Posts filed under “Apprenticed Investor”

Lessons Learned From A Dangerous Year

In the beginning of the year, a column I wrote for Real Money discussed some lessons of the past year. It never was moved over to the free site, so here is my belated update.

It is a mix of fundamental, economic, technical and even
philosophical lessons that those savvy CEOs, fund managers and
individual investors who were paying attention picked up in the recent turmoil.

1) Ignore market rumors:  It seemed every time some firm was in trouble, the same gossip was floated that Warren Buffett was about to buy them. Time and again, these tales proved to be unfounded money-losers. This year’s most egregious example was Berkshire’s imminent purchase of Bear Stearns (BSC).

That The New York Times Dealbook got suckered into printing this just shows you how pernicious these rumors are. The stock was as high as $123 the day of the rumor.

Anyone who bought homebuilders or Bear Stearns stock on the basis of either of these rumors — or nearly any other stock that had similar rumors floated throughout the year — lost boatloads of money.

2) Buy sector strength (and avoid sector weakness): It’s a truism of real estate: It’s better to own a lousy house in a great neighborhood than a great house in a lousy one. And the same is true for stock sectors: Buying mediocre companies in great sectors generated positive results, while great companies in poor sectors struggled.

The losers are obvious: The homebuilders, financials, monoline insurers and retailers all struggled this year. The winners? Anything related to agriculture, solar energy, oil servicing, industrials, software, exporters, infrastructure plays — even asset-gatherers thrived.

3) Never blindly follow the "big money": Why? Because professionals make dumb mistakes too.  Many people chased the so-called smart money into these trades. Unfortunately, all of these trades have proven to be jumbo losers.

4) Day-to-day stock action is mostly noise: This is blasphemy to some people, but it’s true: Markets eventually get pricing right. But the key to understanding this is the word "eventually." Over the shorter term, markets frequently under- or overprice a stock before settling into the right approximation of value. This process typically occurs over broad lengths of time.

5) P/E matters less than you think: If that sounds like more blasphemy, look at Google (GOOG) , Apple (AAPL) and Mosaic (MOS) — they all sported high P/Es at the beginning of 2007 before going much higher.  On the other hand, back in January ’07, retailers, financials and homebuilders all had reasonably cheap P/Es. (How’d they do over the next 12 months?)

6) Ignore deteriorating fundamentals at your peril: One would think this doesn’t need to be said, and yet it does: When the fundamentals of a given market, sector or consumer group are decaying, profit gains are sure to slow.

7) Nothing is more costly than chasing yield: For fixed-income investors, what matters most is not the return on your money, it’s the return of your money. Reaching down the risk curve for a few bips of additional yield is one of the dumbest things an investor can ever do.

8) Know what you own: This very basic issue was mostly forgotten in recent years, and it was forgotten by pros and individuals. 

Investment banks like Bear Stearns, Morgan Stanley (MS) and Merrill Lynch (MER) , big banks like Citigroup (C) and Washington Mutual (WM) , and GSEs like Fannie Mae (FNM) and Freddie Mac (FRE) were scooping up assets apparently without doing their homework. The complexity of these pools of mortgages almost guarantees that no one truly knows what’s in them (see the next rule). If you don’t know what you own, how can you properly manage risk?

9) Simple is better than complex: Start with a few million mortgages of varying credit-worthiness and create a series of residential mortgage-backed securities (RMBS) from them. Then take the RMBS and stratify them. Then leverage them up into collateral debt obligations (CDOs). Once that bundling is complete, make complex bets on which layers might default, via credit default swaps (CDS).

Gee, how could anything possibly go wrong with that?!

10) Stick to your core competency:

E*Trade (ETFC) is an online broker; what was it doing writing subprime mortgages?

Why was Bear Stearns running two hedge funds?

Isn’t H&R Block a tax preparer? It was making mortgage loans — why?

And exactly what was GM’s expertise in underwriting mortgages? (The snarkier among you might be wondering exactly what business GM’s expertise is in.)

