Using a System for Better Investing Success

Using “systems” to reduce risk and improve investing performance.

Using a system to manage your finances is critical and most often extraordinarily worthwhile – in terms of reduced stress and reduced losses. Being organized just makes you feel better and in control. I contend that your finances and your health rank as the top two areas of your life that are most important to your well-being. I will let the doctors help you with the latter concern. The last blog post I promised to address this topic, so follow along here.

Money management should be treated somewhat much different than most other work-a-day fields of study, as there are various roads to success (and failure). One size does not fit all. The landscape and markets change and force us to change along with them. Using a system should allow you to assess your track record if followed with discipline, to know why it did or did not work, and then to fine-tune it for better success.

So what are some ‘systems’ used? Two for today bear mention, and we'll dwell on technical systems. We’ll stick within the category of stocks since that’s the most popular vehicle for investing now-a-days.

The two broad types or categories of systems are FUNDAMENTAL and TECHNICAL. The difference? Fundamental systems deal with company-specific operational data such as earnings, sales, profit margins, dividends and the like. Filtering stocks that earn a 15% profit growth year-over-year would be criteria for your fundamental investing system. Or buying stocks that pay a 4% dividend yield and earn 10% on capital may be your criteria for this type of fundamental system. TECHNICAL systems use no company data; they rely on TRADING data for the stock as buyers and sellers trade it on the stock exchanges.

Mr. Toad's Wild Ride; Markets Fall Hard in 3Q

Mr. Toad's wild ride comes to Wall Street

At Disney World's Orlando theme park, a popular ride for many years was Mr. Toad's Wild Ride. The rail-based vintage car transports you through a 5 minute swirling journey banging into doors, creepy and devilish characters with scary music and noise. Towards the end, a  train light in the dark approaches you, and then you end up in; well - that place opposite of heaven. Luckily this all takes place in FantasyLand and all-aged riders escape back to daylight and reality in the end.

The latest quarterly period in the markets would have made Mr. Toad proud. If you're an investor, you won't be missing that stretch of 64 trading days one iota. It was a hellaceous ride - a long summer of increased volatility and gut wrenching price swings: when the final closing bell tolled at 11 Wall Street, New York, 13-15% had disappeared from most U.S. major stock averages. Don't get upset on my general bias of negativity - I'm just the messenger here today. It's warranted so we can learn and move on.
-
Dissecting the price action on the Standard & Poor's 500 Index, there was about an even chance to make money, sort of; if you could guess the up from the down days. Thirty-one days were gainers and 33 days losers. I can't recall a stretch of time where the market action resembled casino action. I was expecting the local brokerage office to place roulette wheels and craps tables in their lobby and take away the ticker-tape on the wall. One-third of the losing days saw price declines of 2% or more and 7 up days ran as high. The biggest gaining and losing days were +5% and -7% respectivly. Keep the bromo-seltzer nearby.

The quarterly mutual fund stats were released last weekend in the Barron's Financial magazine. Many mutual fund managers didn't fare well either, mainly since the funds they manage are mostly fully invested in stocks with little cash holdings and do not time the
market to reduce risk.

The laundry list by category: Diversified Equity -17%, Science & Technology, -17%, Financial Services, -21%, Global large cap, -17%,  International large cap and multi cap, -20%. With Europe in a mess of indecision (it's getting closer this week to meaningful reform decisions), Europeon objective funds fell 23%, China funds -26% and Latin America -25%. The bright spots (ahem, losing less) were Japan, -5%, U.S. Utility stocks, -6%, and precious metals, off 6%. Gold and silver, which ran counter-cyclical to U.S. stock prices most of the year, de-coupled after Labor Day, falling 15% and 25% respectively into month's end.

This 'safe haven' to offset risk had also went kaput. It's thought that the metals were sold to meet margin calls on borrowed shares (read: sell what's up, to CYA on what's going down). On a brighter notation, staying in bond mutual funds and related ETF's were risk averse places to camp last quarter. The safest debt, relatively speaking - the US's, rose 2-6% (total return: price gain + interest) for those bonds, while falling interest rates aided Treasury bills and notes gaining nicely (2-4%). Foreign and US high yield (junk) debt funds fell one-third to one-half as much as US stocks did, so little salvation there.

With the end of summer, more favorable investing trends could develop. It's a seasonably favorable time to own stocks (see my blog post, "Sell in May..." posted 4-30-2010; the link is http://moneyruminations.blogspot.com/2010/04/sell-in-may-and-go-away.html The November - April period is favorable for rising prices, as more than a few significant stock market lows have been registered in October-November, providing some favorable entry points to own stocks for impending gains through the winter and into Spring. In fact, since WW2, quarterly losses 14%+ have been followed by rebounds 89% of the time*. But as we've seen, prices rise and fall faster now in the claws of economic uncertainty globally. No two year's are quite the same using any system.

System - are you following one?
I believe it's important to follow a "system" for investing, a well-defined system. I didn't say a system that works well all the time (there aren't any). A system that works for your style of investing, time horizon and tollerance for risk. Professional gamblers know that you can be wrong on your bets 60%+ of the time and still make nice money. We faithfully follow a trend-following, low-drawdown system to make money when the markets are positive, and limit losses of capital when markets decline. We use technical (chart based) moving averages and stops, and some fundamental data in our ETF selections and percentage invested numbers. The more "rules" that you have in place with your system, the less you will rely on your emotions and "gut" to direct your investment decisions. Hope and prayer and not investing systems, by the way.

Our risk reduction system and strategies with client portfolios fared rather well in the period. We made about a dozen tweeks to our invested percentages, and wound up with losses no greater than 6% across the range of portfolios. In the next blog, I'll discuss some popular and do-able systems that could help you if you're a do-it-yourself-investor, or to hold your advisor accountable for the "system" that you're implementing now.

Be well until next post!
~Barry Unterbrink, CRPC

* Ned Davis Research

Market Linked CD's - Insured Safety with a Twist

Market Linked CD's - Want Your Cake, and Eat it Too?
An investors balance of risk of loss and earning income is a very tricky widget to get your hands around now. One idea: Market-Linked CD's, outlined in this space back in late June. This "safe money" alternative offers safety of principal with a stock market 'kicker' - to earn substantially more interest than traditional Certificates of Deposit. I'm revisiting it here since I feel it again deserves some attention for investors of many stripes.

The Market-Linked CD's are FDIC insured and a CD hybrid – offering safety of principal and perhaps some growth. This Certificate of Deposit tracks a basket of stocks (domestic or global) to determine the interest payments to you. There is no set interest rate – the rate will vary year by year. They are offered in 5,6 and 7 year terms. The price performance of a basket of 10 stocks determines the income you receive. Operationally, you add up the price changes on the stocks, divide by 10 and that’s it. There is a ‘cap’ or maximum that you can earn each year for the CD’s term. That’s because the principal of the CD is insured by the F.D.I.C., so certain parameters must be set to protect principal. Once interest is earned, it cannot be taken away. In years that the stocks perform poorly, you may have 0% interest credited. The CD’s are approved for both taxable and retirement accounts such as IRA’s. Low minimums to invest do apply.
Just across my desk, a new CD-linked to a basket of 10 commodities, including copper, corn, silver, sugar and wheat. This could prove to be a great way to combat commodity inflation with no downside risk to your insured deposit. Contact me to determine your specific needs - no obligation to meet with you.
Barry Unterbrink, CRPC
(954) 719-1151