Why You Should Invest in Growth, Not Value

by Alexander Green, Investment U’s Chief Investment Strategist
Monday, December 6, 2010: Issue #1401

Patrick Henry famously declared that he knew no way of judging the future but by the past.

So if you’re putting together a long-term investment portfolio, it might be wise to look at the historical returns for various types of assets. Not just for the past few years, or for several decades, but for the past couple centuries.

When you do this, you’ll notice something interesting:

• Owning a portfolio of businesses (stocks) has generally been much more rewarding than making loans to corporations or Uncle Sam (bonds) or sticking your money in the bank (cash).
• Look closer at the clear winner (equities) and you’ll also find that value stocks have outperformed growth stocks over the long haul and that small-cap value has beaten large-cap value by a substantial margin.

It therefore follows that an investor seeking maximum capital appreciation might focus on identifying undervalued small-cap stocks.

But there’s only one problem with this: It won’t work for most investors, even if the future is very much like the past. Here’s why…

Beware the Value Investing Trap

Value stocks require something that growth stocks don’t: Patience.

When a stock – either large or small – is in the cellar, it’s there for a reason. Typical ones are that the company is:

• Losing market share…
• Seeing its margins fall…
• Is losing money…
• Or is experiencing flattish sales and declining profits.

As a value investor, you don’t know when these state of affairs will end, but you might be tempted to invest in a company if it’s relatively cheap in relation to sales, earnings or book value (i.e. net worth) in the hope that management will set things right.

The problem is this can take quite a long time. Or it may never happen at all. As the stock gets cheaper and cheaper, you may believe it’s becoming an even better bargain. This is the classic “value trap.” And if you keep buying a stock on the way down, it may very well have your name on it when it hits rock bottom.

Dead Money With Decent Dividends

Even if a value stock is destined to generate a good return over, say, a three- to five-year horizon, most investors won’t be around to enjoy it.

How do I know this? Because as a former money manager, I’ve dealt with thousands of “typical investors.” And regardless of what they say in their initial interview about their willingness to stay the course and think long-term, it all goes out the window for 90% of them when the road gets bumpy. Or if things don’t kick into gear right away.

A client who sits on a stock – or even a stock fund – for six months and doesn’t see a spark will remind you with every conversation that he or she is sitting on “dead money.”

No argument there – they are (at least temporarily). But value stocks often pay decent dividends that help compensate for this. Early in my career, however, I got tired of holding hands and counseling patience and switched from a value to a growth methodology.

It was a good move. If you want action, you should have it…

There’s No Shortage of Excitement with Growth Stocks

Buy the best growth stocks you can find. Given that they tend to be twice as volatile as the market (and twice as expensive), there is generally no shortage of day-to-day excitement.

But if you use a trailing stop, you can generate results that are much better than historical long-term returns (which always assume a buy-and-hold approach) and with less risk because your positions are fully protected.

So unless you have the patience of Job – and most investors don’t – you’re better off owning growth stocks than value stocks and, of course, using a trailing stop.

In my next column, I’ll demonstrate why small-cap growth – historically the worst-performing long-term equity class – is the very best place to find blockbuster stocks.

Good investing,

Alexander Green

Business/Finance, Finance, Financial economics, Financial markets, fundamental analysis, Growth stock, investment, Rate of return, Short, Stock, Stock market, Stock selection criteria, Value investing

The Four Investment Risks You Can’t Avoid

by Alexander Green, Chief Investment Strategist
Monday, October 18, 2010: Issue #1368

We’re making money hand over fist – locking in significant double- and triple-digit gains – in our Oxford Trading Portfolio, Seven Deadly Sins Portfolio, Oxford All-Star Portfolio, Momentum Portfolio, Insider Portfolio and our New Frontier Portfolio.

Yet I still talk to investors every day who tell me they’re completely out of the market. When I ask them why, they always give me some variation of the same answer: They just can’t take the risk.

These investors need to wake up and smell the java. There has never been – and never will be – a time when stocks aren’t volatile and the economic outlook isn’t uncertain.

Yet nothing gives a better return over time than great stocks…

Four Wealth-Building Barriers

What these investors may not realize is that by sitting out the stock market rally, they’re taking four significantly greater risks:

• Purchasing Power Risk

Low inflation isn’t a problem now, but it’s like having a slow leak in your swimming pool. At some point, you’re likely to jump off the diving board and hit concrete.

