Prashanth Krish | Portfolio Yoga

Save or Spend

Yesterday I finished reading, Pit Bull by Martin S. Schwartz which while being on the lines of the famous Jesse Livermore book hasn’t gained that much fame despite the fact that unlike Livermore who died broke, Martin has been a exceptionally good trader who never came close to Bankruptcy despite being a full time trader and one who while not swinging for the fences did take enormous risks in the course of his career.

I believe the book contains various nuggets of wisdom throughout which are applicable both for the trader as well for the common man. One of the things that appealed to me was his view to taste the fruits of success rather than investing the same elsewhere where it could have given even more gains.

Quoting from the book,

“Over the last two years there had been many times when I’d said to myself, gee whiz, why did I dump one third of my net worth into that beach house? If I’d put that money into mutual funds, it’d be worth well over a million now and that would have made my entire family more secure.

That was the trap that a lot of traders fell into. Most big-time traders didn’t taste the fruits of their labors until they’d climbed to the very top of the tree, and in some cases, they never tasted them at all. To them, making money was the fruit, because to them, money was power, and power was the only way they could feed their giant egos. I wasn’t interested in power. I wanted to taste my fruits all the way up the tree, which meant that I didn’t mind spending money, lots of money.

……………..

If Audrey and I wanted a beach house, we’d buy a beach house. If we wanted a twelve-room apartment on Park Avenue, we’d buy that, too. There came a time when you had to spend the money you’d been making so you could understand why you’d been killing yourself”

I was reminded of a recent advertisement by a Mutual Fund house where the child admonishes her parents for spending money on Handbag / Car when they could make it even bigger by putting them in a Mutual Fund (‘n’ years down the lane).

As I commented on Twitter upon seeing that advertisement, while saving is important, there also needs to be a balance in living a good life. After all none of us can carry over our savings to the other world, so what is the whole point in struggling throughout our lives to save more and more without a clue as to when we can actually start using it.

A secondary learning from the book was that there would always be some one who made more and not everyone can take the pressure required to accomplish that (without it coming at cost of family / health). Knowing one’s limits goes a long way in ensuing that we don’t get onto a race we know we cannot win even if we put everything on the line.

Martin is a wonderful trader (based on his record) but if some one takes the book to mean that day trading is the way to go, he is going to crumble very soon since its one thing to read about the success of one person and quite another to pass through the fire like many before him would have and yet not get burnt. Do remember, History is written by the Winners.

Buy the New High

At the very heart of Trend following is the concept of buying at new high with the assumption being that market knows something that we don’t. While the logic works on literally all time frames and tickers, some are better suited than others. Indices for example are better suited than even its Individual components, Commodities better than the End Users among others.

In bull markets such as the one we are currently in, every day you see a large list of stocks that are hitting new highs and vice versa when the markets are bearish. The chart below plots the sum of All stocks that hit new 52 week highs subtracted by All stocks that hit 52 week lows. As you can see, its been bullish (though not overly we we saw in 2014) for quite some time now.

Buying at a new high is tough mentally speaking. After all, you have witnessed a rally (that you may or may not have participated in) and its normal to wonder whether one is too late to enter. Nifty 50 for example is 26% above its 52 week low which got posted just a few months ago (29th Feb 2016). The question hence is, after missing out of that 26% move, does it make sense to commit now especially when analysts are calling the market as being highly over-valued and primed to fall.

Spreading fear is easy in markets, after all, markets do tend to move higher at a very slow pace but fall precipitously when we hit a speed breaker. Nifty 50 hit its first 52 week high (based on look back of 240 days) after having previously hit a 52 Week low on 25th July 2016. So, lets take a look at what history says has happened when Nifty 50 hit its first 52 Week High.

The above table is a list of dates when Nifty 50 hit a new 52 week high and what happened later on. The last column showcases the returns between when it hit its first 52 week high and the return at the time when it hit a new 52 week low. Even ignoring that, what the table above suggests is that save for 1997, markets have provided positive returns in the days and months ahead.

Lets also look at the same table but when markets hit a new (first time) 52 week low.

Surprise, Surprise. Buying the new 52 week low isn’t as bad (if you could have withstood the draw-down) as it sounds in theory. But as with anything else, we have a problem and the problem is that there isn’t really sufficient data to draw conclusions we want to draw upon. Yes, we are using around 20 years of data, but our data points are too few to provide us with a realistic view.

Given that we are wanting to test our theory, there is no better way than to use the same logic on the Dow Jones Index which has around 120 years of data to back it up. What is the outcome if we test the same concept there.

