7/31/12

About the seasonality of the markets

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

Shouln't you too subscribe to The Peter Dag Portfolio?

7/28/12

The Dynamics of Risk Management

In managing money and managing the risk of your portfolio, it is crucial that you establish the period and the timing of reviewing your portfolio and strategies. Professionals are likely to review their strategies every day - every minute - as the data come through the screens. An avid investor may review his strategies every day or every week. Others would prefer every month. What is important is that strategy and the assessment of risk is reviewed with periodicity.

The closer that you keep an eye on the performance of your portfolio, the more successful you will be. If you do not have the time to perform this task, the odds are that you have too many investments, too many stocks, too many bonds, and too many other assets that you have to follow. The important thing is to choose a few assets, a few stocks, and follow them very closely. If you do not have the time, give your money to a professional portfolio manager, or an administrator who provides you with a weekly summary of the value of your investments. It is very difficult to be successful without a close monitoring of the performance of your portfolio.

The choice of the investment period is very important to be successful in investing. Some investors like to day-trade. They feel comfortable investing early in the morning and after a few hours or a few seconds, selling their positions. The reason they feel comfortable is because they have developed patterns in stock prices; they have developed their own indicators and methodology to invest. They review their decisions every minute after they have invested their money. Every minute they decide if they should continue to hold their current position or if they should sell. The investment period for them is very short. It fits their personality and above all fits with the model they have of how and why stock prices change. They feel comfortable with that model and are willing to make important investment decisions using such models.

There are other investors who have found that there are cycles in the stock market whereby stocks rise for anywhere from one to two weeks when certain conditions arise. For instance, when the market is oversold, volume increases, breadth expands with a larger number of stocks rising, these investors take advantage of these patterns. They have determined that the odds of investing over a week or 10-day period are very profitable for them. Different from the day trader, they review their investment position every few hours, or every day, to make sure the trend is still in their favor. Their personality is not as active as that of the day trader, but it is still a very intense way of investing.

There are other investors who feel more comfortable with longer investment periods and recognize that a favorable trend lasts for several months. This book will provide you with the information to help you recognize these trends. In this case, information should be reviewed every week to make sure the trends and the factors that have helped the investor make the decision to buy or sell are still in place. Other investors have a trading rule of buying only between the end of October and the end of April. They believe in the strong seasonality that exists in the stock market. According to this model, the period of May-October is very unfavorable. Each investor has his own personality and his own psychological requirement when investing. It also depends greatly on the kind of rules the investor wants to follow to make a particular decision.

Whatever your personality and emotional characteristics, it is important to (a) decide what your investment period is, (b) recognize that the success of your investment program strongly relies on reviewing the performance of your portfolio, (c) review what caused your decisions to buy or sell, and (d) maintain the flexibility to change that decision if it proves to be the incorrect one. Furthermore, it is important to move in small steps to avoid painful mistakes where a change in investment posture is required.

How do you manage risk? What is the process? Step one is to collect the information. In the following pages, you will find the most important data one should follow to access the risk of the various markets. This book will also provide ways of organizing it so that it becomes easily understood and can be easily interpreted. Depending on the investment approach you choose, you have to select different types of information. The day trader might be interested in sophisticated, technical patterns in stock prices and resistance and support levels, in volume patterns, and in hourly cycles in stock prices to trade. On the other hand, if your investment period is over several months, you have to rely more on economic and financial data and the review of this information should be done every week or two weeks.

The second step in the dynamics of risk management is to develop knowledge - that is, to have a model in your mind to process the information that you have collected in step one. The main objective of the following pages is to provide you with this model - how to process, how to interpret, how to analyze the information collected in step one.

For instance, you will learn the reasons why a strong economy is followed by rising interest rates, and how to relate rising interest rates to the stock market and overall liquidity in the economic system. You will learn to recognize that if liquidity increases and short-term interest rates decline, this usually happens when the economy is fairly weak and creates an environment favorable to rising stock prices. There are many economic and financial factors that need to be tied together. The purpose of this book is to propose to you a way of connecting all this information and therefore recognize what is happening. This element by itself will help you make important projections in understanding the risk involved in the financial markets.

Step three is the most important phase of assessing risk. In this step one has to evaluate on the basis of the model and on the basis of the information collected, what the risks are for the various markets. The outcome of this step is very simple. Should I increase my investments in a certain asset, should I start selling because risk is becoming too high and it's not worth it to have so much money on the line, or should I just stay with my current position and do nothing? These three conclusions have to be reached at the end of step three.

Let's assume that the investment environment is such that the economy is very strong and because of the previous step we have determined that the economy will remain strong. Let's also assume that interest rates have been rising for more than two months. We will see that your outlook for interest rates, according to the methodology presented in this book, will be that they will continue to rise. This forecast tells you that the risk for the stock market is certainly going to increase.