Even low inflation is slowly draining your purchasing power. You may feel safe sitting in cash, but you’re virtually guaranteeing that inflation will outpace your asset growth. And thanks to our gargantuan budget deficit, we may face sharply higher inflation in the years ahead.

• Interest Rate Risk

Ben Bernanke and Co. took short-term interest rates to near zero. The average money market account now pays a microscopic .05%. (It will take your money more than 1,400 years to double at that rate.)

And if the Fed decides to raise rates by even one point, it will knock 3% off the value of your Treasury bonds, essentially erasing a year’s worth of returns. Bonds are not a great bet right now.

• Timing Risk

Every market timer would like to believe that he or she will be in the market for the rallies and out for the corrections. Never did the phrase “more easily said than done” ring truer.

I still talk to investors every week who are waiting for the market’s “final capitulation.” Final capitulation? The Dow is up 70% from the lows of last March. This is a bull market by any definition. Yes, it will end at some point. But if you didn’t catch the lows last year, what are the odds you’ll pick the top of this bull, which may last for years?

• Shortfall Risk

This is your single greatest investment risk – the possibility that you won’t have enough money to reach your financial goals or support yourself the way you’d like in retirement.

Talk to elderly investors who are counting nickels and the story is virtually always the same. They didn’t save enough and (depending on personality type) they were either too conservative or too aggressive with their money. It’s a sad thing when your golden years are tin-plated and it’s way too late for a do-over.

So what’s the solution?

Think Ahead and Grow Rich

In short, don’t let the perma-bears and the gloom-and-doomers talk you out of achieving your financial goals.

Yes, you should own some gold, some bonds, even some real estate. But if you don’t own stocks, where are you going to generate the returns you need to live the lifestyle you want?

No one can say where the stock market will be 15 days or 15 weeks from now. But think about your retirement. Fifteen years from now, the market will almost certainly be a lot higher.

So stop fretting over the short-term outlook and start putting money to work in great stocks to meet your long-term goals. Financial freedom is about managing investment risk… not avoiding it.

Good investing,

Alexander Green

Bond, Business/Finance, Economics, Finance, Financial economics, Financial markets, inflation, investment, investment risk, Mathematical finance, Portfolio, Retirement, Stock market

How The Oxford Club Beat The Financial Crisis… And What We See Now

by Alexander Green, Investment U’s Chief Investment Strategist
Thursday, September 23, 2010: Issue #1351

Investment forecasting is an inherently humbling business.

No matter how many good calls you make, there is always the possibility of getting it wrong the next time. Unexpected events happen. Markets turn on a dime. And an investment advisor often learns – in the cold reality of hindsight – that just when he felt like sticking his chest out he should have been covering his privates instead.

Yet there is a time for celebration too. And there is no denying that The Oxford Club and its members just came through the biggest financial crisis and the nastiest economic downturn in modern history with flying colors.

Perhaps the most surprising part is this: We can’t claim we foresaw how it would all unfold. If we had, we might have told readers to plow their money into bonds before the stock market meltdown and then switch back into stocks at the very bottom.

Unfortunately, there’s only one type of investor who does this consistently. You may have heard of them. They’re called liars.

So how did we succeed when tens of millions of investors stumbled?

Guesswork, Forecasting, Market Timing: Three Things You DON’T Need to Invest Successfully

Our investment system is built on the fundamental premise that to a large extent, the future is unknowable. Seasoned investors agree but then insist, “But of course you have to guess.”

No, you don’t.

We’ve taken the guesswork out of investing. For long-term investors, we use a proprietary asset allocation model, rebalance annually and keep taxes and investment costs to the absolute minimum.

No economic forecasting or market timing required.

Our short-term traders focus on buying great companies that are likely to beat consensus earnings estimates by a wide margin and run trailing stops behind them to protect both their principal and their profits.

How has this worked? You be the judge…

How We Notched a 28% Average Return Amid the Chaos of 2008

2008 was one of the worst years on record for the S&P 500. It posted a return of -38.5%. That caused us to stop out of 45 stocks in our Oxford Trading Portfolio. Here is the entire list. Nothing has been omitted. Although we took some lumps like everyone else that year, the average return on our closed positions was 28.6%.

With the financial crisis unfolding, we set aside our market neutral position. Why? Because you shouldn’t be afraid to aggressively buy or sell when market sentiment and valuations reach extremes. (That means either extreme optimism and sky-high valuations or extreme pessimism and rock-bottom valuations.)