First, lets start with data of what happened when Dow hit a new 52 week high.

And now, the same when Dow hit a new 52 week low.

Unlike the data of Nifty 50, here with more data we can easily see why it makes more sense to buy a 52 week high than buying a 52 week low.

On 4th June of this year, I wrote a blog post titled “Start of a New Bull Market?” where I showcased why I felt this was maybe a start of a new bull run. As on date, we are up around 6% and I do feel we have some distance to go before we crash. But then again, no one knows the future and the only way to go is to work with probabilities and know all the exit doors in case the trend doesn’t go as we anticipate it will.

Narrative Fallacy & We

After years of being in a terminal decline, Yahoo finally decided to sell off its core business to Verizon for $4.8 Billion. Given that adjusted for its holding of Alibaba and Yahoo Japan, the core business was actually valued at Zero.

Nassim Taleb explains Narrative Fallacy and I quote

The narrative fallacy addresses our limited ability to look at sequences of facts without weaving an explanation into them, or, equivalently, forcing a logical link, an arrow of relationship upon them. Explanations bind facts together. They make them all the more easily remembered; they help them make more sense. Where this propensity can go wrong is when it increases our impression of understanding.

—Nassim Nicholas Taleb, The Black Swan

On Twitter, the reactions to the Yahoo sale were wide though one picture seemed to suggest how badly it had played it out

In fact, the above missed out the fact that at one time, Yahoo was pretty close (closer than it was with Google) at acquiring Facebook for $1 Billion (Market Cap of FB today being $350 Billion) or the fact that what Microsoft offered was for the Entire company and not just its core business. But, hey, why spoil a good story with facts.

Hindsight is 20/20. As investors / traders, we too fall for this phenomenon which can be illustrated by the following Whatsapp message that I received today

Wonders of Market :

22nd Jan 2009 – price of Bajaj Finance Rs.55/-
26th July 2016 – it touches Rs.9745/-

Investment of Rs.55000 becomes Rs.97.45 Lakhs.

How wonderful it would have been if we could have invested just 5,500 Rupees in 2009 and see it grow to nearly 10 Lakhs today. No Real Estate investment has grown by such a measure in the same period.

But the bigger question that is missed is whether there were any signs of such greatness in Jan 2009 given that the market itself was in doldrums and all the signs were of further doom and gloom to come.

In 2000, at the height of the Infotech bull run when Yahoo was valued at $125 Billion, we had our own Infotech boom with stocks that had anything (or even nothing other than having a name that reflected it being a Infotech company) getting valued wildly.

Then as now, the thing that everyone thought was, what if I had invested just 13K in the IPO of Infosys, today I would have been a Crorepati. Then as now, very few had any clues and even those who did somehow hold on to the stock (I know friends who held) sold very little for the assumption was that this rally will go on forever and it was stupid to sell (I know many a client who got destroyed buying IT stocks which then couldn’t be sold since when the cards tumbled, there wasn’t a easy way to exit).

Everyday Jokers who come on Television try to explain why the market or stock did what it did making us wonder why we did not think about it earlier. For instance, today morning a Television Anchor explained the bullishness in markets as Liquidity driven and went on to say “This is the market in which momentum is on your side and there is no fun in missing out.” And despite all the buying by FII’s, markets closed the day negative – where did that liquidity go one wonders.

In a Freakonomics podcast, Authors of the book – Think Like a Freak, Stephen Dubner and Steve Levitt tell us that the hardest three words in the English language are “I don’t know,” and that our inability to say these words more often can have huge consequences.

No one really has a clue as to what stock will double (in a given period of time) or how the markets will behave over the coming days / months and yet, day after day we are bombarded by information most of which we don’t really require to manage our money better.

To me, the way to be a better investor is to read good books rather than watch business channels or read the pink papers. Then again, the human mind is always looking for easy ways to accomplish our needs and business that want to exploit that are dime a dozen.

Smart SIP & Market Timing

Systematic Investment Planning also called Dollar Cost Averaging is a age old formula where one invests a equivalent sum of money on a specific date regardless of where the market / stock / fund is trading at. The idea is that by investing in all kinds of market (Bull / Bear and the Flat), you get returns that are equal or even better to the funds own returns on the long term.

If you have been reading my blog for some time, you know that I have touched upon SIP and its disadvantages many a time. To me, SIP is a good way to save, but if you are looking towards saving for a Goal, you need to understand that its just a game of probability – you may or may not be able to get the money you desire when you desire.

