This Won't Get Us on CNBC
Editor's note: Are you following our advice?
Do you continue to put too much capital in the wrong stocks, and not enough in the right ones?
If you're like most investors, the answer is probably yes. That's why we originally launched Stansberry Portfolio Solutions: to take the "guesswork" out of investing.
In today's Masters Series essay – originally published in the January update to Stansberry Portfolio Solutions subscribers – Dr. David "Doc" Eifrig discusses the biggest disservice the financial media are doing to you... how to stay in the game for the long term and build real wealth in the market... and our investing mindset for 2018...
This Won't Get Us on CNBC
The gambler who wants to be a hero always has a poor portfolio.
That's because he thinks investing success comes from prediction. He thinks calling the top or the bottom in a market is what constitutes "managing" a portfolio.
He imagines himself as a hedge-fund manager investing in stocks as they rise. Then one day, he walks into the office and decides we're at a peak. He flips a switch and sells everything short.
That mindset couldn't be further from the truth about great investing.
I don't blame people for thinking that way. Most people tend not to grasp mathematics and probabilities well. Most folks round probabilities up to 100% or down to 0% – an all-or-nothing view.
Let's say I estimate an 80% chance that stocks will rise in the coming year. Am I daring or brilliant?
Actually, there's nothing insightful about that prediction. Since 1970, stocks posted positive total returns about 80% of the time.
But if stocks fell, people would consider me wrong because they rounded up my 80% prediction to be 100% bullish.
In truth, investing isn't about being all right or all wrong. I wouldn't put all my money into stocks if I suspect they'll rise this year. There's always that 20% chance that this year will be a bad one. And honest investors know they can't always figure out when that will happen.
The financial media make the desire for bold market calls even worse. That's what gets the big headlines and earns you airtime on CNBC... even though that kind of thinking is a disservice to investors.
Rather than jump in and out of the market on some prediction, a healthy portfolio balances the risk of a down market with the rewards of an up market, constantly balancing between the two.
You can have an outlook on the market. But it should shape your ideas and lead to a carefully tailored portfolio... not major bets as a market-timing call.
Take, for instance, the famously bearish investor Howard Marks. He's the head of Oaktree Capital Management. His funds have posted fantastic returns for decades by scooping up the bonds of distressed companies.
Marks has been vocal for years that both bond and stock markets are drastically overvalued. Of course, you know that everything has been rising. If Marks were short all the things he's publicly worried about, he'd have dismal performance.
The truth is the opposite. His most recent fund, the Oaktree Opportunities Fund X, is 76% invested and has an internal rate of return of about 28.5% net of fees. That's outstanding.
And the fact he espouses a bearish position doesn't mean that he's lying or seeking attention. Rather, he uses his outlook to fine-tune his portfolios. Just because he's bearish doesn't mean Marks retreats to all cash. He explained this in a recent shareholder letter:
All I'm saying is that prices are elevated; prospective returns are low; risks are high; people are engaging in risky behavior. Now nobody disagrees with any of the four of those, and if not, then it seems to me that this is a time for increased caution... It's maybe "in, but maybe a little less than you used to be in." Or maybe "in as much as you used to be in, but with less-risky securities."
Marks has been a bear in a bull market. Would you call him wrong? His investment performance sure doesn't suggest it.
Another high-profile investor has earned attention with great bullish calls. David Tepper, head of Appaloosa Management, has been a staunch bull since 2010. As you can imagine, that has been a profitable position.
But in 2014, headlines blared "Tepper Turns More Bearish." You would think he had a monumental change of heart. But in reality, he was simply conveying more nuance to his position. With his characteristic color, he warned about valuations, but explained, "I'm not saying go short, just don't be too friggin' long."
Good investment ideas are exciting (and can be profitable). But conservative position sizing and balanced asset allocation are what keep you in the game for the long term, building your wealth for the future.
As a Stansberry Portfolio Solutions subscriber, you understand this as well as anyone...
Over the past year, we've delivered performance that subscribers should love. (And from the feedback we receive, most do.) From our end, we love that we can communicate our outlook to readers in a way that we never could before.
Let me explain...
Reading Porter's research, you'd call him a bear. He's been warning about overvalued stocks, the turning of the credit cycle, the collapse of consumer credit, and the ill effects of the Federal Reserve's easy-money era.
People often complain about how bearish he is. And they like to point out how the market has risen in spite of all his arguments. And yet...
We haven't taken that outlook and turned The Total Portfolio into one giant short of trashy businesses. It's been 75% to 85% long throughout the year.
That's how a "bear" has been able to return about 18% in an up market.
When things do start to crumble – as they inevitably will – Porter's well-sized shorts and cash positions will provide outsized returns.
Or consider Steve Sjuggerud. He believes the wealth boom in China to be one of the greatest investment opportunities of his lifetime. But considering the risk involved and the opportunities elsewhere, Chinese investments warrant just 11% of The Capital Portfolio.
That's a small position size overall. But it has contributed about one-quarter of the total returns that The Capital Portfolio has earned.
Or consider that I've been just about as bullish on stocks over the last year as anyone, but we've put more than 50% of The Income Portfolio into fixed-income investments and hybrid funds.
That's partially because we want to generate current income payments... but also because we refuse to have a portfolio that keeps us up at night. We don't want picks in The Income Portfolio that move up or down 5% in a day or even a week.
If you've got a view on the market for next year – fantastic. But that's just the first of many steps in designing a coherent portfolio. That's what Portfolio Solutions allows us to do.
Here's what we're seeing right now...
Market risk is low.
It's rare to see market declines that exceed 20% when the economy is healthy. You really need a recession to set off a bigger bear market than that.
We've shown you how the yield spread between 10- and two-year Treasury notes tend to predict recessions. And since last month's update, that's dipped even lower.
The New York Federal Reserve's research staff uses a similar measure to derive a probability for recession in the next year. It shows that the 12-month odds of recession have risen from 5% to 10%. Usually, we're not in real danger of suffering a recession before the gauge hits 20% or more.
In the following chart, you can see the recessions marked with the gray bands. (The recessions in 1973 and 2000 were kicked off by shocks – oil and the dot-com bust – that didn't have good indicators.)
It's still likely that we'll cruise through next year without a recession, but clearly things aren't headed in the ideal direction.
If you were a common CNBC consumer, this is the point where you'd want a grand prediction that paints us as bullish or bearish for the future.
But you're not going to get that from us.
Instead, as we venture into next year, we'll be eyeing risk more closely than we do potential returns and tailoring our portfolios accordingly.
Overall, we know holding ownership in high-quality businesses will always pay off over the long term. But we also know that the unexpected can happen, and we need to steel our portfolios to handle that.
In other words, we're long on stocks. But not "too friggin' long."
Regards,
Dr. David Eifrig, Jr.
Editor's note: Last year, Doc, Porter, and Steve Sjuggerud appeared on camera to share their top investment predictions for 2017. It was a rare opportunity to see what really goes on at our Baltimore headquarters. And – no surprise – it was our most popular event of the year.
So we're doing it again. On Wednesday, January 24, Doc, Porter, and Steve are hosting a free live event to offer their latest predictions... discuss what's really going on in the market today... and show you how Stansberry Portfolio Solutions can help you take the stress and emotion out of investing for good. Reserve your spot for this free event right here.