Riding The Mini-Market Cycle... Wheeee

Hindsight can paint many different pictures

by Steve Selengut

Let’s take a look at those few months and examine an investment strategy that thrives on cyclical (even short term “mini” cycle) change.

Why would an experienced investor choose to look back at short term numbers? What can we learn, without falling into the abyss of speculation that dominates daily market explanation, prediction, and analysis?

What impact do these numbers have on actual and soon-to-be retirees?

Personally, I use “mini cycle” numbers to confirm and to fine tune the process I’ve used for decades to manage private investment portfolios… harvesting profits when they are ripe and sowing the “pro-seeds” only in high quality securities that have fallen from market value grace.

• Unaffected by market or IRE (Interest Rate Expectations) caused volatility, the long term, QDI based, asset allocation formula directs two purpose based buying decisions.
• The purpose of buying lower risk IGVSI equities is to produce capital growth through profit taking, while income purpose securities are purchased to produce, and to grow, a dependable stream of income.
• Two classes of securities; two distinctly different objectives; all produce income and all are for sale at targeted profit points.

Occasionally, short term market behavior provides striking evidence that this long term, market cycle based, process is not quite the dinosaur Modern Portfolio Theorists would say it is. Market Cycle Investment Management (MCIM) is much too simple and straight forward for investment scientists, but

… oh does it produce working capital and realized income growth for investors.

Roughly Eleven Months Ago (5/21/15)…

The S & P 500 closed at 2130.82… the last All Time High (ATH) of 2015. The subsequent shallow, but volatile, downturn has become the longest broad market hiccup since the financial crisis ended March 9th 2009.

In spite of the recent “after party” atmosphere, the long-term numbers just aren’t that impressive. In nine years:

• The S & P 500 has gained just 32% vs. a 36% gain in much less risky IGVSI companies, while producing spending money of less than 2%; at the same time, Closed End Income Funds have been producing more than 7% per year in spending money.
• At a 4% “retirement income” withdrawal rate, S & P based “Working Capital” has decreased by roughly 50%, while CEF “Working Capital” has risen nearly 50%… even using a twenty per cent higher, 5% withdrawal rate.
• MCIM retirement portfolios contain only dividend paying companies and income producing CEFs. All securities are traded for “target profits”, all of the time, adding to the spendable income and/or the working capital. Neither the S & P nor index ETFs are traded.
• The NASDAQ market is roughly 6% below where it was, not nine, but sixteen years ago… and NASDAQ securities are a significant portion of all Mutual Funds and ETFs while they produce hardly any income.

Nine Months of “Volatility” (5/21/15 – 2/11/16)

Volatility is the “genome” of most marketable securities… it has always been there, and always will. Price change is a fact of investment life, a good thing, an understandable thing, a given that even MPT worshipers must learn to expect, not to fear.

A market that produces price fluctuation is normal, even when the volatility has a wider than normal range. Volatility is neither bad nor good, regardless of its direction. It is part of the investment playing field (like home runs and errors)… all part of the process, all part of the experience, all part of the opportunity.

Market volatility needs to be embraced, not fixed, smoothed, dealt with, or feared… except by speculators.

And the solution to this non-problem is simple, logical, and easy to implement in a risk minimized fashion… so long as the basic principles of investing are followed.

The QDI, cost based asset allocation, and targeted profit-taking are the five principles I have in mind.

On February 11th, the S & P struck an intraday low of 1810, 15% below its most recent ATH, and a level not visited in two years. Early on, the pummeling of energy and utility companies was the correction catalyst, with nearly 40% of all “IGVSI Bargain Stocks” in these two sectors alone. Did you buy or sell?

• By year end, 20% of S & P’s best ranked NYSE companies were down an average 29% from 52-week highs; 40% by January 20th, and 41% at the February low… big “BUT”, the composition of the Bargain Stock listing had changed:
• Only four of the 135 securities down an average 31% were Energy/Utility Sector residents (CVX, TRN, HP, and HE). What!