Going into 2009, most investors were scared out of their pants. Stock market players were cashing in their chips. Bank depositors were running down to their local branch to withdraw their savings. The world seemed on the edge of financial collapse. And so did the markets.

Yet the headline on our annual forecast issue was: “Our No. 1 Prediction for 2009: Economic Disaster AND a Soaring Stock Market.”

Bear in mind, almost no one was saying this at the time. But that’s exactly what investors got. While the economic slump only deepened in 2009, the S&P 500 came roaring back – and our recommended stocks outperformed it handily.

If the Market Gives You Lemons… Don’t Get Sour, Just Suck Up Profits

This year we’ve maintained our optimistic stance on equities and have been rewarded with even more big profits.

While the S&P is only up 4% year-to-date, we’ve already realized gains of 229% on La-Z-Boy (NYSE: LZB), 103% on Tiffany & Co. (NYSE: TIF) and 54.7% on Emergency Medical Services (NYSE: EMS).

We’re also sitting on current gains of 321% on the Vanguard Emerging Markets Index (VEIEX), 299% on the Templeton Dragon Fund (NYSE: TDF) and 94% in Discovery Communications (Nasdaq: DISCA).

Yet over the past year and a half, at investment conferences around the world, I’ve heard almost nothing but talk of stagnation, double-dip recession and gallons of gloom and doom.

This week the National Bureau of Economic Research reported that the longest and most severe recession since the Great Depression is over. That doesn’t mean we’re out of the woods yet. We’re likely to have high unemployment and low economic growth for many months – and perhaps the next three years.

But we’re fully prepared for that, too. In fact, we’re already capitalizing on it. Perhaps that’s why the independent Hulbert Financial Digest ranks our Oxford Club Communiqué among the top investment letters in the nation for 10-year performance.

In short, we’ve taken the lemons the market handed out during the financial crisis and turned it into a Tom Collins with a fruit slice and a maraschino cherry.

If this sounds a little brash, I apologize. But we’ve enjoyed enormous success during the toughest economic period in more than 80 years.

And as Dizzy Dean famously said: “It ain’t bragging if you can do it.”

And if you want to do it, too, consider joining The Oxford Club and we’ll show you exactly how in our five model portfolios.

Good investing,

Alexander Green

Business/Finance, Crisis, Economic crisis, Economics, Finance, financial crisis, Financial economics, Financial markets, Futures contract, New York Stock Exchange, Oxford Club, P/E ratio, Short, Stock market

Are You Ready for The Evergreen Portfolio?

by Alexander Green, Investment U’s Chief Investment Strategist
Monday, September 13, 2010: Issue #1343

Bill Gross, the top-performing manager of the Pimco Total Return Fund, the world’s largest actively managed mutual fund, says it’s time for investors to accept and start adjusting to “the new normal.”

What’s that?

High unemployment, excess housing capacity, difficult-to-obtain credit and, not least of all, much-lower-than-historic returns from stocks, bonds, real estate and cash.

Sounds depressing. However, some investment advisors aren’t content telling their clients to simply lower their expectations. Two of them are seasoned investors Martin Truax and Ron Miller, Managing Directors at Atlanta-based Morgan Keegan & Company.

Adjusting to the “New Normal” With The Evergreen Portfolio

Truax and Miller point out that “buy and hold” investing and simple diversification haven’t worked over the last 10 years – and it’s hard to disagree. The S&P 500, for example, is no higher than it was in 1999.

Looking forward, they argue that these failed approaches won’t work over the next 10 years either.

Yet there are proven strategies that are likely to produce high returns with an acceptable level of risk. In their new book, The Evergreen Portfolio, out this week from John Wiley & Sons, Truax and Miller invite more than a dozen of the nation’s leading analysts to talk about “the new normal” and make specific recommendations about what investors should do with their money today. (They also reveal their own particular solution: The Evergreen Portfolio itself.)

The book is chock full of interesting and unconventional investment angles. That’s not too surprising when you consider who was involved in this project.

The Evergreen Portfolio: A “Who’s Who” of the Investment World

Contributors to The Evergreen Portfolio include such well-known names as…

• Rick Rule, CEO of Global Resource Investments.
• Dr. Mark Skousen, free-market economist, former Investment U Chairman and current contributing editor, and editor of Forecasts & Strategies.
• Elliott Gue, editor of The Energy Strategist.
• Frank Trotter, currency specialist and president of EverBank.
• Mining specialist Bob Bishop, the longtime editor of Gold Mining Stock Report.
• Bob Prechter, editor of The Elliott Wave Theorist.
• Richard Maybury, publisher of U.S. and World Early Warning Report.