As risk increases, which also means that the odds of making money is decreasing, the appropriate strategy is to reduce the amount of money that you have in the stock market. You will also have to examine the other options that are available to you. For instance, a strong economy may cause commodities to rise including gold, silver, palladium and platinum. One way to invest under this environment would be to reduce your exposure to stocks, and increase your exposure to commodity-type stocks.

Step four will be the outcome of step three. In step three, let's say that the answer is "yes", the risk of the market is very high and the probability the market will rise from the current levels has decreased greatly. Given the returns one can get from money market mutual funds, it doesn't pay to have all the money in the stock market. The outcome of step four is to decide that based on risk having increased, the money invested should be reduced - the odds of winning are decreasing, so you have to decrease the amount that you bet. Remember what the poker player does when not handed a good set of cards.

The most difficult decision investors have to make is to decide if it is better to be in cash than in the stock market. It is a difficult decision because these are the times when they will always read stories of some stocks rising and making new highs, even if a bear market is under way. What are the odds an investor has in finding those stocks? Very small. When the majority of stocks decline, the odds are that the investor will lose money by owning stocks. This is a good time to fold and to wait for the time when the odds of making money are considerably better.

Finally, once you have established the strategy, the outcome at the end of step four, you have to implement the strategy. Based on the period of time you have determined best for you, you will re-evaluate your strategy.

Professional investors re-evaluate their strategy daily because everyday there is some information available that might change their strategy. One has to go back to collect the information that has been published and made available in the last day, process it through the model, decide if risk has increased or decreased, and then develop the new strategy whether one should start buying or start selling or should do nothing. And so this process is repeated continuously everyday. This is the only way to protect yourself against losses and to protect yourself against loosing money.

This is the only way you can make sure that the amount of money you have invested reflects the odds of making money. Again, if the odds of making money are low, you should not invest a lot of money. It just doesn’t make sense.

The important steps to manage risk can then be summarized as follows:

1) Collect information after you have decided what is the investment period that is best suited to your personality.

2) Develop the knowledge and understand the meaning of the information you have collected.

3) Evaluate the risk of the market based on the interpretation of the information you have collected.

4) Determine the level of risk. Is risk high and increasing or low and decreasing?

5) Establish a strategy. If risk is increasing, the strategy is to reduce your exposure to stocks. If on the other hand, risk is decreasing, you may want to consider investing more of your capital in stocks.

These steps should be repeated depending on the investment period you have selected. The day trader evaluates this information and goes through these steps every minute. A 10-15 day investor reviews this information every day. The investor whose investment period is several months, will review this information every week and, at the very least, once a month. (From my book Profiting in Bull or Bear Markets).

7/27/12

Prediction

Greece will leave the Euro and its economy will grow at a strong pace.

It will prove to the other European countries that the Euro project has been and still is a big failure.

This is the real reason the Brussels bureaucrats do not want Greece to leave the Union.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/26/12

Question

How can you trust a stock market that sinks because Spanish bond yields move to new highs and then it rallies because Draghi hinted the ECB would target high sovereign bond yields, a measure the ECB has been reluctant to take in the past?

Timing is essential in this market.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/23/12

Thought of the day

Europe...let's get it over with your problems. We are tired of hearing about your financial issues. You are making a lot of people suffering.

Dismantle your crazy project, which was doomed from the start because of huge productivity and cultural differentials between all your nations.

Let it go. Let the people live their life without the horror of being strangled by your nonsensical currency and grotesque bureaucracy!

7/22/12

Milton Friedman on the impact of concentration of power

This is a point I have made for a long time -- concentration of power causes slow economic growth.

7/21/12

A defensive strategy

This strategy could protect your portfolio in a down market.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/20/12

Investing in bonds.

There are times when bonds are an excellent investment during a market cycel. See also my video Buy Bonds for Capital Gains

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/19/12

From the Philadelphia Fed

"Manufacturing firms responding to the Business Outlook Survey continued to report weak business conditions in July. The survey’s diffusion index of current activity increased to −12.9 from a reading of −16.6 in June, marking the third consecutive negative reading for the index. The survey’s indicators of activity over the next six months remained positive but moderated somewhat from June."

The bottom line - in my view - is that the manufacturing sector is contracting and this is the reason for weak commodities and lower yields. More details in The Peter Dag Portfolio

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/18/12

Interesting profit opportunity

Interest rates are negative in Belgium, Austria, Germany, Netherlands, Finland, Switzerland and Denmark.

It means the governments of these countries take money from your investment when you buy their bonds.

Will Treasury bond yields of the US become negative? Does this offer great profit opportunities?

We discuss in great detail our bond strategy in The Peter Dag Portfolio.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/17/12

The Cure for Our Economy’s Stationary State

An interesting article by the famous historian Niall Ferguson. Click here to read it.