Yes, other energy sector companies were still down more than 20%, BUT, they had recouped enough of their prior losses to no longer qualify as bargains.

So what analytical good are these market environment numbers without the corresponding set of transaction statistics that report on management action during the fray?

Note: it is extremely likely that neither ETFs nor Mutual Fund programs took any of the correction motivated actions that produced the results described below: it is extremely unlikely that many individual/401k/IRA investors experienced any of the results described below.

Peak to Trough

The first group of figures (unaudited, but supportable) speak to the period from 5/22/2015 through 2/11/16… i.e., “peak to trough”, once a standard form of performance analysis

Keep in mind that MCIMers buy only S & P’s highest ranked dividend paying equities when they move down 20% or more from 52-week highs, and sell them as soon as target profits are realized… so, while market values crumbled,

• MCIM’s disciplined trading produced realized gains on roughly 107 equities and 7 equity CEFs; 12 REITs and MLPs also contributed realized profits.
• The very scientific, and extremely technical investment term for “one-year’s-income-in-advance”, or 6%, profits on income purpose securities, is… GRAVY.
• GRAVY was served up on 14 Taxable Income CEFs, and a remarkable 60 Tax Free Income CEFs… bringing the total “realized profits” club to 200 issues during the nine month debacle.
• All profits in addition to the dividends and interest paid on every issue.

So, looking closely at the recent past, and the “mini market cycle” that by 3/21/16 was less than 100 S & P “ticks” from becoming reality, MCIMers should be feeling pretty good about their process.

Hindsight, when used to test an action model (as opposed to a theory), can be productive… without ever a coulda’, woulda’, or shoulda’. The wisdom of targeted (short term, even) profit taking is clear:

• 42 of the 107 stocks sold profitably were Energy Sector companies, all were IGVSI companies, and most were probably sold within three months of purchase…

Hindsight shows clearly that trading is not a four letter word. The increased working capital produced by capital gains and income from every security owned provides permanent gains in productive capital, while total return and market value numbers are always illusory…

Hindsight underscores the usefulness of growing portfolio income that can be used to take advantage of new opportunities, and the warm and fuzzy feeling one gets from owning only those risk minimizing securities that are ranked highest in fundamental quality.

• The February 12th IGVSI “Watchlist” of stocks down 15% or more from 52-week highs included 61 companies rated A+, A, or A- by S & P…. its three highest (warm and fuzzy) quality rankings.

And perhaps most useful, short-term hindsight reminds all retirees invested in mutual funds and ETFs that nine of their last ten monthly payments were taken totally (instead of just partially) from invested principal.

NOTE: None of the numbers and percentages in this article are audited or reviewed; the data used is available for onsite examination.

February 12th thru March 21st (trough to almost peak)

On February 12th, someone hit the “RESET” button, and by March 21st, only 9 IGVSI companies were “Bargain Stock List” worthy, down an average of 27%, and not an energy sector stock in the mix.

Today, March 25th, the S & P remains less than 100 ticks from a new all time high (i.e., 10 months negative)… and no one knows when or if a new high will be established. But what has the investment process you use accomplished during the 38 days between the most recent market low and the ten month anniversary of the mini-market cycle?

Has it been additional catch up while you claw your way back to May 2015 levels, or did you participate in working capital, portfolio building, income enhancing transactions?

Here are MCIM Process benchmark numbers, February 12th through March 21st:

• Trading gains were realized on 67 equities and 6 equity CEFs; plus 9 REITs and MLPs
• “One-year’s-income-in-advance” profits ( i.e., GRAVY) was tasted on 17 Taxable Income CEFs, and 28 Tax Free issues… a “realized profits” club of 127 in a less than six week rally.
• Again, this addition to the dividends and interest paid by all.

Hindsight can paint many different pictures… the MCIM user picture is the one without the couldas, wouldas, and shouldas.