Black Book Excerpt

Black Book Excerpt

The Black Book on Personal Finance

Set aside your pre-conceived notions of investing for the long run through traditional asset allocation models. As we have learned since the end of 1999, stocks don’t always go up. Strategies, like “buy on the dips”, that worked for the prior 25 years, are not appropriate in today’s dynamic and volatile market. It’s time for a new approach…

Rather than focusing on the hot trend or trying just to “beat the market,” investors should concentrate their efforts on crafting an investment strategy that can yield appropriate real, or “absolute” returns, year in and year out…

Too often, investment professionals talk about their performance in relative terms…Even financial planners or investment advisors (like me), who try to focus more on long-term goals and objectives, are often judged by our clients on our short-term performance relative to a particular benchmark. The problem is that this methodology rewards relative, not absolute, performance, and this can lead to mediocrity…

At the end of the day, you should be more concerned with the absolute return on your investments…not whether you were able to beat some index that may or may not have any real bearing on your investment philosophy…

It’s time to develop a new outlook and a new investment strategy that can make real money in good years and protect you from large losses in bad times. That strategy is dynamic sector rotation investing…

Broadly speaking, a sector is an industry classification. It describes the industry or country in which a particular company operates. Sectors can be country specific (like investing in China) or industry specific (like investing in oil and gas companies). Every publicly traded security…can be slotted into a sector…

When you are ready to develop a sector-based investment strategy, you must first choose the sectors in which to invest, then select the investments that will populate those sectors…With a sector-based approach, rather than maintain prearranged asset class weightings, you will invest the majority of your assets in those sectors of the market that you believe will generate positive results given the current market conditions…

The key to this form of investing is doing it properly. As with any strategy, be it market timing, indexing or classic asset allocation, if it isn’t done well, your returns will suffer. Sector rotation investing requires the investor to be aware of the economic and political forces that shape the current and future investment climate and invest accordingly. These forces are dynamic. Therefore, the investment strategy must be similarly dynamic…

So why is this important to you? To be honest, in good times, it might not be so important. When the stock market is going up, a rising tide tends to lift all boats. On the other hand, this strategy gains in importance during the rough times that we face today and possibly for the next few years. We are talking about your money here. This is neither an abstract concept nor a theoretical discussion. These are the funds you are setting aside to pay for college, weddings, homes, vacations, health care, retirement, or future generations.

Let me be very clear: losses on paper are real losses. If you buy a stock at $50 and hold it while it drops to $25, you have lost 50% of your money, regardless of whether or not you sold that stock. You will still need to double your money just to get back to break-even.

Therefore, you need to take the steps necessary to avoid the big losses whenever possible. One way to do that is to invest in those sectors of the market that have the greatest chance of yielding positive returns at any given time and to also invest in other sectors that will offer the greatest protection during difficult times…

This uncommon approach puts me in the minority of professional investment advisors, most of whom adhere to the traditional asset allocation methodology. It is my experience that most individual investors do too. As I mentioned [earlier], there is nothing inherently wrong with a general asset allocation strategy because it’s certainly better than no strategy at all and it can work fairly well in a bull market.

At its core, sector rotation investing is about being aware of the factors that shape the direction of the economy and the stock market, forming an opinion about the near- and long-term direction of the general market, forecasting sectors that will outperform during that period of time, then devising a strategy to profit from that anticipated movement. Simple, right? Not really; the devil is in the details.”

  • RSS
  • Facebook
  • LinkedIn
  • Twitter