Beating Goliath in an Unconventional Way

You’ll notice that not every article I post on the site is specifically finance related.  I like to find ideas, concepts, and theories in all forms and places.  This article I pulled from the Big Picture site which comes from The New Yorker written by Malcom Gladwell who most of you may know from his books The Tipping Point or Blink.  His article "How David Beats Goliath" documents how underdogs win when they break the rules.  He cites a statistic that Goliath beats David 71.5% of all wars fought in the past 200 years.  However when David “acknowledge there weakness and choose an unconventional strategy there winning percentage increases from 28.5% to 63.6%.

Being the smallest of small firms I can totally relate to David going up against the Wall Street behemoths.  The one outstanding point that I take away from this article for both DWCM and for all of you individual investors out there is “we tell ourselves that skill is the precious resource and effort is the commodity.  It’s the other way around.  Effort can trump ability – because relentless effort is in fact something rarer than the ability to engage in some finely tuned act of motor coordination.”

Understanding what your opponents’ strengths and weaknesses are and pitting your strengths against their weaknesses no matter how unconventional can lead to extraordinary results.

U.S. Economy Tipping into Recession

If you follow any snippets of economic new you have probably seen where the ECRI (Economic Cycle Research Institute) has issued there warning of an upcoming recession U.S. Economy Tipping into Recession .  What sets ECRI apart from other is that they have correctly called the last three recessions without any false alarms in between.  CEO Lakshman Achuthan, has been hitting the news circuit discussing their forecast.

I picked up on this story back a few weeks ago at the end of September and since then the markets have been on a tear.  The key point to remember is that you can always have bear market rallies during downturns.  An interesting trend that I have seen the past week is that a few of the momentum stocks such as Netflix and Green Mountain Coffee Roasters have taken a nose dive even as the broader market has continued to rally. This could be an early indicator as people move out of less risky assets and into safer plays

You can learn more about ECRI here and can watch a detail interview by Tom Keane of Bloomberg with Lakshman Achuthan

Two Kinds of Investing

I see two verifying types of investing, buying businesses as stocks for the long-term and second stocks as short-term trading vehicles to profit.  Both can be used to create a diversified portfolio and solid approach to investing.  The key is to remember which one is which and not confusing the two.

Always have a thesis for why you are buying a stock.  One thing that you will see with DWCM is our thesis or commentary as to why we bought or sold a position.  If you’re buying a stock for a trade make sure you don’t get caught up in thinking it is a long-term buy if the stock shoots up in price.  Or vice versa if the position does not perform as expected, have an exit strategy.  Not every trade works and it is better to cut loses and live to trade another day.  Sometimes the best trading ideas cannot outlast remaining solvent.

From a long-term perspective, investing can center on fundamental analysis or even technical analysis.  At DWCM we use a combination of both.  We utilize fundamental analysis in our initial stock search focusing on companies with low debt, steady cash flow, and consistent revenue growth.  Technical analysis is useful in determining stock entry and exit point or support and resistance levels if you will.

Say Goodbye to Q3

Depending upon your position the  Third Quarter Performance was extremely painful if you were on the long side.  Even if you were on the short side depending upon when you got in or what day could have been potential just as bad.  With the extreme volatility we experienced in both an up and down direction it was tough place to be.

Verses the S&P all of the other major global markets performed worse.  The only asset class to outperform was the bond market and gold of course which are both looked at safe havens in times of volatility and uncertainty.

A few ways to protect yourself in these turbulent times are option positions.  Buying put options can help limit your downside exposure but as volatility increases it gets more expensive.  Think of buying house insurance as your home is already on fire.  One way to counteract this or lower the cost of a put is using a put spread which lowers your costs but limits your profitability.  Although bonds outperformed they seem risky as price appreciation has gone parabolic as rates are at historic lows.  With most countries in a race to devalue their currencies, gold can be a hedge against this volatility.

Continued Volatility

Bespoke Investment had a good post Welcome Q4 regarding the volatility over the course of the last few months.  Basically we are in a tight trading range but with action that would make you nauseas.  As the note points out, the average daily movement of the S&P has been +/- 1.9%.  This makes it even hard for trading professional to make money.

To me this data points out the critical importance of knowing what you own and why.  Having conviction in a market like this is tough but will also help you sleep better at night.  It can also open up small but quick pockets of opportunities to build on current positions and pick up stocks currently on your watch list.

This also brings up a good point about have reserves which benefits you in two ways.  As the markets wip saw back and forth with a downward trend it helps protect your portfolio.  Second it leaves you the opportunity to pick up positions at reduced entry points.  Cash id definitely not trash in this market environment.

Will Investors Get Fooled Again

A good article posted in the WSJ a few weeks back regarding investor sentiment.  Sometimes I find it helpful to read the paper a few days or even weeks after they are written.  At times you can get caught up in all of the attention grabbing headlines produced by the main street media and lose focus on your investing objectives.  For example I listen to CNBC on a regular basis but don’t let if guide my investment decisions.  Instead I use it for some informational purposes and a little entertainment value.

One of the big drivers behind this week’s rally has been the speculation in Europe that the leadership there is close to devising a plan for their ongoing financial crisis.  This has been a constant theme over the past week and has led to a good portion of the increased volatility.  Perceived good new (work out plan) in Europe = rally in US stock market.

Investors Sing a New Tune The article points out 3 drivers as to why you shouldn't be suckered back into stocks

1. Ongoing crisis in Europe
2. Economic slowdown throughout the world
3. US debt issues

All three are valid points but over the past two weeks as most major market indexes have climbed 10% and out of the red for the year it proves that once again to have some skin in the game can pay off with this increased volatility.  This is where it is always handy to keep some cash on the side and a watch list of companies that you would like to own.  Volatility can give you great entry and exit points.