When you invest in a Recurring Deposit, you know that at the end of the period you will definitely get X rupees. No such guarantees out here though since you cannot really predict where the market will be when you need your investment back. If markets are high, you would get way more than what you would have expected but on the other hand if you require the money when markets are down, returns could be abysmal.

A few months back, Nilesh Shah, MD of Kotak Mutual Fund tweeted out the following

Time to move from SIP to smart SIP whereby one can buy more when valuations are low and less when valuations are high.

— Nilesh Shah (@NileshShah68) January 28, 2016

The tweet though came to my notice only yesterday and I commented that Smart SIP is nothing but Timing the Markets. In reply to my Tweet Vikaas M Sachdeva, CEO of Edelweiss Mutual Fund replied saying that Edelweiss did offer one such and have called it Pre-Paid SIP (More details here)

The concept of buying more when markets fall is simple and looks logically right, but does data prove the idea to be one worthwhile to implement? I tested out using Nifty Total Returns Index comparing a monthly SIP (end of month investment) to Investing based on Triggers as per Edelweiss.

The results are not very surprising. While you would have ended up investing more if you had invested every time Nifty fell by 0.50% or more versus say investing every month or when markets fell by 2% or more, the returns are pretty close to one another.

In other words, if you had invested in a simple SIP, you would have got similar returns versus a strategy of buying whenever markets fell by a pre-determined amount.

The reason is not hard to find – Market Timing doesn’t mean blindly buying every time market falls. So, lets try some variations. What if I bought every time the trigger above happened but only if the Nifty Total Returns Index is aboev the 200 day EMA.
Once again, the returns leave much to be desired. Only in case of falls above 2% do we see some kind of advantage but still is that good enough?

But in a way, the strategy is logically wrong since we aren’t buying when markets are cheap (which happens when they are falling). The reason SIP works is because they buy in cheap markets as well as expensive while we have ended up buying only in expensive times. So, lets test out what would be the returns if I bought every time the trigger happened but with the filter of Nifty Total Returns Index trading below its 200 EMA.

Once again, the results aren’t very different from what we have seen above. Even buying only in bad times gives us returns which are slightly higher but not much than what blind sipping would do.

Another strategy would be to use the “Value Averaging” concept that is outlined in the book by Michael E. Edleson but that is for another day.

Every trader and investor tries to time the market using tools such as Value / Growth / Momentum. But very few are able to achieve risk adjusted returns that is worth the time and money invested in the venture. If you want to use market returns for fulfilling your goals, you will need more than a simple SIP.

Right time to Buy

Yesterday was a pretty lucky day for me. Some kind soul had triggered my stop loss on Wednesday and while I had cursed him that day and the next day as well, man, was I happy to be neutral in markets as it tumbled on the opening bell in response to the Britain Referendum results.

Too many (and I am Guilty of being one of them) use Buffet quotes when it suits us best. Many a fund manager harp on value buying like Buffet while loading their portfolio up with momentum stocks at premiums. Its one thing to say that I can wait for eternity for buying good stocks at right price and yet another thing to twiddle one’s thumb even as market rockets one way.

With plenty of time on my hands, I created a poll on Twitter asking what people (those who follow me) were doing. The question itself was bit slanted to suggest this as being a opportunity. Here are the final results of the same.

While majority of folks seem to be waiting, folks outside seem to be rushing to use the opportunity to buy. Manoj Nagpal tweeted that yesterday saw equity mutual fund purchases being three times the normal.

For the record I did not buy since I am a systematic trader and no system had triggered a buy signal. On the other hand, Juicy volatility attracted me to sell some options in the belief that with the event being over and small time frame to expiry, Implied Volatility is sure to crash.

But is this or was this a opportunity to Buy? While markets at one point of time were down by nearly 4%, they recovered some of the losses to close the day with a loss of 2.20%. While I strongly believe “Prediction is Impossible”, that has not stopped me from trying to predict where the markets could be headed (once in a while).

Initially I had thought of having the header as “Blood on the Streets. What Next”. But a casual search revealed that I had already used that heading twice.

In 2014, I wrote suggesting that the fall wasn’t much and it maybe prudent to wait. Markets though had their own agenda as they shot up another 9.75% in the coming months before finally topping out.

In 2015, I once again tried to predict and thanks to a bit more experience I suggested that at best you could increase your allocation to equity slightly since one can never time the bottom. This time around, markets continued to see downward pressure for months to come with the final bottom being around 12% from where I wrote.

The reason most advisers recommend SIP is because they believe timing the market is tough if not impossible. At the same time though, they some how seem to believe that they can select the right fund manager (who will time the market correctly). One of the biggest funds has had a horrendous few years because the fund manager bet on the right set of stocks at the wrong time.