There are many others, including yours truly. (In the interest of full disclosure, I have not received – and will not receive – any compensation from the sale of this book.)

There is a lot of pessimism out there right now about what lies ahead for the economy and stock market. Yet, unlike most investment advisors, Truax and Miller don’t try to convince the reader otherwise. They are convinced that excess consumer debt, weakness in housing, and rampant government spending are creating a very tough environment for investors.

Their advice – and the investment advice of their contributors – is to face up to this new reality and start managing your portfolio effectively to deal with it.

Why You Need to Read The Evergreen Portfolio

The Evergreen Portfolio is written for:

• Investors who want a thorough understanding of “the new normal” and hard-hitting advice about how to protect your assets even in inflationary or deflationary times.
• Businesspeople and other professionals who have been successful in their careers but need a solid foundation for investment success.
• Investors who are unhappy with the performance of their brokers and money managers and want “untainted” investment advice.
• Investors who are overwhelmed with too many investment choices and want an uncomplicated approach to the market.

I’m a contributor to The Evergreen Portfolio, so perhaps I have a positive bias. But the book is the distilled wisdom of more than 15 seasoned investment pros and a thoroughly enjoyable read, full of unconventional ideas and unusual insights.

There will be fortunes made and lost in the months ahead – and, like most readers, I intend to be on the winning side. The Evergreen Portfolio is a survival guide for those who want to protect and build their wealth in the tumultuous years that almost certainly lie ahead.

Good investing,

Alexander Green

P.S. The Evergreen Portfolio is available at bookstores nationwide and is currently discounted 28% on Amazon. For further information on the book, click here.

Business/Finance, Diversification, Finance, Financial economics, Financial markets, Financial services, Funds, investment, Mutual fund, Portfolio

Investing in Stocks: Ignore the Negatives, Embrace Your Contrarian Side and Buy Stocks Now
by Alexander Green, Investment U’s Chief Investment Strategist
Tuesday, September 7, 2010: Issue #1338

When the Dow bottomed near 6,500 in the thick of last year’s financial crisis, few investors thought it was a good time to buy stocks. Sentiment was overwhelmingly bearish.

So when the market bounced higher, the consensus was that it was a “dead-cat bounce,” a bear-market trap. But it wasn’t.

As the rally gained speed, investors began to think that perhaps the worst of the financial crisis was indeed over and they would buy some stocks on a retracement or when the market tested its lows.

But that didn’t happen either. In fact, the Dow didn’t tire until it crossed 11,000 in May. By then, the market was up over 70% in just 14 months.

That was pretty depressing to investors sitting on the sidelines, earning microscopic yields on their cash. Many were so busy licking their wounds from the sell-off that they made little or no new investments during the rebound.

So what should you do now?

Investing in Stocks: Follow the Earnings

Since the market high four months ago, the Dow has lurched back and forth. But the primary direction has been down. No surprise here. After a rally of this magnitude, a correction is not unusual.

But don’t be like last year’s investors and miss the next rally. Now is a good time to put money to work in high-quality stocks.

In fact, the market is almost as cheap today as it was during the depths of despair in March 2009.

How is that possible when the Dow is more than 3,500 points higher?

Because a stock or index price doesn’t tell you anything about valuation. What matters are earnings and the multiple that the market puts on them.

Three Reasons Why You Should Buy Stocks Today

When measured by profits, the market is almost as cheap today – at 14.9 times trailing earnings and 12.2 times prospective earnings – as it was in March last year.

That’s because earnings are up. Way up. Second quarter profits at U.S. companies hit an all-time record.

A year and a half ago – when investors should have been buying stocks – the media was busy telling them about The Great Recession and how the world was coming apart at the seams.

Today, it provides saturation coverage of home foreclosures, personal bankruptcies and endless political carping. And because we’re blanketed with bad news, few investors see the positives. Consider, for example:

• The Fed has taken interest rates to near zero. That makes it cheaper for consumers and businesses to borrow. It also makes ultra-low-yielding cash a horrible investment.

• Inflation – the great bane of both stock and bond investors – is M.I.A. With the consumer price index showing virtually no increase, businesses don’t have to battle rising costs.

