Market Decline Perspective From Gary P and Bill O'Grady

Good morning.  The U.S. stock market has declined significantly this week, reacting to several factors.  I believe the markets must "correct" occasionally (dropping 10% or so from recent highs), and it's been a long time since that has happened (~mid-2011).  This may be the time for it, and we could be a good deal of the way through it already.

Still, I recommend long-term investors remain invested and diversified.

Trying to time the market is risky and the results are usually not successful.  There is Nobel Prize-winning research supporting the "asset allocation" methodology I employ for most of my clients' long-term money (retirement, college savings).

As is often the case, Bill O'Grady of Confluence Investment Management offers a brief and helpful view of current conditions:  http://confluenceinvestment.com/assets/docs/2015/daily_Aug_21_2015.pdf

If you have any questions, please contact me.  Thank you, and happy Friday!

--Gary

P.S.--Are you prepared for financial emergencies?  Let's make sure we're evaluating your cash reserves, your Disability Insurance, your Life Insurance, and your estate plan.  I don't sell insurance and I don't draft legal documents, but I will coach you on how to make sure you buy the right product and have the right documents in place.  No charge--it's part of the value I want to add to the investment advice already being provided.

Garo Linck Partoyan

Potomac Wealth Strategies, LLC

(703) 746-8195 direct

Visit us online for helpful ideas and information!

message to clients 8/9/11

Good morning.  As you probably know, yesterday the S&P 500 index was down -6.7%.  The Flex portfolios I use for most of my clients fared better.  For example:

80 Flex III:  -2.9%
60 Flex III:  -2.4%
40 Flex III:  -1.9%

Meanwhile, for the Quarter-to-Date (7/1 – 8/8), the S&P 500 is down –15.1%, and the Flex portfolios have again fared better:

80 Flex III:  -5.9%
60 Flex III:  -4.6%
40 Flex III:  -3.2%

Some clients have asked about going to cash or seeking shelter, and the Flex portfolios have already been doing quite a bit of that for us, as I reminded everyone in some recent messages.  Right now, the Stock-Bond-Alternatives-Cash allocation percentages are approximately:

80 Flex III:  50-10-15-25
60 Flex III:  35-15-15-35
40 Flex III:  25-25-10-40

(So, even the portfolio that normally aims to be 80% in stocks is only about 50% in stocks now, and the Flex portfolios are holding ~25% or more in net cash.  Each mutual fund in the Flex portfolios has its own range of investment discretion, so the cash on-hand in those funds is ready to be invested whenever their managers see fit.  When a market declines broadly like this, many stocks become significantly undervalued, so having cash on-hand for opportunistic investing is one of the great advantages delivered by the funds in our Flex portfolios.)

Anyway, the Flex portfolios are demonstrating superior performance compared to the stock market.  They did so also in the market's terrible 2008 through early-2009 period.  They also recovered impressively after that.  And the 3-, 5- and 10-year track records of the Flex portfolios are double or even triple the annualize performance of the stock market.

Thus for long-term investors, it is sensible to stay the course with a global/flexible portfolio instead of trying to time the market.  Having said that as your investment advisor, I recognize it is your decision if you wish to make any changes.  If you do, let’s discuss it and go forward.

In any case, please contact me with your questions or thoughts.  Thank you!

--Gary

(FYI, my own retirement portfolio is in 80 Flex III—I have a pretty strong risk tolerance and plan to be working and saving for the next 25 years.)

Garo Linck Partoyan
Financial Advisor
Potomac Wealth Strategies, LLC
(703) 746-8195
Garo.Partoyan@PotomacWealthStrategies.com
www.PotomacWealthStrategies.com

message to clients on 8/5/11

Good morning.  The US stock markets fell more than 4% yesterday and have now reached the point of "correction", which is 10% down from recent highs.  A "bear market" is 20% down from recent highs.

Since 1962, there have been 25 corrections and nine of them have turned into bear markets.  That's not much different than a coin flip for those who are wondering if we should ride this out or seek shelter.

So, I am providing two items for you to read and consider.  One is attached, and the other is linked here:  http://latimesblogs.latimes.com/money_co/2011/08/stock-market-correction-bear-market-wall-street-birinyi.html

The linked article offers some perspective on market history, while the attached guest-blog by PIMCO's Mohamed El-Erian offers probably the best overview I've seen on the conditions that are fueling this market volatility.

MY ADVICE:  if you think the USA will go back into recession and a bear market will come with it, we should exit or put protections on our equity (stocks) positions; if you think this correction has more to do with the market being overbought, perhaps artificially-inflated by "quantitative easing" programs from the government, then it is okay to keep the equities allocation.

NOTE:  thanks to the nature of the Flex portfolios, most of my clients are holding much more net cash than would be normal; while we are "fully invested", the funds we're using are not, so the professional portfolio managers working for us have more "dry powder" than usual, either for safety if things keep going badly or for opportunities if the correction ends and markets stabilize or move up again.

As always, please let me know if you have any questions.  If you want to make a portfolio move, please call me or e-mail me.  If you do not hear from me within a few minutes, please don't hesitate to call Schwab's Signature Services Alliance team at (800) 515-2157.

