TSX TrendWatch Weekly

The S&P/TSX Composite Index slumped -3.7% last week, bringing the year-to-date figure to -5.4%. That effectively cancelled out the previous week’s gain of +3.6%.

Turning our sights on small caps, however, the S&P/TSX Venture Index rose +1.8%, for a year-to-date gain of +16.1%! Premium Service subscribers should be concentrating on that part of the database at this time… although penny stocks do carry considerably more volatility and risk with them.

As has been mentioned before, the American major indexes  are performing worse than our own. The Dow Jones Industrials were off -5.2% last week, for a year-to-date reading of -13%. The S&P500 fell -4.8% last week, or -11% year-to-date.

Five of the sector indexes still have positive trend values within the S&P/TSX Composite Index… with MATERIALS on top. The index is rising 2.4%/week, although consistency (at 40%) could be better. Gold and silver stocks are heavy contributors to that, as both forms of bullion have been rising lately. Gold is up 8% year-to-date and silver… up 19%.

FINANCIAL SERVICES  stocks continue to be the sore point. The FINANCIAL SERVICES index is down -12% year-to-date and continues to fall an average of -2% per week.

As usual, the rest of the details are in the DATA & CHARTS workbook.
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The Demise of Buy/Hold Investing

There was an interesting article in the latest issue of Futures magazine called “Buy and Hold, R.I.P.:  1900-2007″. The author, Murray Ruggiero, makes a strong case for active trading, which is obviously what we advocate here… as long as the market conditions are working for us.

One might wonder how anyone would adopt a buy/hold strategy in the first place, and why it has remained popular until recently.

Well, the first reason is simplicity.  You simply find some large companies with good strong fundamentals, buy some shares in a few of them (for diversity) and wait until retirement.  How simple is that?  To embellish the technique a bit, you might buy more shares of these companies if and when your day-job provides you with more investment capital. Fans of dollar-cost averaging invest fixed amounts of cash at regular intervals with the markets are rising or falling.

Another justification for the approach is to simply look at how stock market indexes have performed in the long haul… 25, 50, 100 years.  Over such intervals stock markets have outperformed almost every other investment.  So why worry about “short term” bull and bear markets?  They’re just noise in the long term trend.
But as buy and hold increased in popularity in the mid-60s, there were a number of academic studies that also justified this approach. The two key pieces of evidence that emerged were…

1. Stock prices move in a random-walk. Some studies showed that, statistically, stock price moves were independent of the predictions made by various chartists at the time. Hence, if ups and downs can’t be predicted, why bother?
2. Markets are efficient.  Efficient Market Theory stated (and provided some evidence) that all information about a company or the economy or whatever is instantaneously factored into stock or index prices. That being the case, stock prices are always “fair”, so there’s no way for one investor to outperform another investor for any extended period of time.

While the jury may still be out on some of these matters, further academic work in the 70s, 80s and beyond poked holes in earlier claims.  For instance, some exceptions that can’t be accounted for are seasonal effects and the tendency for stocks and markets to over-shoot their fundamentals on the way up or the way down. If price moves were random and markets effiencient, such things shouldn’t be possible.

The current outperformance of the Venture exchange is a perfect example.  Small-cap stocks accelerate in value at the beginning of each year, almost without fail.  This shouldn’t happen if markets were consistently efficient and stock prices random.

Now, let’s look at some more pragmatic consequences of buy and hold.

In 2008, 7 years of stock market gains were erased… seven years!!! Buy/hold investors would have lost about half of the value of their portfolio. Now, keep in mind that a 50% decline in a buy/hold portfolio will now require a 100% gain just to get back to where it was before the 2008 collapse. Suppose that takes another 7 years or more.  Markets almost never have “V” bottoms, and this one is not likely to be an exception.

As proponents of active investing through relative trend analysis™ (RTA), we’re certainly not going to tell you to avoid the fundamentals in your stock selection. And, we’re not going to advocate the use of chart patterns and the many forms of technical analysis that try to predict tops and bottoms. Instead we’ll continue to encourage three inter-related strategies…

1. Consider your purchases based on how stocks or indexes are performing relative to one another. It would have been foolhardy to invest primarily in MATERIALS stocks during the INFORMATION TECHNOLOGY boom, and equally foolish to have been in INFORMATION TECHNOLOGY equities during the commodities run-up.
2. We have continually observed that (other things being equal) stock or index price trends tend to persist longer if they are consistent. Our consistency measure factors in volatility, so that equities with positive, consistent trends will generally be less risky as well. (We say “other things being equal”, because a takeover attempt, the death of a CEO, a sudden earnings shortfall, and other unpredictable events will throw a wrench into the works. Hence, fundamentals are still important too.)
3. Don’t passively stay in equities when you can plainly see that the market is collapsing. Our chart above simply tells you whether the odds are for or against you (even if you picked your stocks randomly… which we certainly don’t encourage!). Depending on your level of risk tolerance you might start buying when this index is at, say, 60% if you can find some stocks or indexes with consistent uptrends, and reduce exposure to equities as the odds shift south of 50% to maybe 40%. In all likelihood you will already have seen the trend and consistency ratings of your individual investments shrink by then anyway… another exit strategy.

This is our simple active approach to investing, which we believe is superior to buy/hold by a wide margin. We don’t need to predict the future. We just need to observe what’s happening right now and go with the flow. So, while buy/hold investors lost half of their holdings in 2008, we slipped out into cash last June/July… not entirely without losses, of course, but we preserved far more capital than a buy/hold practitioner. We won’t need to see a 100% gain during the next upswing just to break-even. We hope that’s true for you too!
[Note: Futures magazine maintains archives of its print publication at http://futuresmag.com. You can learn more from Ruggiero’s article at that site. Access fees apply.]