Had these companies stuck to what they did best (or least bad), they wouldn’t be in as much trouble today.

11) Fess up! Whenever a company runs into trouble, they seem to take a page from the same PR playbook: First, they say nothing. Second, they deny. Finally, they make a begrudging, pitifully small admission. Eventually, the full truth falls out, and the stock tanks with it.

12) Never forget risk management: Consider what could possibly go wrong, and have a plan in place in the event that unlikely possibility comes to pass. If there is to be upside, then there must also be a corresponding and proportional downside.

13) The trend is your friend: Despite the year’s parade of horribles, this market cliché was proven true once again. The Dow, S&P 500 and Nasdaq are all higher this year, as their long-term trends have been tested but remain intact.

The exception, the Russell 2000, broke its trend earlier this year. That made trend traders abandon the small-cap index, which has since fallen even further. This confirms the corollary: "except for the bend at the end." As long as the index trend lines stay intact, investors can sleep easy. But once those trendlines break, well, then you better apply some of the earlier lessons (see numbers 2, 3, 4, 6, 7 and 12!).

Looks even truer 8 months later!


Lessons From 2007: A Baker’s Dozen
Barry Ritholtz, 1/2/2008 6:54 AM EST

Category: Apprenticed Investor, Economy, Markets, Trading

Seven Stock Blunders

Category: Apprenticed Investor, Investing, Trading

Rules for Living from Nassim Taleb

The Author of Fooled by Randomness and The Black Swan has some suggestions for you:

Taleb’s top life tips

1. Scepticism is effortful and costly. It is better to be sceptical about matters of large consequences, and be imperfect, foolish and human in the small and the aesthetic.

2. Go to parties. You can’t even start to know what you may find on the envelope of serendipity. If you suffer from agoraphobia, send colleagues.

3. It’s not a good idea to take a forecast from someone wearing a tie. If possible, tease people who take themselves and their knowledge too seriously.

4. Wear your best for your execution and stand dignified. Your last recourse against randomness is how you act — if you can’t control outcomes, you can control the elegance of your behaviour. You will always have the last word.

5. Don’t disturb complicated systems that have been around for a very long time. We don’t understand their logic. Don’t pollute the planet. Leave it the way we found it, regardless of scientific ‘evidence’.

6. Learn to fail with pride — and do so fast and cleanly. Maximise trial and error — by mastering the error part.

7. Avoid losers. If you hear someone use the words ‘impossible’, ‘never’, ‘too difficult’ too often, drop him or her from your social network. Never take ‘no’ for an answer (conversely, take most ‘yeses’ as ‘most probably’).

8. Don’t read newspapers for the news (just for the gossip and, of course, profiles of authors). The best filter to know if the news matters is if you hear it in cafes, restaurants… or (again) parties.

9. Hard work will get you a professorship or a BMW. You need both work and luck for a Booker, a Nobel or a private jet.

10. Answer e-mails from junior people before more senior ones. Junior people have further to go and tend to remember who slighted them.

click for video


Nassim Nicholas Taleb: the prophet of boom and doom
Bryan Appleyard
The Sunday Times, June 1, 2008


Category: Apprenticed Investor, Books, Investing, Video

The Psychology of Selling

Category: Apprenticed Investor, Markets, Psychology, Real Estate, Trading

It’s a Great Time to Be an Investor !

Category: Apprenticed Investor, Investing, Markets, Psychology, Trading

Why Does -20% = Bear Market?

Category: Apprenticed Investor, Financial Press, Markets, Technical Analysis

Good Advice During Turbulent Times

Category: Apprenticed Investor, Investing, Psychology, Trading

Don’t Follow Wealthy Investors, Part 14

Category: Apprenticed Investor, Investing, Psychology

New Column up at The (02/01/08)

Category: Apprenticed Investor, Data Analysis, Investing, Markets

Fun With Data Analysis: The Art of the Plausible

Category: Apprenticed Investor, Data Analysis, Markets, Mathematics, Quantitative