7/16/12

The Dynamics of Risk Management

In managing money and managing the risk of your portfolio, it is crucial that you establish the period and the timing of reviewing your portfolio and strategies. Professionals are likely to review their strategies every day - every minute - as the data come through the screens. An avid investor may review his strategies every day or every week. Others would prefer every month. What is important is that strategy and the assessment of risk is reviewed with periodicity. The closer that you keep an eye on the performance of your portfolio, the more successful you will be. If you do not have the time to perform this task, the odds are that you have too many investments, too many stocks, too many bonds, and too many other assets that you have to follow. The important thing is to choose a few assets, a few stocks, and follow them very closely. If you do not have the time, give your money to a professional portfolio manager, or an administrator who provides you with a weekly summary of the value of your investments. It is very difficult to be successful without a close monitoring of the performance of your portfolio.

The choice of the investment period is very important to be successful in investing. Some investors like to day-trade. They feel comfortable investing early in the morning and after a few hours or a few seconds, selling their positions. The reason they feel comfortable is because they have developed patterns in stock prices; they have developed their own indicators and methodology to invest. They review their decisions every minute after they have invested their money. Every minute they decide if they should continue to hold their current position or if they should sell. The investment period for them is very short. It fits their personality and above all fits with the model they have of how and why stock prices change. They feel comfortable with that model and are willing to make important investment decisions using such models.

There are other investors who have found that there are cycles in the stock market whereby stocks rise for anywhere from one to two weeks when certain conditions arise. For instance, when the market is oversold, volume increases, breadth expands with a larger number of stocks rising, these investors take advantage of these patterns. They have determined that the odds of investing over a week or 10-day period are very profitable for them. Different from the day trader, they review their investment position every few hours, or every day, to make sure the trend is still in their favor. Their personality is not as active as that of the day trader, but it is still a very intense way of investing.

There are other investors who feel more comfortable with longer investment periods and recognize that a favorable trend lasts for several months. This book will provide you with the information to help you recognize these trends. In this case, information should be reviewed every week to make sure the trends and the factors that have helped the investor make the decision to buy or sell are still in place. Other investors have a trading rule of buying only between the end of October and the end of April. They believe in the strong seasonality that exists in the stock market. According to this model, the period of May-October is very unfavorable. Each investor has his own personality and his own psychological requirement when investing. It also depends greatly on the kind of rules the investor wants to follow to make a particular decision. Whatever your personality and emotional characteristics, it is important to (a) decide what your investment period is, (b) recognize that the success of your investment program strongly relies on reviewing the performance of your portfolio, (c) review what caused your decisions to buy or sell, and (d) maintain the flexibility to change that decision if it proves to be the incorrect one. Furthermore, it is important to move in small steps to avoid painful mistakes where a change in investment posture is required.

How do you manage risk? What is the process? Step one is to collect the information. In the following pages, you will find the most important data one should follow to access the risk of the various markets. This book will also provide ways of organizing it so that it becomes easily understood and can be easily interpreted. Depending on the investment approach you choose, you have to select different types of information. The day trader might be interested in sophisticated, technical patterns in stock prices and resistance and support levels, in volume patterns, and in hourly cycles in stock prices to trade. On the other hand, if your investment period is over several months, you have to rely more on economic and financial data and the review of this information should be done every week or two weeks.

The second step in the dynamics of risk management is to develop knowledge - that is, to have a model in your mind to process the information that you have collected in step one. The main objective of the following pages is to provide you with this model - how to process, how to interpret, how to analyze the information collected in step one.

For instance, you will learn the reasons why a strong economy is followed by rising interest rates, and how to relate rising interest rates to the stock market and overall liquidity in the economic system. You will learn to recognize that if liquidity increases and short-term interest rates decline, this usually happens when the economy is fairly weak and creates an environment favorable to rising stock prices. There are many economic and financial factors that need to be tied together.

The purpose of this book is to propose to you a way of connecting all this information and therefore recognize what is happening. This element by itself will help you make important projections in understanding the risk involved in the financial markets.

Step three is the most important phase of assessing risk. In this step one has to evaluate on the basis of the model and on the basis of the information collected, what the risks are for the various markets. The outcome of this step is very simple. Should I increase my investments in a certain asset, should I start selling because risk is becoming too high and it's not worth it to have so much money on the line, or should I just stay with my current position and do nothing? These three conclusions have to be reached at the end of step three.

Let's assume that the investment environment is such that the economy is very strong and because of the previous step we have determined that the economy will remain strong. Let's also assume that interest rates have been rising for more than two months. We will see that your outlook for interest rates, according to the methodology presented in this book, will be that they will continue to rise. This forecast tells you that the risk for the stock market is certainly going to increase.