• Around the globe, most stocks are unloved and undervalued. Historically, when the P/E of the S&P 500 has dropped dramatically – as it has since the highs of May – it isn’t long before the market puts on a significant rally.

A Leaner Corporate America Could Drive the Next Rally

I know analysts are saying that earnings won’t be anything great. But they could be wrong – yet again – for two key reasons.

1. Businesses have tightened up their cost structure, laid off unnecessary personnel and refinanced debt at lower levels. Even a modest uptick in sales could deliver surprisingly good bottom-line growth.
2. It’s so cheap for businesses to borrow right now that I expect we’ll see many of them issuing debt to buy back their own shares. This could lead to robust growth in earnings per share, even if growth in gross earnings is less dramatic.

The bottom line?

Investing in Stocks: The Ultimate Contrarian Indicator Right Now

Stocks today are almost as cheap as they were when the Dow hit 6,500 18 months ago. And the macro-economic picture – while always cloudy – is a heck of a lot better now than it was then.

As an investor, look at your options. Cash pays next to nothing. Treasuries yield little more and could easily drop precipitously. Real estate is a non-starter, due to illiquidity, a flood of foreclosures and tough new lending rules.

But stocks offer excellent potential. And if you know anything about contrarian indicators, the fact that so few believe it only confirms it.

Good investing,

Alexander Green

Business/Finance, contrarian investing, Dow 30, Dow Jones Industrial Average, Economics, Equity securities, Finance, Financial economics, Financial markets, fundamental analysis, investment, Market trend, Short, Stock market

Jeremy Siegel: Treasury Bonds Today Are a Sucker Bet
by Alexander Green, Chief Investment Strategist
Monday, August 30, 2010: Issue #1334

The investment advisory industry is full of gurus – and various charlatans – claiming that they made incredible stock market calls.

But Wharton Professor Dr. Jeremy Siegel made perhaps the greatest call of all time at the right moment and for the right reasons. Those who listened to him saved themselves many thousands of dollars – and untold agony.

Now Dr. Siegel is making another bold prediction. You can only ignore it at your peril. Here’s why…

Siegel Shocks the Market

On March 13, 2000, The Wall Street Journal ran an op-ed piece from Dr. Siegel entitled “Big-Cap Stocks Are a Sucker Bet.” The column shocked the investment community.

Here was the man, author of the investment classic Stocks for the Long Run and who provided the intellectual underpinnings of the greatest bull market in history, claiming that the greatest stock market darlings weren’t just overvalued. They were a “sucker bet.”

Siegel focused on the 33 largest firms based on market capitalization – those with values greater than $85 billion. Of these, 18 were technology stocks. He noted that their market-weighted P/E equaled 126. What’s more, he pointed out that half of the large-cap technology stocks had P/Es over 100. For these stocks, the market-weighted P/E was 208.

These prices were totally unjustifiable. There was no way that these companies could grow fast enough to support such insane valuations.

Are You Heeding Siegel’s Current Warning?

That month, the Nasdaq – home to these tech giants – hit its all-time high of 5,132. From there, it imploded. Many of the stocks he singled out in the column – like Yahoo! (Nasdaq: YHOO) and JDS Uniphase (Nasdaq: JDSU) – plunged over 99%.

Even today – more than 10 years later – the Nasdaq is 60% below its high.

It’s great when a knowledgeable analyst like this rings a clear warning bell at the top. So understand that he’s doing it again today.

Earlier this month, he wrote another Wall Street Journal op-ed piece. This one is called “The Great American Bond Bubble.”

Siegel says: “What is happening today is the flip side of what happened in 2000. Just as investors were too enthusiastic then about the growth prospects in the economy, many investors today are far too pessimistic.”

As a result, they’re plowing money into Treasuries and Treasury mutual funds.

This will almost certainly end badly.

Unless we have a full-blown deflationary depression, these bonds are a horrible bet, offering minuscule yields and huge downside risk. Many investors don’t realize how badly they can get clobbered in super-safe Treasuries when the bond market turns down. (And those holding leveraged bond funds could see 40% or more of their principal vanish in a matter of months.)

As Siegel concludes: “Those who are now crowding into bonds and bond funds are courting disaster… The possibility of substantial capital losses looms large.”

What does Siegel propose that income investors hold instead?

Don’t Be a Sucker: Invest in This Asset Class Instead

Large-cap dividend stocks.

