Yes, I got it wrong. For six months I was convinced that the market was going lower. And there was no way in hell that I was going to let the market take my money. So I executed the plan I had designed a few years ago. I reduced exposure via shorting overvalued hyped stocks with poor fundamentals and raised cash. I expected the return from the hyped shorts would more than compensate for what was to come. And when the market did have its short-term panics, the plan looked brilliant as the outperformance was staggering. Problem is that whatever was thrown at the market, the effect was short-term. Nothing could stop it, and when it recorded a new high in July it was time to declare defeat. As a friend put it to me “market timing is a bitter bitch”. I had thought I could beat it by combining both economic and technical factors (price action models similar to methods used Meb Faber and Wesley Gray). In addition, I studied the patterns that appeared in previous crashes. The same pattern as the last two crashes appear yet again so I was confident I was on the right side of the trade. This pattern though was broken and the market proved me wrong.
Does a 7-year high in corporate defaults sound like prosperity? How about a median real household income which is lower than it was 16 years ago? (see page 5 for charts). Or how about the lowest home ownership rate in history! I could go on and on. But does it matter? When the CAPE (Shiller PE) rose above 30 in 1997 it made its way to above 40 and the market rose 67% despite the high valuations. Of course the market then dropped back to 1997 levels, but wouldn’t it be nice to ride that wave while avoiding some of the drop that followed? That is what I had tried to do in 2016, but the plan failed. I was not alone as, many professional investors with billions under management failed alongside me (Icahn is -150% net short!) while a Bank of America Merrill Lynch survey showed that cash levels are at a 15 year high and equity hedging is at its highest level in the survey’s history.
In absolute terms the error could have been much more costly than the -3.6% YTD return. I was fighting the narrative (as Ben Hunt would put it), and that narrative is the Fed and the other global central banks. I underestimated their effect on the asset bubbles they are creating. It appears that this could go on longer than anyone expects, and it will take an event much greater than Brexit to stop it. Perhaps the market will just shift into a multi-year sideways to barely up trend. Note that the recent high is less than 100 pts higher than the 2014 high. Not really a high confidence market, however within the swings the market has done, there are opportunities to trade. As Yra Harris would put it “Everything is a trade”.
So for the past month I have been increasing the net exposure which was around 40% for most of the year. It was a bold move but bold moves should be taken by active managers in order to achieve results that are different from the market. At the same time you can’t be stubborn (eg. Soros, Ackman) and be ready to admit mistakes, which is only natural in this business. I have increase the net exposure to above 70% and almost all the shorts in the active portfolio have been covered. (Gross exposure is currently 90-95%). The longs did very well during July and outperformed the market by 3%, but the portfolio was held back due to the low net exposure and short positions.
I had expected to update you all on the above thoughts and changes earlier this month, but my attempt to do some work while on holiday for the first week of August failed. My 3 and 1 year old were bigger distractions than planned… I’ll have more to say in the coming months.
Also, please note the event, Tim du Toit (of Quant Investing) and I will be organizing on September 29th and 30th in Nicosia, Cyprus at the Cleopatra Hotel. I have attached the programme. We have secured a few more speakers, including the CEO of Bank of Cyprus Mr. John Hourican.
You can register for the event at HERE. Besides Mr. Hourican we have lined up another 13 speakers from around the world that will share a minimum of 13 investment ideas! It will be a small closed event, so you will get the chance to network and meet all the investment professionals in person.
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