As risk increases, which also means that the odds of making money is decreasing, the appropriate strategy is to reduce the amount of money that you have in the stock market. You will also have to examine the other options that are available to you. For instance, a strong economy may cause commodities to rise including gold, silver, palladium and platinum. One way to invest under this environment would be to reduce your exposure to stocks, and increase your exposure to commodity-type stocks.

Step four will be the outcome of step three. In step three, let's say that the answer is "yes", the risk of the market is very high and the probability the market will rise from the current levels has decreased greatly. Given the returns one can get from money market mutual funds, it doesn't pay to have all the money in the stock market. The outcome of step four is to decide that based on risk having increased, the money invested should be reduced - the odds of winning are decreasing, so you have to decrease the amount that you bet. Remember what the poker player does when not handed a good set of cards.

The most difficult decision investors have to make is to decide if it is better to be in cash than in the stock market. It is a difficult decision because these are the times when they will always read stories of some stocks rising and making new highs, even if a bear market is under way. What are the odds an investor has in finding those stocks? Very small. When the majority of stocks decline, the odds are that the investor will lose money by owning stocks. This is a good time to fold and to wait for the time when the odds of making money are considerably better. Finally, once you have established the strategy, the outcome at the end of step four, you have to implement the strategy. Based on the period of time you have determined best for you, you will re-evaluate your strategy.

Professional investors re-evaluate their strategy daily because everyday there is some information available that might change their strategy. One has to go back to collect the information that has been published and made available in the last day, process it through the model, decide if risk has increased or decreased, and then develop the new strategy whether one should start buying or start selling or should do nothing. And so this process is repeated continuously everyday. This is the only way to protect yourself against losses and to protect yourself against loosing money.

This is the only way you can make sure that the amount of money you have invested reflects the odds of making money. Again, if the odds of making money are low, you should not invest a lot of money. It just doesn’t make sense.

The important steps to manage risk can then be summarized as follows:

1) Collect information after you have decided what is the investment period that is best suited to your personality.

2) Develop the knowledge and understand the meaning of the information you have collected.

3) Evaluate the risk of the market based on the interpretation of the information you have collected.

4) Determine the level of risk. Is risk high and increasing or low and decreasing?

5) Establish a strategy. If risk is increasing, the strategy is to reduce your exposure to stocks. If on the other hand, risk is decreasing, you may want to consider investing more of your capital in stocks.

These steps should be repeated depending on the investment period you have selected. The day trader evaluates this information and goes through these steps every minute. A 10-15 day investor reviews this information every day. The investor whose investment period is several months, will review this information every week and, at the very least, once a month. (From my book Profiting in Bull or Bear Markets)

7/15/12

President Obama: "If You've Got A Business - You Didn't Build That. Somebody Else Made That Happen"

Fron ZeroHedge

"There are a lot of wealthy, successful Americans who agree with me -- because they want to give something back. They know they didn’t -- look, if you’ve been successful, you didn’t get there on your own. You didn’t get there on your own. I’m always struck by people who think, well, it must be because I was just so smart. There are a lot of smart people out there. It must be because I worked harder than everybody else. Let me tell you something -- there are a whole bunch of hardworking people out there. (Applause.)... If you were successful, somebody along the line gave you some help. There was a great teacher somewhere in your life. Somebody helped to create this unbelievable American system that we have that allowed you to thrive. Somebody invested in roads and bridges. If you’ve got a business -- you didn’t build that. Somebody else made that happen. The Internet didn’t get invented on its own. Government research created the Internet so that all the companies could make money off the Internet."

My reaction? Who is paying for the government's largesse? The government distributes wealth. It does not create it.

Observations

I learned a lot in my professional life.

A PhD gives you the confidence to look into the unknown. In school you learn a structured process to find what is new. In 1977 I decided to forecast the financial markets. First, though, I had to define “the system”. How everything is related. Then, I wanted to become No.1. I knew what it would take. The same intensity as when I won the Italian tennis championship.[I was ranked No. ! by Hulbert in 1989]

I decided to start with mutual funds. I chose a conservative family such as Vanguard. In 1989, for several months, Hulbert ranked me No. 1 among mutual fund and stock investment advisors.

Finally I realized that mutual funds have considerable limitations when you need to implement a strategy.

Stocks offer more opportunities. But it takes additional analysis and understanding of why the stock price of a company behaves the way it does.

When I began recommending stocks, I liked the idea of momentum. The problem is that momentum does not tell you when to sell. Then I looked at value. But value stocks did not perform well in the late 1990s.

The management of $3 billion in interest rates derivatives and $1 billion in currencies improved my understanding of how the markets work. What are the main forces identifying risk and opportunities?

I used this experience to merge the positive features of momentum, the advantage of buying value stocks, with the forces that drive the fortunes of a company.

For instance, S&L stocks represent a great investment when short-term interest rates decline. But they should be avoided when they rise.