Thank you.

--Gary


Garo Linck Partoyan
Financial Advisor
Potomac Wealth Strategies, LLC
(703) 746-8195
Garo.Partoyan@PotomacWealthStrategies.com
www.PotomacWealthStrategies.com

What We Expect for 2011

I expect continued market volatility, for economic and political reasons.  This week's debt ceiling stuff is just part of the big picture that I think is already driving the ship.

Developed-market countries are laden with debt and suffering from declining, or no-better-than-anemic economies.  At some point, some major currencies could really devalue and the bond prices of the world's traditionally "best" economies could tank when the interest rates spike in the auction markets as they issue unprecedented amounts of new debt (via government-bond auctions) to fund their ongoing deficit spending.   The USA is not inherently exempt from this just because we're the greatest economic power in history.  Just ask the Romans and British about the notion of indefinite staying-power.

My best ideas for this year:

• opportunistic stock-picking (let's look at that--I like C, VCM, RIG, F, GM and some techies right now--seems they are under-valued and could skyrocket)
• opportunistic commodity bets (gold should go up, oil should go up, copper goes up especially if the USA recovers better than expected)
• global/emerging markets bond picking (as the Asian and other developing markets grow stronger, they can pay lower bond interest rates, boosting bond prices; and countries with rising rates, while posing risk to asset values, at least offer better income payments)
• dividend-paying stocks of high-quality, global companies are a great choice for income-oriented investors since quality bonds and cash alternatives are paying so little now

The big risk I fear, since all this macroeconomic knowledge is kinda baked into the cake, is China's efforts to slow down a bit to avoid the bad kind of inflation--if they over-do it and tank their economy, then it could lead to another global economic train-wreck and US bonds and dollar could go up suddenly.  This is unlikely, but staying nimble and diversified is nonetheless advisable.

 I still like my "Flex" portfolios for these reasons.  It is confidence-inspiring to have Dorsey Wright's Systematic Relative Strength strategy, Mssrs. Avery and Caldwell, and Mr. Cuggino running the opportunistic/unconventional stuff through their mutual funds, and all the more reason to have the Yacktmans and the Eveillard disciples picking our stocks, and Mssrs. Gross and Hasenstab picking our bonds.

How Can We Be Smart and Stay Invested?

Billionaire/loudmouth/genius Mark Cuban recently offered keen insight into how the stock market is a dangerous place, especially for average investors.

Basically, he said we should be cutting back our exposure to stocks and increasing our cash, and paying off our debts.

But he also admits he just doesn't know when things will change for the better.

He is right to say things are difficult, and he may be right to say the system is tilted toward the professionals. But it is not hopeless, and it is not time to head for the exits. I think long-term investors have a great chance to grow their wealth, instead of merely preserving cash, if they "stay invested". But we can still heed Cuban's warning to keep some "dry powder"--that's the great thing about how I am investing for my clients.

For the record, I am pessimistic about the U.S. stock market and the U.S. economy in general, but I remain optimistic about long-term investing, especially for investors willing to go around the world to allocate their portfolios.

I have also regularly, and in recent years quite significantly, adjusted the portfolios I run for my clients. In particular, here are two major changes in the last three years to how I do business for my clients:

* I have increased the cash/money market allocations.
* Since mid-2008, I use mutual funds and managers that have global/flexible mandates.

Unlike typical portfolio managers and mutual funds that are required to stay fully-invested in specific areas of the market, these "global/flexible" managers can get out of weaker areas and into stronger areas, AND they can stockpile cash. The ones I use all have outstanding track records and consistently out-perform benchmarks by a lot, and with a level of risk that is worth taking for the better performance.

I still use a long-term "strategic" asset allocation in order to structure portfolios with the overall risk/reward balance suitable for each client. But the portfolio components have a lot of flexibility, so while I might recommend a strategy that calls for 5% in cash and 15% in bonds, the actual portfolio could have a lot more of both, depending on current market conditions.

Case in point, take my "moderately aggressive" mutual fund portfolio compared to a similar 80% stocks 20% bonds/cash portfolio of highly-regarded, widely-touted index funds from Fidelity:

ALLOCATION AS OF 8/31/10
Cash = 25% vs 9%
US Stocks = 27% vs 39%
Foreign Stocks = 23% vs 39%
Bonds = 15% vs 13%
Alternatives = 10% vs >1%

RETURNS
10 yr avg return = 10.5 vs 1.2
5 yr avg return = 8.9 vs 1.3
3 yr avg return = 5.9 vs -6.5
1 yr ret (thru 8/31) 9.9 vs. 3.1
last quarter = 2.4 vs. 1.2

The key is two-fold:

* My guys don't mimic indexes but, instead, carefully select stocks, bonds and alternative investments, and they employ a defined sell-discipline.
* My guys raise cash when they don't see anything better to buy, and they deploy cash into concentrated positions where/when their conviction is highest; they are patient and disciplined.

With the right tools and motivation, I have found ways that work better than just staying on the sidelines, better than generic "indexing".