He points out that the 10 largest dividend payers in the United States are:

AT&T (NYSE: T)

Exxon Mobil (NYSE: XOM)

Chevron (NYSE: CVX)

Procter & Gamble (NYSE: PG)

Johnson & Johnson (NYSE: JNJ)

Verizon (NYSE: VZ)

Phillip Morris (NYSE: PM)

Pfizer (NYSE: PFE)

General Electric (NYSE: GE)

Merck (NYSE: MRK)

And together…

• They sport an average dividend yield of 4%, substantially more than what 10-year Treasuries are paying.
• Their average P/E ratio is 11.7 versus 13 for the S&P 500.
• Aside from the mountain of cash they’re sitting on, their prospective earnings will cover their dividends by more than 2 to 1.

Despite fears of another stock market dip, income investors are wise to switch from Treasuries to high-dividend stocks. It might not feel like the right thing to do, but neither did buying stocks at the market low 17 months ago.

In short, I couldn’t agree with Dr. Siegel more. Treasury bonds today are a sucker bet.

Good investing,

Alexander Green

Business/Finance, Finance, Financial economics, Financial markets, Financial services, Funds, jeremy siegel, New York Stock Exchange, P/E ratio, Short, Stock, Stock market, Stocks for the Long Run, Treasury

Why Burton G. Malkiel is More Right Than Wrong

by Alexander Green, Chief Investment Strategist
Monday, July 12, 2010: Issue #1299

At FreedomFest in Las Vegas last week, I debated Burton G. Malkiel, author of the investment classic A Random Walk Down Wall Street.

Malkiel is one of just a few men alive who has profoundly affected modern investment thinking. And his position is straightforward.

He believes that rational, self-interested investors take all public information and immediately incorporate it into the price of stocks. (This is where we get the term “efficient market.”)

He therefore concludes that market timing and security analysis is foolhardy… that it’s simply not possible to beat the market over the long term… and that you’d be well advised to give up that dream and just own a broad selection of index funds.

I actually agree with much of what Malkiel says. Much… but certainly not all.

Irrational Exuberance

For starters, you can count on investors to be self-interested. But rational? Not always. Just take a look at recent history…

• How rational were investors 10 years ago when they bid Internet and technology stocks to the skies, forgoing sales and earnings for financial metrics like “eyeballs” and “web hits?”
• How rational were investors five years ago when they put themselves deeply in hock to flip land, rental properties, vacation homes and condos because “real estate always goes up?”
• How rational were investors when they dumped stocks en masse 16 months ago – with the Dow at 6,500 – and plunked the proceeds into money market funds just as yields reached an all-time low?

It’s true that most investors behave rationally most of the time.

But it’s certainly not true that all (or even most) investors behave rationally all the time. And that creates opportunity.

Let’s take a look at another flaw in the “random walk” argument…

Get the Insider Advantage

Malkiel mentions that investors incorporate all “public information” into the price of stocks. But how about non-public information?

Most investors don’t have access to non-public information, that’s true. But that doesn’t mean no one has access to it.

Some of the best trades I’ve ever made have resulted from visiting a retailer and asking the manager how regional and national sales are going. Are they supposed to talk about these things? Absolutely not. But do they?

Sometimes they do. Gaining a bit of key information by talking to customers, suppliers, competitors and employees can give you an edge.

And how about company insiders? Officers and directors have access to all manner of material, non-public information. That gives them an enormous advantage over ordinary investors. And that’s also why Uncle Sam requires them to file a Form 4 with the SEC, divulging the details of their buys and sells.

If you watch what the insiders are doing, you won’t access the non-public information that they possess. But you’ll certainly know whether they think their companies’ shares are overvalued or undervalued. And that’s crucial information.

A 10-Year Market-Beating Performance

In short, Malkiel is right that it’s difficult to beat the market. But does that mean it’s futile to try?

Not only have men like Warren Buffett and Peter Lynch put the lie to that line of thinking, so has our own Oxford Club Trading Portfolio. The independent Hulbert Financial Digest confirms that we’ve beaten the market by a wide margin over the past decade.

But while Malkiel is wrong on some crucial points, he is absolutely right on several others. For example…

• He believes it’s a fool’s errand to try to time the market. I agree.
• He insists that an index fund will outperform the vast majority of actively managed funds over time. He’s right. They have and almost certainly will.
• He argues that index funds provide a big performance boost due to cost-efficiency and tax-efficiency. Right again – and this is far more important over the long haul than most investors realize.