Our current research is now focused on ranking stocks and stock sectors based on their performance during the four phases of the business cycle. As soon as we establish the direction of business activity we immediately know which stocks we should buy or sell. I am very excited about what we are accomplishing. I trust you will be, too.

(This Observations appeared in the 7/12/2004 issue of The Peter Dag Portfolio).

7/14/12

The business cycle works.

With all the economic and financial crosscurrents it is important, in my view, to keep an eye on the business cycle and its impact on various asset classes.

1. The US economy is downshifting and may be already in a recession.

2. Europe is in a serious recession.

3. Commodities are declining across the board because of the weakness in production and bulging inventories in the US and Europe (50% of the global economy).

4. Inflation is steadily declining and may turn out to become deflation in the US.

5. Yields are declining because of declining inflation and commodities.

6. Commodity sensitive stocks are going nowhere since 2011 because of the trend of commodities and industrial sector.

7. A large number of stocks keep climbing with low volatility. They are listed in our “Watch List” on page 4 of “The Peter Dag Portfolio”.

8. Our model portfolios reflect these trends.

These investment themes and specific recommendations are discussed in great detail in the latest issue of “The Peter Dag Portfolio”.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/13/12

What to do in a risky market?

How do you manage risk when you know the market is close to a pause?

This is the time you use the inverse relationship that exists between bonds and stocks.

The trick is selecting the right stocks, the right bonds (ETFs or mutual funds), and have the correct split between them.

This is what risk management is all about. You have to have the strategy in place and know what to do if you feel the market may be heading south.

This issue is discussed in detail in The Peter Dag Portfolio.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/10/12

The Importance of Assessing Risk and How to Use it to Manage Money

The reason we are talking about risk is because forecasts aren't reliable. What you think or what people say will happen next to the stock market, or to interest rates, or to the economy, is totally unreliable. If it was reliable, if it was sure, if we knew what was going to happen, then people would not talk about strategy, because the best strategy would have been to bet everything you have on that forecast. But since we don't know if the forecast is going to be accurate, we cannot bet all we have, because our chances are we will lose it…therefore we are talking about strategy.

The reason the forecast can never be accurate is because a forecast is achieved through many steps, and at each step a new element of uncertainty is introduced. The most important step in achieving a forecast is the assumptions that the forecaster makes and the assumptions are based on what the forecaster believes and the forecaster's experience in similar situations. For instance, an assumption could be that with a given policy of the US Government - the level of taxation and the level of real interest rates - inflation cannot rise much above current levels. This is an important assumption, because as we will discuss in detail later in this book, if inflation is stable, the odds are that there will not be major financial disturbances. That means the economy will remain stable and jobs are likely to be plentiful.

An assumption of low or stable inflation also suggests that interest rates will not rise, and the stock market will probably remain in a rising trend. As you can see, the assumption is a very important step in reaching a forecast.

The second step in making a forecast is to understand the relationships between economic variables on a historical basis. For instance, an example of a relationship is when short-term interest rates rise, the odds favor a more volatile stock market and poor price performance. This relationship is something the forecaster will have experienced and will likely use this relationship again in the future. Understanding this history provides a logical connection between economic variables.

The third step in achieving a forecast is to understand what is happening now. The forecaster, for instance, can recognize that interest rates are declining or stable and there are several signs pointing to a weak economy, giving a clear indication of what is happening now. Sometimes, as the reader has experienced following the commentaries on television or the radio, not all economists agree on what is happening now, let alone what will happen. Is the money supply growing too rapidly? Are orders for durable goods too strong or too weak? An assessment of what is happening now is a most crucial aspect in achieving an accurate forecast.

In the fourth step, the forecaster puts together all these steps, the assumptions, the historical connections of all the economic forces, and understanding what is happening now. This will lead the forecaster in the direction of determining what is happening. What is important to recognize is that there is a strong element of uncertainty in each one of these steps. Therefore, an error is introduced with every progression in achieving a forecast. This implies risk. The forecast is likely to be incorrect. Therefore, one must recognize that an element of uncertainty exists and investors need to protect themselves from the error of these forecasts. All components of each forecast have to be clearly understood. As we mentioned above, it is important to recognize what the assumptions have been, the historical connection between the economic variables and what is happening now, and the process of extrapolation.

The more comfortable the reader is with the steps used, the more accurate the forecast will be. However, no matter how comfortable readers are with their own forecast, it is important to remember there is always a strong element of uncertainty. The best way to reduce the uncertainty is to review the forecast often - every time a new element is made available by government agencies, by the Federal Reserve or by the market itself. All those elements should be reintroduced into the process and the forecast begun again. This process will reduce the element of risk as it increases the understanding of what is happening and the conviction that the recognized trends are accurate.

