Sunday Musings: The WSJ On Trend Investing

The WSJ featured a niece pieced titled ‘Trend’ Investing Gains Converts:

Proponents of “trend” investing—buying and selling stocks depending on technical analysis of the market’s direction—say the tactic not only enables investors to navigate unstable markets, but also prevents big losses when prices fall.

This stance is winning converts at a time when concern about the strength of the U.S. economic recovery and the future of consumer spending is running high. Yet this technique is controversial, as it counters conventional wisdom that time in the market, not market timing, offers individual investors their best chance for success.

To trend followers, the notion of buy-and-hold investing—picking stocks based on fundamentals and keeping the investments for months or years—has no place in today’s market and, in fact, is a recipe for defeat.

“You have to understand the game you’re playing; you’re playing with sharks,” said Kenny Landgraf, president of Kenjol Capital Management in Austin, Texas . “You may believe in buy and hold, but there are large players out there that don’t.”

Mr. Landgraf uses a proprietary formula to decide when to invest, and approaches the market using exchange-traded funds. As of this past week, the firm was fully invested, having jumped back into the market mid-June. The main advantage of trend investing is protection from heavy losses, Mr. Landgraf said.

“[After starting fully invested] you’re constantly moving to a more-defensive position until you just get out,” he said.

The strategy has shown it can work under the most difficult circumstances. Mr. Landgraf took clients in his Sector Rotation portfolio, his firm’s all-U.S. stock offering, out of the market in August 2008, and after “one or two false starts” didn’t venture back until March 12, 2009.

This approach gave the portfolio an annualized gain of 1.5% for two years from 2008 and 2009. By contrast, the Standard & Poor’s 500-stock index was down 11% over that period. Moreover, data from investment-researcher Morningstar Inc. show that less than 3% of stock mutual funds, just 63 out of 2,301, were in the black.

Trend investing underpins a few specialized stock mutual funds. Stadion Managed Portfolio (trading symbol: ETFFX) lost just 5.8% in 2008, according to Morningstar. The fund, which invests in an array of exchange-traded funds, pulled its money from the market in November 2007 and didn’t fully recommit until mid-April 2009. Nowadays, it is completely out of the market, and has been since the beginning of May.

Stadion’s approach offers investors “a much more comfortable ride” said Brad Thompson, chief investment officer at Stadion Money Management.

Yet while both Stadion’s and Kenjol’s strategies sidestepped the worst of 2008, they also missed much of the recovery the following year.

Kenjol’s Sector Rotation was up 24.3% in 2009 compared with a 26.5% gain for the S&P; 500, while the Stadion fund gained only 2.7%. Kenjol didn’t provide returns for this year, but Stadion’s fund was up 2.5% as of July 15, three percentage points better than the S&P; 500.

Wayne Copelin, founder of Copelin Financial in Sugar Land, Texas, said two bear markets in the past decade have convinced him that a buy-and-hold strategy can’t work in today’s markets.

“We’ve heard for years from money managers the pitch that ‘it’s not about timing but time in the market,’ but then you notice that the ones pitching this are the ones that make money if you stay fully invested,” he said.

[Emphasis added]

The article did a nice job on describing trend following or trend tracking as I refer to it. While there are many different approaches, the ultimate goal is the same: to avoid seeing a portfolio go down in flames when the bear strikes.

To be clear, no matter what strategy you use, you will never be able to avoid losses altogether; they’re simply part of investing. They key is to keep them manageable by not letting a portfolio deteriorate by 40% or more, which will make recouping losses an almost impossible task.

Case in point is a new client who recently came aboard. His portfolio had a value of $1.3 million in the early 90s. It’s now worth some $530k. Two bear markets along with using advisors with no exit strategy can do that to you. Do you think this client is comforted by the fact that “long-term” the market has returned an average of 9%? Of course not, his retirement life has been changed forever.

One key point was totally missed in the above article. If you sidestep one of the worst bear markets (2008) in history, it is not necessary to participate in the subsequent next year rebound to stay ahead of the S&P; 500.

I elaborated on that to some degree in yesterday’s post and in more detail in Buy and Hold Revisited; however, main stream media with its one-sided view never seems to get that point.

About Ulli Niemann

Ulli Niemann is the publisher of "The ETF Bully" and is a Registered Investment Advisor. Learn more
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