In short, I agree with Malkiel far more than I disagree with him. His research – and similar work by John Bogle, William Bernstein and others – has had a profound impact on the development of my own investment philosophy. In fact, our Gone Fishin’ Portfolio is the very embodiment of much of what he espouses.

And Malkiel may be surprised to learn that this portfolio has beaten the S&P 500 – with far less risk than being fully invested in stocks – every year for over a decade.

I’d call that a non-random success.

Good investing,

Alexander Green

Burton G. Malkiel, Burton Malkiel, Business/Finance, Economics, Economists, efficient market hypothesis, Finance, Financial economics, Financial markets, investment, market timing

The Japanese Stock Market: How to Play “The Land of Rising Stocks”

by Alexander Green, Chief Investment Strategist
Monday, June 28, 2010: Issue #1290

The Wall Street Journal reported last week that, for the first time in three years, foreign investors are increasing their holdings in the Japanese stock market.

Data released by the Tokyo Stock Exchange shows that foreign ownership of Japanese shares rose to 26% for the year that ended in March, up from 23.5% a year earlier.

The Journal suggests that a recovery in Japanese corporate earnings is tempting foreign investors back to the country’s equity markets.

But I think there’s more going on here. Perhaps hedge fund managers and other savvy global investors have paged back through their old, dog-eared copies of Dr. Jeremy Siegel’s Stocks for the Long Run.

If so, they may have recognized something significant…

Crunching the Numbers on Japan

Siegel notes that it’s rare for stocks to go 10 years without giving a positive return. Yet we’ve experienced just such a rarity over the last decade.

For stocks to go 20 years without giving a positive return is almost unheard of. And 30 years? That’s rarer than Big Foot, Nessie and the Abominable Snowman combined.

Which brings me back to Japan…

• In 1989, the Nikkei 225 – Japan’s equivalent of the S&P 500 – hit a new all-time high near 40,000. Today, more than 20 years later, it languishes near 10,000 – almost 75% lower.
• In other words, the Nikkei 225 would have to rise 300% just to get back where it was in 1989.

And it wouldn’t surprise me if it did just that by the end of the decade. After all, it’s happened before.

In the 1970s, the U.S. market returned just 0.34% a year – a 3.4% total return for the decade. Yet the Japanese market compounded at 16%, generating a 10-year return of 344%.

What other asset class offers that kind of potential return over the next decade? (Gold bugs, keep your seats.)

Don’t Chase the Bullet Train… Get on Board Now

The groundwork has been laid.

Last August, after more than 50 years, Japan’s opposition party trounced the Liberal Democratic Party in a landslide election.

The new government has promised to shrink the country’s massive bureaucracy and cut wasteful public spending. It also intends to end more than 20 years of economic stagnation by cutting taxes and focusing on small and mid-sized businesses.

Of course, we’re all skeptical of politicians’ promises, but there is evidence that they mean business this time. Twenty years is a long time to leave your economy in a funk.

It’s resulted in Japanese stocks being among the cheapest and most unloved in the world. Virtually no one is enthusiastic about the Tokyo market.

However, great opportunities are born when dirt-cheap valuations marry investor apathy. Plus, Japanese investors are flush with cash. They’ve largely ignored domestic stocks after two decades of sub-par returns. And as that money begins to find its way out of mattresses and back into Japanese equities, the Tokyo market should lift off.

This is doubly true when institutional money managers return to Japan in a serious way. For years, global fund managers have outperformed the world benchmark by simply underweighting Japan. But let the Shinkansen take off without them and they will be forced to dash after it.

So how do you play this?

Two Ways to Ride the Japanese Stock Market

There are dozens of worthwhile Japanese ADRs trading on Nasdaq and the Big Board.

But you can gain exposure to the Japanese stock market through two ETFs…

• iShares MSCI Japan Index (NYSE: EWJ), which invests in large-cap Japanese stocks.
• Wisdom Tree Japan Small-Cap Dividend Fund (NYSE: DFJ), which captures the best of the Japanese small-cap sector.

Or you can spread your bets and own both.

Incidentally, if you remain skeptical about Japanese stocks digging their way out of this 21-year hole, consider again how unlikely it is that Japanese stocks will earn a negative 30-year return.

