Saturday, April 19, 2014

Bubble vs. Pricey

We’re starting to see stories that current Bull Market is long in the tooth and about to burst. It is important to make a distinction between being pricey and being in a bubble. When stocks are pricey it means that future returns are generally lower. A bubble means that stocks no longer have any connection to the real asset prices and the bursting of the bubble can result in price declines of over 50%. Is the stock market currently in bubble? Probably not? While the S&P 500 did gain 32% last year, the S&P 500’s Shiller PE is 25, which is higher than normal, but a long way from its dot com peak.



Friday, April 18, 2014

Until Proven Guilty

Virtu Financial Inc. describes themselves as an electronic market making firm. They are in the middle of an Initial Public Offering, but announced yesterday that they are suspending their efforts indefinitely due to the controversy surrounding Michael Lewis “Flash Boys.” The Atty. General of the State of New York has subpoenaed a number of flash trading firms for information on their trading activities and he describes the strategies of some of these firms as “Insider Trading 2.0. I think it is way too early to pronounce a verdict on an operation that is not fully vetted. The rap on high frequency traders is that they have knowledge of market orders before the public does. How does that differ from the way the NYSE specialists operate?


Thursday, April 17, 2014

Important Economic News

The Wall Street Journal reported this morning that lending is on the rise at the sixth largest money center banks in the country. Earnings reports show an 8.3% increase in commercial lending for the first quarter over the same period a year earlier. Lending by the big banks has been a drag on economic growth and an indicator of pessimism by the banks and the corporate community. The increasing level of lending could be a change in attitude by both the banks and corporations and it is important because it could lead to increased spending on workers and equipment. The article also hinted it could also be an indication that corporations may be anticipating that interest rates may start to climb from their current rock bottom levels.



Wednesday, April 16, 2014

Bogle On Mutual Fund Performance

Jack Bogle has written a journal article documenting his research on the impact that fees have on mutual funds performances. According to the article, fees and all of the costs associated with active trading reduce the investment returns of the average mutual fund by 2.66 basis points.  Comparing this with a low-cost index fund, Mr. Bogle estimates that an investor using a passive investment approach would end up with 20% more income at retirement age. He also has some interesting data on the impact of investors attempting to time the market. During the last 15 years the average large stock fund earned 4.5%. The average investor, trying to be in the right place at the right time, had an average annual return of 2.59%.


Tuesday, April 15, 2014

Better Intellectually Than Empirically

I’ve had conversations with dozens of people who ask me about a model their broker suggested to them that puts together mutual funds from different industrial sectors in the name of diversification. The implication is that by diversifying into different sectors you reduce risk. Intellectually it makes sense that when one sector suffers, others may fair better. It also is an opportunity for the broker to differentiate himself from his competitors and earn a few extra fees. From an intellectual perspective, I accept the argument, but recently I ran across data that indicates that since 2009, the 10 industrial sectors of the S&P 500 have averaged an 88% correlation to the index. This means that the sectors and the index move together 88% of the time and thus the costly diversification effort has little impact on portfolio volatility.

Monday, April 14, 2014

Seeing More Light

I have run across to data points that are beginning to make sense of the notion that a selloff in tech stocks could lead to a 250 point decline in the S&P 500. The Wall Street Journal reported today that the class A shares of Google have declined 12% since the 1st of March and that that movement accounts for 8.9% of the movement of the NASDAQ index. This make sense when you remember that the NASDAQ and the S&P 500 are cap weighted indexes and three of the biggest stocks in the NASDAQ are Google, Apple and Microsoft. Flip over to the S&P page and you will find that they are in the top 15. Because of their size they have influence which exceeds their number. Also remember that the is close to a $trillion in S&P 500 index funds so when the funds start to decline and nervous 401(k) owners liquidate, that further contributes to the decline in the index.

Saturday, April 12, 2014

Shedding Some Light

Jason Zweig’s column, along with a couple of others in todays’ edition of the Wall Street Journal shed a bit of light on what’s been going on the with the market this week. We do know that there was significant selling in some high flying tech stocks, but that does not explain the drop in the Dow and the S&P 500. One of the WSJ articles indicated that hedge funds were liquidating, not just tech stocks, but any stock they viewed as being risky. We know that the flash traders place orders for a small number of shares orders to discover whose buying or selling and at what price. Initially the small orders are filled which moves the market price and then when additional shares are sold the new lower price gets locked in and becomes the base price for the next round of selling. And remember that flash trading algorithms are pinging all stocks not just the techs.