Another important issue from an investment viewpoint is to recognize the trends; this is where the money is made - not in forecasting. Is the economy going to grow at a 2% or 6% rate? Is the economy going to slow down or continue to slow down? Are interest rates going to continue to rise or rise more slowly? To set values - interest rates will rise to 6%, or the economy will grow at 5% - has limited value from investor’s viewpoint. Large profits can be derived only when investors recognize broad, fundamental trends. Once they recognize these trends are in place, they are likely to stay in place for months or even years. These are the trends that investors will learn how to recognize from this book, and these are the trends that will help them profit.

Consider this simple equation and its financial impact on your entire portfolio of assets: + 15% + 15% + 15% - 15% = + 6%

Yes, if your portfolio increased 15% per year for three consecutive years and you lost 15% the fourth year, then your total return for the four-year period would be slightly higher than 6% per year. This simple exercise demonstrates how important it is to protect your portfolio against losses.

Markets swing from one extreme to the other, which exposes your investments and profits to continuously changing risk and volatility. To see how you can protect yourself, take a cue from games of strategy. Acquire knowledge of a game before you play it so you know your odds of winning. Before you play poker, blackjack or go to Las Vegas, chances are you take time to learn something about the game, and how different circumstances such as card sequences or dice rolls change the odds. The idea is to be aware of your chances of winning.

But even more important, is being aware that the games are dynamic. The odds change as the game is being played. For instance, the odds of winning in team sports change depending on the shifts in morale, injuries, and what happens to the other team during the course of the game. Think of any game you like and several examples will come to mind. The importance of acquiring in-depth knowledge on the rules of the game is to establish risk. The main idea is to determine the chances of winning with a given set of strategies.

As a result, new strategies need to be developed to improve the odds of winning the game. It is a dynamic process the strategist must evaluate continuously. It is very likely that financial strategists who review their strategies on a daily or weekly basis, are likely to be more successful than those who review them monthly or quarterly. Financial decision-making is no different than playing a game. At the end of a recession when companies are selling at a very low price, the odds of making money through acquisitions are very high.

The same situation occurs after a long decline in stock prices. The odds of making money after a prolonged decline are very high. As more and more investors recognize the situation and buy, the market rises and stocks become less attractive because now they have become expensive. In other words, as the market rises, the odds of losing money increase because a rising market is getting close to over-valued levels. The risk changes as the market moves.

In 1995, the economy slowed down and interest rates peaked. The Federal Reserve, for fear of too much of a slowdown, began to inject liquidity into the economy. With declining short-term interest rates and a market that went through some wide - though not sharp - declines in 1994, investors recognized that stocks were undervalued and began to buy. The stock market began to rise, accompanied by declining short-term interest rates and rapidly growing liquidity.

As soon as these trends become apparent, it is important to begin to buy - initially a small amount of money, because the uncertainty is high and investors don't really know if this is the important bottom they were waiting for. But as soon as the trend appears to establish itself, investors should continue to increase their investment and establish their positions.

However, following the same example, in 1999 exactly the opposite took place. The economy was very strong, the liquidity in the system began to grow more slowly and interest rates started to rise. Clearly, the market was more expensive than what it was four years earlier. At this time, the odds of losing money increase and are very high. As you will learn in this book, you will recognize that in this situation it is appropriate to slowly reduce your exposure to stocks and wait for better times. These are times when it is more appropriate to be in money market instruments than go through the frustration of having your portfolio losing value.

The important thing about this example is that in 1995 there was a low risk point for the market and investors should have increased their exposure to stock. In 1999 there were all the characteristics of much higher risk and therefore investors should have exercised more caution.

Professionals continuously evaluate this dynamic process on the basis of what happened one-minute, one-week, and one-month earlier. In any game, and especially in business and financial management, one has to invest an amount proportional to the probability of being right. So when the probability of being right is low, as it is in determining a turning point, one has to invest only a small amount. As the probability of being right increases, the amount invested in a position should be increased to take advantage of the higher chances of making money.

In 1995, for instance, as soon as interest rates started to decline and the money supply began to accelerate, investors should have recognized that stock prices were very close to the bottom. As you know, it is very difficult to know for sure if that is the bottom. The odds of being wrong at a turning point are very high. For this reason, in 1995 the best strategy would have been to recognize that declining interest rates were the harbingers of important changes in market trends. The appropriate way to approach this situation would have been to increase your investment in stocks by a small amount. If you were wrong, and the market continued to decline, you would have not lost much because you had only a small amount invested.

On the other hand, if interest rates continued to head down and the market to rise, then you had more money, more capital to invest. You just have to wait a short time, perhaps one month. If you see that interest rates continue to decline and the growth of liquidity rises, then you know this is an important fundamental trend and you should increase your investment with the knowledge that the odds of being right in assessing the situation are good. This book will provide you with the information to establish the odds of being right. From the odds of being right, you can then establish an investment strategy to take advantage of those odds.