As much as people hate timing and think that it shouldn’t be done, your results are all based on the timing of when you decide to enter and when you decide to exit unless of course you are investing for the sake of investing alone and have no requirement of the money forever.

A fund claims that it tries to steer investors from trying to invest when markets are hot by closing fresh investments. While the PE Ratio at time of when it closed and when it re-opened did not suggest it being a big game changer, fact remains that the fund is trying to time the market using historical Price Earnings Ratio. Once again, they are trying to time the market using historical PE Ratio as the reference for their actions.

Will we once again see a PE ratio of Nifty at 10.68 (low of 2008)? I don’t have a clue but if there is no time frame for such prediction, of course, it could happen – decades later if not now. But I am digressing.

How do you come up with right time to Buy or Sell? In my opinion, the only way is by way of some kind of timing algorithm. If you are from the Technical side, it may be as simple as a 200 day Moving Average and if you are from the Fundamental arena, a simple PE ratio could be your tool.

Was yesterday a good time to Buy? The narrative depends on how the markets move in the coming days. If we strongly bounce back and start testing new highs, this was a opportunity. On the other hand, if the fall continues, this was a time to Sell (and one which only 9% voted). But since we don’t know how the future will unfold, only some kind of timing system would help you take that call (as long as the logic is validated and tested).

To conclude, if you are averse to timing but yet want to get market returns, ETF is the best route given that regardless of changes in fund manager or even the house, returns will be close to market it tracks.

Robo-advisory in India

Yesterday’s edition of Mint featured a wonderful article on Robo Advisories in India (Link). Its a very nice review of the ones that are available in India though the article doesn’t go deep into their philosophies and methodologies. For me though, the last para (part of which is reproduced below) held the key.

Ultimately, its portfolio performance that will matter. So, the algorithm has to be accurate and better than others in selecting and reviewing recommendations. It’s too early to judge or analyse the existing platforms, but as these firms go through more market cycles and recommendations change, the winners will come through.

I am a systematic trader and in the arena of the stock market, I see people constantly peddling black box strategies that are supposed to have delivered wonderfully over the back-test period. The problem though is since you do not know anything about the strategy, you are just blindly hoping that the said performance will continue in future as well.

Also given that market cycles are long (a business cycle for instance lasts around 5 years) and given that there is no public info on how good their algorithm is proving to be (other than for those invested), how good it will be to know 15 / 20 years down the lane that the algorithm was not as good as promised?

The current crop of Robo Advisory as far as I can see is a set of black boxes with each firm claiming to have done extensive research and validated the results to come up with the said model. But for you the end user, you are pretty clueless as to why a certain fund was selected as the choice of investment while another fund was redeemed out.

In United States where the concept of Robo Advisory originated, the logic is to use low cost ETF’s and a re-balancing strategy to ensure maximization of gains for the client. Since ETF’s are very low key in India, most Robo Advisories are going through the Mutual Fund route given that they have shown ability to out-perform (on long term) Mutual Funds. While I doubt how long this can last, for now, Mutual Funds are the way (if you select the right ones, that is).

While researching for this write up, I came across list of funds recommended by one such Robo Advisor. The year and funds they were in is listed below

{Click on the image above for viewing it in full}

They compare their performance to Nifty (not TRI as far as I can see) and claim to have succeeded. But the kind of churn witnessed really boggles my mind. Its as if they are trying to jump from one fund manager to another in the hope of better performance. Also as is the case, Nifty is not the right benchmark if funds are being invested in both Large cap and Mid / Multi cap oriented funds.

They also claim not to invest in sectoral / thematic funds since they believe its best left to the fund managers discretion on which sector he wants to invest more. But if one is indeed punting on momentum (which is what all the fund picking is all about), would it not make sense to have at least a small portion allocated to the sector that is showing the best momentum across board? Would it not add the Alpha one is searching for?

While I see various experts preaching on how you should not go by historical performances when selecting funds but also weigh in other aspects, as far as I have seen, fund performance is what dictates everything. When a fund manager is on a hot streak, his AUM literally explodes (unless he is Direct only like Quantum) and when the said streak ends, slowly but surely AUM keep dropping until the only guys left are those who have forgotten they have invested in such a fund.

As a trader and a technical analyst, I see nothing wrong there. After all, you end result is based on the returns you are able to generate, doesn’t matter what philosophy you may choose to use. But being open about it enables one to understand both in good times and bad. The reason investors jump out of ship when the performance goes down is because they have no clue about the philosophy of the fund manager and the risks such a philosophy would entail.