A better portfolio, even for this difficult time, is out there, folks. Find it yourself, or get a pro like me to find it for you.

Top-Down Bears vs. Bottom-Up Bulls

Where will the stock market go now? There is a battle between the Bulls and the Bears. Bulls think we have good things ahead, and Bears think otherwise. This is normal. Reports are that pessimism was palpable, but not insurmountable, at the recent Morningstar Investment Conference.

Given the state of the U.S. economy, portfolio managers who take a top-down view, looking at economic conditions as the primary basis of their investment decisions, were gloomy. In short, they see that the U.S. government has become dangerously overlevered in order to bail out a number of fatally overlevered private institutions.

But some managers who take a bottom-up view, searching for good investments to make now, regardless of the bigger picture, are optimistic. Recent volatility has presented the chance to buy some high-quality stocks at good discounts to their fair value.

While bigger and more intractable, macroeconomic problems are not as imminent as the dangers of the subprime-catalyzed credit crisis that started to boil over in 2007. That means we might still have time to get in while the getting is good, as long as we are flexible and can be nimble.

This is not the time to have a static portfolio. We need to use funds and managers with flexible and global mandates. They need to be able to go to the sidelines or change their game plan as conditions require.

The Top-Down Bears are probably right that the economy is precarious and investment opportunities dubious right now. But the Bottom-Up Bulls intend to take advantage of great opportunities nonetheless.

Terminology To Offend Or Titilate

"Dead Cat Bounce"

"Sucker's Rally"

"Bull Trap"

These terms all apply to market upswings that have little or no fundamental economic or financial support. The stock market moves on valuation and sentiment, and sometimes one weighs more heavily than the other, sometimes at the wrong time.

Cat fans don't like the imagery of the first term, and most folks don't like to be thought of as fools, and investors who play to win hate to be caught on the losing end. But a ton of investors have bought in during a Dead Cat Bounce, a Sucker's Rally, or a Bull Trap. Especially in recent years.

Make long-term investments with money you can afford to go without for many years, and buy shares of companies you think are solid financially and will either share their profits, grow their business, or both.

Make short-term trades with money you can afford to lose forever. Buy shares of stocks you think will go up. Period. And try to avoid buying during an uptick that turns out to be a Dead Cat Bounce.

Double-dip Recession, or Just a Market Correction?

The Bad News...

European banks are starting to not lend to each other... reminds us a lot of the USA in late-2008.

The spread between junk bonds and treasuries has jumped 200 basis-points, indicating possible "contagion" here from Europe's troubles.

The stock markets are tanking lately.


The Good News...

The rising dollar has pushed down energy prices, which is a boost to the U.S. economy. It's like getting a decent-sized tax cut, some have pointed out.

Interest rates remain low, which helps troubled homeowners and lending banks that need time.

This is probably just a "correction", and so we can buy some good stocks "on sale" this week.


What We Think...

We hate to be pessimistic, but our long-term view is just that. We think the governments of the developed economies will fight-off disaster (another "Great Recession") but the tools used will be impediments to growth.

Avoiding that double-dip would inspire markets, though. Interest rates are so low and there's a ton of cash on the sidelines. Stocks have a lot of potential in the short term. But be flexible.

A Volatile Market

So, the stock markets were up today on pretty heavy volume. That's as good news today as it closing down on heavy volume was bad news yesterday.

There are a ton of competing indicators, so it's very tough to know what to expect. One thing is certain, though: the financial health of many of the economically developed countries is in jeopardy from unhealthy balance sheets (translation: the big, strong countries are in trouble because they're spending much more than they're bringing in, and the solutions are to cut services to people who need them and raise taxes on the people who are most productive in the first place).

This is not inherently a positive long-term situation for the stock markets, and it also jeopardizes the bond markets.

Investors and their advisors should probably be flexible and thinking out of the box. More on that later.

Happy Friday, and a great weekend to you!

Pullback, Correction, Bear Market, Crash???

Lots of market lingo gets tossed around. Here's my effort to clarify it for you:

A "pullback" is when a securities market declines up to 10% from its recent high-water mark. It may happen in a few days or even a few weeks. It's usually because the market was going up faster/higher than it should, but it usually does not signal any major problems. Long-term and opportunistic investors enjoy a pullback once in a while, as their Buy List securities are effectively "on sale".

A "correction" is when the market experiences an extended pullback, ending up 10% or more below the most recent high-water mark. This is where things get worrisome--perhaps there are real problems and the market is starting to price accordingly.

A "bear market" is much worse. It usually happens when a pullback or a correction turns out to have been due to economic fundamentals instead of just market action. 20% down from the recent high is the threshold. Long-term and opportunistic investors still like bear markets, though, as they feel great bargains are available.

A "crash" is when we speed right through pullback and correction status and into bear market range much faster than usual. A crash can be short-lived, like in the fall of 1987 or the fall of 2008, after which a sharp recovery can take place. A crash also can be the start of a long, drawn-out period of terrible market conditions like during the "Great Depression" of the 1930s.


We are in a correction right now. Many experts predict it's a bear market in the making. Those experts are often wrong, but they are also often right. Sometimes the market does not do what we think it should.