategy, click here. For information about the Arrow DWA Tactical Fund (DWTFX), click here.

Click here and here for disclosures. ICF, IYR, RWR and other real estate securities are current holdings in products managed by Dorsey Wright Money Management. Past performance is no guarantee of future returns.

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Posted by Andy Hyer