When investors have to make decisions to buy or to sell, that decision is, in most cases, made complex and complicated because there is a tendency to always think in terms of buy or sell. How much should I invest in that stock or that asset, or how much should I sell? As the probability of being right increases, the amount invested in a position should be increased to take advantage of the increased chances of making money. If the analysis of current events suggests the markets are approaching a top, this translates to a simple fact, risk is increasing. Investors should start selling an amount based on how close they believe the market is at its top. One has to enter a certain position gradually and sell gradually. Since it is difficult to know exactly what the markets will do, it is much better for the investor to think of a gradual entry into a position or a gradual exit from a position.

Understanding what is happening is one of the most difficult things in establishing a strategy because there are overwhelming emotions involved. The data show you what is happening, but more often than not, you don't want to believe the data. 1999 is a good example of this situation. Rising short-term interest rate, a strong economy and slower growth in liquidity was a deadly combination for the stock market. Furthermore, a strong economy, as you will see later in this book, forces interest rates to rise. This deadly combination is likely to persist for some time. As emotions take over and investors don't want to believe what they see, they always hope they might be wrong. The greed factor is also important and makes the investor ignore what is happening.

Once one recognizes what is the bearish combination of factors for the stock market, the most appropriate action is to slowly reduce your investment. A small move is something that can be taken easily. For instance, reducing your exposure to stocks by 10% is probably the best way for the investor to start a defensive strategy. In 1999, as the majority of stocks kept declining, it would have been appropriate to reduce stocks by another 10%. As the situation continues to deteriorate and as the indicators continue to suggest caution, the odds of making money decrease. As the odds of losing money increase, it is appropriate to continue to sell slowly and gradually.

Turning points, that is those points that offer the greatest profit opportunity, are very difficult to predict, because again, they happen very rarely. A buying opportunity seldom happens, and for this reason, the probability of being right is very small. What does that mean? Using the analogy of the poker player, that means if the probability of being right is small, the amount being invested has to be small. When the time has come that risk is low and there is an opportunity to buy, investors will be well served to develop a strategy that says, "I'm going to invest 25% of my capital." See what happens. If the market goes in the direction expected, 75% of the money is still available to be invested. There is plenty of time to take advantage of the expected trend. If, on the other hand, investors were wrong, and the market did not go up as they expected, because of the small exposure to stocks, the losses incurred are small. This is the advantage of investing with the odds of being right. This is what it's all about.

The same concept applies in a situation when investors decide to sell. The same gradual plan that is followed on a buy situation should be followed on a sell situation. If risk is increasing and the probabilities of a downturn are increasing, which means that the probabilities of making money are decreasing - again like a poker player - the investor has to bet less. Investors have to take some money off the table. For instance, they would have to sell 20% of their portfolio, or 15%, whatever the risk profile of the investor is. If they are right, they still have 80% or 85% invested and they can take advantage of the market rise. If the market starts to decline, as suspected, the odds of a weakening market are increasing. Investors, therefore, should start selling more, for instance, another 20 or 30%. They gradually adjust to the trends in the market, and by doing so, greatly reduce the risk of their portfolio.

Should I buy or sell? The issue is not to buy or to sell, but is whether the situation is attractive, and how much of the capital should be invested in that particular situation or how much should be sold. The issue is not should I sell or should I buy, but how much should I buy or how much should I sell in order to have a portfolio that better reflects the risk profile of the markets.

The concept of risk, as we have discussed, provides an excellent guideline on how to do this. This approach leads to maximizing returns and minimizing risk. Poker offers a good analogy. The players do not bet the same amount each time. They begin with a small bet because they do not know how their hand will develop. They increase their bet only if their hand looks promising.

Depending on what the other players do, they raise their bet only if the odds of winning increase. If the odds turn against them and the risk of losing is too high, they fold their hand. Investing your money offers similar challenges. Whether we like it or not we are all participants in the investment game. The markets are your opponents and economic and financial forces - the dealer - are continuously changing the risk-reward profile of each market. You need to adapt your investment strategy, that is your bet, to the changing risk so that you protect your investment against the volatility of the markets.

(From my book Profiting in Bull or Bear Markets)

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/9/12

The business cycle works

Forbes - Alcoa Earnings Drop 81% As Global Slowdown, Production Cuts Dull Profits

Those of you who follow my approach know that commodities decline when the economy slows down.

Commodities have been declining since early 2011. The price of Alcoa (AA) has been sinking since then.

Commodity sensitive asset clases tend to under perform the market during an economic slowdown.

Our "Watch List" gives our subscribers a sound investment slternative during a business downturn.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

Technical patterns

The market is weak and bonds are strong.

This is an important relationship, in my humble opinion. It is quite consistent and suggests investors should have a portion of their portfolio in bonds - they rise when the market declines - if they are concerned about the market.