Robo is the future, but unless I can understand their process (and hence understand the risks), I would stay away from Black Boxes which seem to have figured it all.

Divergence of Signals

On a monthly basis, I update a Asset Allocation matrix (Link) which this month recommended a reduction in allocation to Equities. A day or two later, I wrote that we are maybe at the start of a new bull run (Link). Now, with both being in conflict has meant quite a few readers raised as to what is happening and what should be the way forward.

Before I venture out there, a word of caution. I am not a Registered Investment Advisor nor should you take my views as Advise to Buy / Sell. The idea of this site is to help Do it Yourself investors get access to research I carry out for my personal investments. Since sharing of ideas provides opportunities for critical review, I do share whatever research I carry out.

Now that, that’s done, let me first try and explain what the Asset Allocation Matrix is all about and how it works. On the web, you can find hundreds and thousands of research reports / tests that emphasize that most investors are better off with a simple 60 / 40 (Equity / Debt) allocation balanced regularly (generally Yearly).

While 60 / 40 is indeed a great way to get the best of both Equity (higher growth) as well as Debt (solidity in returns), it still means that at peaks you will have too much exposed to equity and if your re-balancing month doesn’t coincide with the best, you miss out on the profits that were there for the taking but couldn’t be taken.

Let me provide you with a realistic example of where it would have hurt. Lets assume you followed a 60 / 40 allocation matrix and re-balanced it every year in June. In June 2007, you would have re-balanced and then saw Nifty move up by around 47% by Jan 2008. So far, so good. But you will re-balance only in June 2008 and by then, markets were 36% below the highs and closer to where they were in June 2007. Since there would not be much change, you would have just left it as it is and waited for the next re-balancing date – June 2009. But in between, markets first cratered to a low which was 55% from the peak and then rebound to square one in June 2009 (level similar to what we saw in June 2007 and June 2008). In other words, we participated in the best rise and the worst fall and yet nothing much to show.

In itself, that is not bad since at the very least we did not reduce allocation when markets were down, but my thought was using a combination of macro, can I do better. The Allocation Matrix is the out-put of one such idea. Once again, do remember that most of the things I post are generally work in progress and a updated matrix is being tested as we speak.

The concept of the allocation matrix is not to maximize gains but to minimize the risk of capital loss. Its all nice to quote Buffett on buying when there is blood on the streets, but given that more often than not, its out blood, we generally get scared away from investing at the best possible time.

Take for example, PSU Banks. Isn’t there blood on the street to justify checking it out (investing maybe a different matter). After all, if India has to grow, Banks will need to power the same and unless you believe Banks will go belly up, at some point they start becoming attractive.

But I am digressing. The whole idea of the AA matrix is to provide you with a view on whether one should take a high risk bet at the current juncture or a low risk. And remember, that like all models, this too can go wrong (whipsaw). Nothing is fool proof.

Hopefully that addresses the question though shall be happy to answer any queries you may have (either use the comments or send me a mail using the Reach Us page.

Now, coming to my post about the start of a new bull market. The reason I added a Question Mark was one is never sure even though logic may suggest it being right.

I derive Income by trading and for that I need to constantly analyze the odds of taking a particular stance. For example, in bear markets, shorts would provide more meat than long trades and vice versa. The reasons I spelled out for saying that maybe we are at the start of a new bull run were all based on Momentum Indicators.

While Momentum is said to be pervasive, there is also a risk that even the best set-up’s can fail. As a trader, one needs to be nimble to reduce exposure / leverage when the odds aren’t in one’s favor while increasing them when it is.

At market peaks, most momentum indicators are generally in buy mode though that would be the worst time to be fully invested in markets by investors. While momentum traders generally shift fast, same is not advisable for investors since it means higher costs and may actually be not practical for many who have full time jobs.

While I do see this as start of a new bull rally, in a way we are accepting the market’s premise that sooner or later, earnings will pick up. If it does, the passive allocation may once again shift to being more invested (whipsaw of current cutting down strategy) but if it doesn’t, traders hoping for a new bull run would end up being disappointed.

Personally while as a trader, I am neck deep in longs (which could change as early as first hour of tomorrow 🙂 ), as a investor, rather than reducing at this moment, I am switching from Nifty Bees to Kotak PSU Bank ETF since chart wise, I see a bottoming formation. The low’s may once again get broken, but that would be the risk I need to take if this rally is to turn out for real.

Ben Franklin — ‘Nothing ventured, nothing gained!!!

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