How to Invest (and Trade) Through a Christmas “Crash”

Keith Fitz-Gerald Dec 11, 2019

The S&P500 has tacked on a remarkable 25.16% so far this year yet many investors are acting as if the “other” shoe is going to drop just like it did last year right around this time.

Honestly, that’s a fair concern.

The markets have been a one-way train higher since January 2019. The S&P 500, for example, has put in over 15 new record highs over the past 12 months.

The known risks – political instability, Chinese trade, regulatory changes, signs of a global slowdown – are all well understood. It’s the unknown that’ll get you every time.

Wall Street would have you believe that the most effective way to hedge against unknown market risk is to diversify your portfolio.

The theory is pretty elegant – or at least it’s supposed to be.

Spread your money around, they say, and, in doing so, you’ll reduce your risk, because “everything can’t possibly go down at once.”

Problem is… that’s a load of self-serving hooey.

Today’s markets are more correlated than they’ve ever been, thanks to a witches’ brew of computerized trading, exchange-traded funds – ETF’s for short – and leverage.

You’ve got to do something different if you want to get ahead.

Many folks find that hard to believe.

The correlation part, I mean.

Wall Street spends billions on advertising, highlighting the virtues of diversification. There are countless books on the subject. Academia considers it a cornerstone of investing education. So, alas, it must be true.

Legions of investors want to believe that, but…

Not!

Here’s a shot of the Dow, the S&P 500, the Nasdaq, and Russell 2000, all plotted together since late 1998. Even the most hardened critic can see that the major indices are moving in near lock step.

Especially on big down days.

 

Source: Yahoo! Finance

What’s more, you can see that – aside from one big bump ahead of the Internet Bubble in 2000 – all of the indices get even more “alike” after 2003 and 2009 as correlations are generally increasing over time.

Still, Wall Street peddles its wares to the unassuming.

“Buy the indices,” they say.

“You can’t beat the markets,” they charge. So why even try, is the implication.

Yeah, and I’ve got a bridge to sell you.

Warren Buffett – yes, THAT Warren Buffett who’s worth an estimated $87 billion – says diversification “is protection against ignorance.” Moreover, he observes that [diversification] “makes very little sense for those who know what they’re doing.”

I agree.

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Spread yourself and your money too thin, and you will never, ever beat the markets. Worse, you WILL compromise your results.

Buffett, incidentally, is not alone any more than we are.

Other great investors go to great lengths to concentrate their investments. Names like George Soros, Jim Rogers, and Doug Kass all come to mind.

William O’Neil even went so far as to say that the winning investor’s “objective should be to have one or two big winners rather than dozens of very small profits.”

My favorite take, though, comes from money manager James Oelschlager – founder of Oak Associates, a $1.1+ billion investment management firm. He wryly observed that “no hospital wings or college dormitories have ever been named by an indexer.”

Critics, of course, will scream bloody murder when they read this. “International markets are different,” they’ll challenge. “Diversify by sector,” they’ll counter.

Good luck with that.

Recent changes in the fiduciary laws make it all but impossible for financial advisors or money managers to set up a concentrated portfolio because they’re legally obligated to spread your money around by “acting in your best interest.”

And – you guessed it – that’s officially a diversified portfolio because a concentrated portfolio runs contrary to commonly accepted wisdom.

Which brings me back to where we started.

During an interview for Forbes in 2008, Warren Buffett was asked how he felt during the middle of 1974’s vicious bear market – to which he responded, “Like an oversexed guy in a whorehouse.”

I don’t know that I’ll repeat that sentiment, but I’m not far off.

Any serious selling would be a blessing in disguise. Alphabet Inc. (NasdaqGS:GOOGL), for example, has eight business units, each of which has more than one billion users. And the artificial intelligence (AI) they’re developing to handle all this hasn’t yet been priced in.

Amazon.com Inc. (NasdaqGS:AMZN) is moving into cashless stores, healthcare, and consumer financials. Team Bezos has gone from selling books to selling whatever they want.

Merck & Co. Inc. (NYSE:MRK) has a groundbreaking and very successful immunotherapy treatment called Keytruda that’s led to rapid FDA approvals and which will lead to groundbreaking new cancer treatment. And, it pays a 2.75% dividend to boot.

Then, there’s Boeing Co. (NYSE:BA). People are beating the stock up because it’s got “Chinese-exposure” – whatever that means. Ask yourself… China or not, are people still going to fly airplanes in a low-growth world? Are countries still going to need the defense products Boeing makes? My hunch is that they will.

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My favorite company by far right now, though, is PayPal Holdings Inc. (NasdaqGS:PYPL).

We’ve talked extensively about the need for digital payments over the years, so that in and of itself is not new. What is, though, is that a) PayPal operates Venmo, a digital processing platform handling $273.97 million day and b) that 75%+ of the top 500 U.S. retailers accept PayPal.

The company is trading at roughly $105.15 a share as I type which works out to a Price Earnings Ratio of 1.64x of forward earnings. Normally that’d be a bit rich for my blood but I think the valuation is justified, given how fast digital transactions are growing.

What’s more, forward projections reflect 20% to 40% growth which, in fact, does justify the valuation a mere 12 to 24 month from now.

Tactically speaking, there’s nothing wrong with buying a few shares using a Total Wealth Tactic like Dollar-Cost Averaging to improve your profits, even as you accumulate shares. Or, consider using a LowBall Order to buy shares at the exact time and price of your choosing.

A big down day or even a few days will work to your advantage by putting the company “on sale” at a time when traders are skittish and savvy investors are increasingly focused on navigating any holiday related chaos.

Don’t miss the opportunity to latch on at bargain basement prices.

Even if there’s selling ahead.

Until next time,

Keith

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