As Dr. Siegel writes in Stocks For the Long Run:

“In the 12 years from 1948 to 1960, German stocks rose by over 30% per year in real terms. Indeed, from 1939, when the Germans began the war in Poland, through 1960, the real return on German stocks matched those in the United States and exceeded those in the U.K. Despite the total devastation that the war visited on Germany, the long-run investor made out as well in defeated Germany as in victorious Britain or the United States. The data powerfully attest to the resilience of stocks in the face of seemingly destructive political, social, and economic change.”

The story in Japan was similar. By the end of 1945, stock prices stood at about approximately one-third of their level just prior to the Empire’s surrender. Over the next 40 years, the Japanese market returned more than 20 times its American counterpart.

If 200 years of world stock market history is any guide, the current decade should be another barnburner for Japan.

Good investing,

Alexander Green

asset allocation, Business/Finance, Economics, Finance, Financial economics, Financial markets, Financial services, Funds, investment, Japan, jeremy siegel, Stock, Stock market, Stocks for the Long Run

Why the Euro Has Further to Tumble

by Alexander Green, Chief Investment Strategist
Thursday, May 6, 2010: Issue #1254

Being a contrarian is a lonely business.

If you’re a regular reader, you’ll know that ordinarily, I am market neutral on stocks, bonds, currencies and commodities.

The truth is that markets are reasonably efficient. So most years, I don’t stick my neck out and make any market calls on any asset class.

That’s because the vast majority of the time, most assets are neither grossly undervalued, nor wildly overvalued. Rational, self-interested investors keep prices close to true value.

But I am not an efficient market theorist. Investors are always self-interested, yes. But they are not always rational. And I most certainly do not believe that all publicly traded securities are efficiently priced all the time.

That would be lunacy…

Anomalies develop (and opportunities alongside them). Sometimes, these anomalies develop into outright bubbles. When that happens, you will always see eye-popping valuations paired with extreme sentiment. (In other words, sky-high prices and unbridled optimism or rock-bottom prices with extreme pessimism.)

What surprises me is how few investors recognize a bubble, even when it’s right under their nose and they have many thousands of dollars at risk…

Bubble Watch

For example…

• When I warned about the dangers of Internet stocks over a decade ago – I actually quit my Wall Street firm to take possession of my soaring pension shares – most respondents told me I was clearly ill-equipped to recognize the nature of opportunities in “the New Era.”
• Readers similarly scoffed at my warnings about the housing market five years ago. “Real estate always goes up,” they reminded me.
• At $150 a barrel, I wrote a column calling oil “The Mother of All Bubbles.” Demand was already waning and supply was rising as oil hit a new all-time high on various “peak oil” theories. It then quickly lost nearly two-thirds of its value.
• Five months ago – again, right here in Investment U – I predicted that the much-maligned dollar would soar against the euro. And yet again, my readers insisted that I was grossly mistaken and that a weaker dollar was “the ultimate no-brainer.”

Except it wasn’t…

Europe’s Monetary Policy Mish-Mash

Today, the euro hit a 14-month low against the dollar ($1.2689) on increasing recognition that Greece’s fiscal problems are bigger than expected, more expensive than expected and potentially contagious.

Trust me, this is far from over. The 16-member states in the Eurozone are about to start bickering like an old couple that has locked the keys in the car.

Understandably, weaker states don’t like having their economic policies dictated from Frankfurt. And stronger states don’t like spending billions to bail out their profligate brethren from years of fiscal mismanagement.

“Preposterous” Expectations for the Euro Against the Dollar

When the euro was born on January 1, 1999, skeptics rightly worried that the then-11-member states were too divergent to share a single currency and monetary policy.

These fears were well-founded. And the euro promptly plunged on world currency markets to well under $0.90. Today, we know that problems among member states aren’t just possible… not just probable… but right here, stinking to high heaven on our doorstep.

Yet the euro is still trading around $1.27.

Expect it to hit $1.10 by the end of this year – and trade at parity with the dollar sometime next year.

Sounds preposterous? Yes, so I’ve heard.

Good investing,

Alexander Green

Editor’s Note: Find out how The Oxford Club’s “market neutral” investment approach, combined with a keen eye for lucrative contrarian recommendations, led the Hulbert Financial Digest to rank the group’s Communiqué in the top five investment newsletters over the past 10 years.

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Behavioral finance, Business/Finance, contrarian investing, Economics, efficient market hypothesis, Euro, Finance, Financial economics, Financial markets, fundamental analysis, Stock market