The rise of bond prices would offset the losses of the stocks in your portfolio. The reals issue is what stocks one should invest in.

More in The Peter Dag Portfolio.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/6/12

Games and Strategies

The main objective of business and financial strategies is to maintain a desired level of financial performance. The challenge is to achieve this performance in a consistent way while minimizing volatility of returns. Consistency requires the ability to anticipate the action of competitors and financial markets. At the same time it is important to balance return and risk as business and financial conditions change. How can this be achieved? What are the main parameters that drive business and financial strategies? Is there a general framework to guide the strategist? How are your instincts?

There is no telling where your business or portfolio will end up. Look for a simple formula and you will discover that none exists. If it did, everyone would be running a successful business and be rich. But certain guidelines have proven themselves to be the soundest over time.

A common visualization in developing business and financial strategies is to think of them as a game. Every individual plays against all the other individuals or against the markets. A strategy can be visualized as a series of moves to win the game against competitors or other investors.

Game theory was developed in the 1940's to help the military design and execute successful strategies. War poses the problem of maximizing return - that is winning at the lowest cost without knowing exactly what the enemy, who is also trying to win, is likely to do. This procedure parallels that of a successful business decision-maker or financial strategist. Learn the enemy's strengths, weaknesses, and approximate position. Then assign odds on their next move. On the basis of these odds, establish the best future moves you need to make in order to win.

Once we know all our available alternatives and their likely payoff, we determine the best sequence of moves to lead us to victory. After our move, the enemy's response might send us back to the drawing board to establish the next set of strategies and so on. Business and financial strategies face similar problems: (1) No one knows precisely what the markets - the enemy - will do next. (2) The odds of success and the size of the returns can only be guessed. (3) Strategies depend on the required returns, the perceived risk, and the acceptance of a personal risk-level to play the game.

The content of this book could be considered as one set of rules to play the game. Other participants - that is, investors - may have a different understanding of how things work. As a result, they play the game in a different way. But one thing is sure, the more knowledge the player has about the rules of the game, the more likely he is going to win.

(From my book Profiting in Bull or Bear Markets).

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/5/12

Interesting trends

Today the market is weak. But....

Commodities are strong and bonds are even stronger.

Why am I surprise? Because bonds decline (yields rise) when commodities are strong.

The main relationship fo focus on, however, is that a weak stock market is typically associated with a strong bond market. It may suggest a way to hedge a portfolio if one believes the market is going to weaken.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/4/12

Great reading

Just click here to read an impressive analysis by one of the smartest person on Wall Street.

Thank you America!

7/3/12

Did you know?.....

The odds favor a strong market ahead of a big holiday.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.

7/2/12

Observations

A dry Martini. Up. 3 olives. Chilled, but not shaken excessively with ice. It would dilute the flavor of the gin. SNS had a Chivas. On the rocks. This is how we started our three hour dinner featuring excellent steaks (I like them very rare) and a full-bodied read wine. We looked at each other, glad to be there.

He started to tell me about his week. What he achieved and the status of his several projects. He likes to buy low and sell high. He has done that many times in his life.

As we move toward the end of the dinner, our conversation becomes more abstract. This is when we let the ideas flow. It is very soothing and is the main reason we cherish our friendship. When we “click”, as he says.

He is always interested when I keep repeating that I am trying to understand history – not an easy task. I am approaching it from a different viewpoint.

I studied and still practice Qigong. Then I read about Zen, Buddhism, Confucianism, and finally Taoism. Enough to understand what drives the life of the Asian people. More on this in the future.

Western philosophy is attractive because you have to place it in a historical context. The history of ideas, the history of thinking. This is what fascinates me. We think the way we do because throughout the millennia there were people who tried to understand the times. They placed events in historical perspective and suggested new ways of approaching life and solving the problems of the day.

As I read and underline the relevant sections, I am also finding that history has some ugly patterns. Events I knew happened, but I was not aware of their causes because of my upbringing.

I make notes. I am already thinking to write my history of ideas (not philosophy), emphasizing the historical framework of when they were born. SNS listens carefully during the excited account of my findings. The next time it will be another stimulating exchange of ideas. Just trying to understand who we are and where we are going.

(This Observations appeared in the 6/21/04 issue of The Peter Dag Portfolio)

7/1/12

Thought of the day

It took 10 years of slow disappointing growth in order to assimilate the 20 million people of East Germany and bring them up to the productivity levels of West Germany.

How many years will it take for Germany to assimilate more than 100 million of Italians and Spaniards and raise their productivity to the levels of the northern European countries?

Answer: it will never happen in our lifetime.

George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager

Disclaimer.The content on this site is provided as general information only and should not be taken as investment advice nor is it a recommendation to buy or sell any financial instrument. Actions you undertake as a consequence of any analysis, opinion or advertisement on this site are your sole responsibility.