Jeffrey Saut: "Don't Bet the Farm"

July 21, 2010

7 minute read

I have often written about portfolio rebalancing as one of the keys to successful investing. And, while Shannon’s simplistic example is too short-term oriented for me (aka, day-to-day or even week-to-week), I am intrigued with it. For example, say you put $100,000 into a cash account and similar $100,000 into Raymond James’ “Analysts’ Best Picks” (ABPs) and then rebalanced the portfolio every other month, or at the end each quarter, using Shannon’s methodology. Another approach I have recommended for the ABPs is to scale buy them by purchasing one-third when they are released in December, one-third sometime in January, and the final one-third in February. This strategy also makes sense because history shows many of the ABP’s stocks can be purchased below their original recommended prices sometime during the first quarter of the new year. As a sidebar, Shannon’s rebalancing methodology could likewise be employed with this scale-in buying approach. I think these types of strategies can improve the odds of success for most investors.

Speaking of odds, what are the current “odds” for the stock market? Well, two weeks ago I suggested that despite all the often mentioned negative technical readings following April’s stock market peak, the markets were almost as compressed (read: oversold) on a short-term basis as they were when the bottoming process began in October 2008. Further, a week ago I opined the real upside challenge should come at the S&P 500’s (SPX/1064.88) 50-day moving average (DMA), which last Monday stood around 1100. The very next day the SPX “tagged” an intra-day high of 1099.46 and from there spent the rest of the week on the defensive; that is until “Friday’s Fall” of 2.9%. Of course Friday was option expiration expiation, so the downside dump was probably exaggerated. Nonetheless, it did raise questions if my hunch that the 1040 – 1050 level would contain any selling is correct.

Obviously time will tell, but as the equity market slid into its July 1st lower lows Lowry’s Selling Pressure Index was 17 points lower than it was at the May intra-day “lows.” As Lowry’s notes, “When Selling Pressure begins to consistently contract, despite new lows in the major indexes, such a divergence usually indicates the desire to sell has been largely exhausted; and, the end of the decline may be near at hand.” Moreover, following the 90% Downside Days of June 22nd, 24th, and 29th quickly came a 90% Upside Day. Then on July 13th another 90% Upside Day was registered. Such sequences often mark the beginning of a rally. If so, the bulls’ case would be dramatically bolstered with a decisive move above the SPX’s 200-DMA at ~1112, with a subsequent confirming upside breakout above the June 21st intra-day reaction high of 1131.23. Until this occurs, I am content to remain flat in trading accounts, yet continue to position favorable stocks for investment accounts. In past missives I have mentioned investment names like: Enterprise Products Partners (EPD/$37.53/Strong Buy); Intel (INTC/$21.02/Outperform); Wal-Mart Stores (WMT/$49.67/Strong Buy); Allstate (ALL/$27.83/Strong Buy); and Microsoft (MSFT/$24.89), which is followed by our research correspondents with a favorable rating. Note that ALL of these names have decent dividend yields. And again this week, I reiterate YIELD, suggesting you reread this quip from last week’s missive:

“Speaking of yields, I spent an hour last week talking with the head portfolio manager of Putnam’s Fixed Income division. Rob Bloemker manages roughly $50 billion and has 70 professionals working with him. While pessimistic about many things, Rob is personally buying stocks. Because earnings tend to grow at the same rate as GDP, with the S&P 500 trading at a P/E multiple of 13, and an earnings yield (earnings divided by price) of 6 – 7%, Rob believes stocks will return 6 – 10% above the rate of inflation. ‘Wow,’ I said, ‘That’s pretty bullish equity talk from a fixed income manager!’ But of more interest was his discussion about Putnam’s Diversified Income Fund (PDINX/$7.94), which Rob thinks will give investors equity like returns over the next three years without the concurrent risk of equities. With duration of 2.06 years, and a 10% loss-adjusted return, I would agree.”

The call for this week: Place your bets!