August 2007 Archives (Eileen's picks)

August 2007 Archives

Week One Recap

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Confusion with a touch of frustration best summarizes my first week with the competition.

From the start it wasn't clear whether or not placing BUY limit orders constituted committing cash or not. The rules were silent on the subject, my Strategy Lab Open portfolio gave me conflicting information (on the BUY Wizard the answer was yes; on the rules compliance feature the answer was no) and I received no response to my e-mail question to an obviously-overwhelmed-by-questions service@marketocracy.com.

Because in real life when managing a trust for the benefit of future generations I would never risk making purchases simply because of a calendar date, I decided that non-participation in the Open was preferable to over-committing in a market environment that looked so problematical to me.

By Friday two of the BUY limit orders I placed on Monday had in fact triggered -- at least according to my "open orders" page which lists them as filled. Ambiguity still rules because they have yet to appear on my portfolio page.

Another source of confusion was how stocks are rated by style. Morningstar lists AMX as large growth while Marketocracy has classified it as large value; BAM is classified large growth by Morningstar but mid-cap value by the competition. Because the approach I use to manage investments is extremely dependent on diversification, I've decided to use Morningstar classifications for my decision-making as I do in real life.

Today brought clarification that participation in the Open is still possible in spite of the unresolved limit order question, and the delight of reading a number of the blogs of other participants.

There is no question that a challenging and informative few months lies ahead.

My "system"

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Diversification across asset types is the foundation of the system I use, and, since suffering for getting caught up in the technology boom as I was learning to manage our own retirement money, I now set a "percentage of portfolio target" for each asset type and NEVER allow any type except cash to exceed its target by more than 5% without serious review, and selling it down when it hits 10%.

For the Open, I've set targets at 40% in US equities, 30% in foreign, 6% in real estate, 9% in commodities and 15% in "safe stuff".

Bianca and I treat our model portfolio like a farm: we "plant" a variety of "crops" (asset types) and we "harvest" the amount a category is over plan by selling the overage amount from the weakest performer in the winner category (for example selling some or all of the lowest performing stock that is a US equity). Then we "plant" that amount in the best candidate we can find in a "loser" category.

When things seem "too good to be true", we do extra harvesting. Bianca has experienced a lot of economic uncertainty in her short life, and she watches closely for when we should be storing away our gains.

The rules of the competition pose a challenge when it comes to asset allocation. Normally our real estate allotment would go half to US real estate through a solid diversified mutual fund like TAREX or an exchange-traded fund like ICF and the other half to foreign real estate through a fund like FIREX or DRW. Since mutual funds can't be used at all, there's a tight limit to use of exchange-traded funds, and Bianca's interest in real estate is limited to the hope of having a down payment for a house of her own one day, I decided to go with a stock that has been a strong dependable performer in my personal portfolio to represent that category even though it isn't strictly speaking "real estate".

Brookfield Asset Management Inc. (BAM) is a global asset manager focused on property, power and other infrastructure assets with over US$75 billion of assets under management, which are primarily in Canada, the northeastern United States, England, and Brazil. They own and manage office properties, residential developments, and hydroelectric power plants.

Unfortunately, on Friday, other investors also decided to classify it as "real estate" and it took a beating at the end of the day. Would that I had waited to purchase using the target entry point I set! Nevertheless, I believe BAM is going to make a reasonably rapid comeback. Only about a quarter of the company's assets are invested in real estate, 90 per cent of which is invested in commercial properties, and the 10% that is in residential properties is held largely outside the United States.

More purchases

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As with Brookfield Management, I bought Companhia Vale do Rio Doce (RIO) at a price way above my planned entry point at the beginning of the competition, only to watch it plummet and then to see it recover. If only I'd waited! This company, together with its subsidiaries, operates as a diversified metals and mining company worldwide, and fills my niche for industrial materials, as well as classifying in the foreign equities category and overlapping into commodities, as does Brookfield Management. RIO has the endorsement of a number of different analysts I follow as well as passing several screens I use with flying colors. Bianca likes it because its acronym is close to her last name. "Investing is like betting in a lot of ways" she says, so it's OK to bet on a stock for personal reasons as long as there are enough other reasons too.

Some of our price triggers were hit with Friday and Monday plunges, and we acquired a lot more of Bianca's personally researched pick, AMX. It's now our top performer, up 6.53%.

If you've read our previous posts, you'll know that Bianca and I like to do lots of things besides stock research, so we rely on exchange-traded funds to give us broad-based diversification in areas we don't want to research. If we could within the rules of the competition, we'd have 80% of our money invested in low cost high performance ETFs.

We recently got three of our ETF picks at prices lower than the limits we set: JKJ which seeks investment results that correspond generally to the price and yield performance of the Morningstar Small Core Index; PYH, a Value Line Industry Rotation Portfolio ETF bought to provide a weighted balance of industry sector representation; and DBC, a commodities index fund. Although it's not showing up in the portfolio, we also seem to have acquired some of the shares of DBV we wanted. I'll explain that purchase when/if it shows up.

Here's how we're doing in relation to our plan: we have 59% of our funds in equities and we intend to have 77%. We plan to have 60% in growth, 25% in value and 15% in blend or core holdings. Currently we're at 25%, 69% and 6%.

In the most important part of the plan, asset diversification, we plan 40% in US equities and have 16%, plan 30% in foreign and have 26%, plan and have 6% in real estate, plan 9% in commodities and have 1%, and plan 15% in "safe stuff" and have 51%.

The allocation of what we've bought: 63% large cap, 24% mid cap and 13% small cap is in line with what we plan to have.

Over the next few days, I'll decide whether I think the rally of yesterday and today is going to last or whether it's simply providing an opportunity for more selling as I suspect.

The challenges of a Trust Protector

Rating: 2.11 (19 votes) Vote:

The Trustee and Trust Protector of a Bicycle Trust - or any other person responsible for overseeing the long term financial assets of several generations of a family while making decisions about the needs and well-being of some family members - is likely to find themselves from time to time in the same position I found myself in last week: busy with the needs of people in the family and not attending much to the gyrations of the stock market.

On returning to the fray, it was certainly disappointing to discover my ranking had plummeted from 117 to 1564, along with my early large purchases of BAM, RIO and AMX. On the other hand, a number of the limit orders I had placed - some of them at what had seemed at the time to be ridiculously low prices - triggered, so without paying personal attention I made some additional acquisitions that may help offset those losses as time goes on.

The purchase of IWP at its lowest price since mid-March is a perfect example. This ETF seeks investment results that correspond generally to the price and yield performance of the Russell Midcap Growth index, and it rounds out the core holdings of this portfolio. I especially like this ETF because it uses a representative sampling strategy in order to invest in those index companies with higher price-to-book ratios and higher forecasted growth.

Another limit purchase was DBV. I chose this as an alternative to a money market account for a portion of the portfolio allocated to "safe stuff". This ETF seeks to track the performance of the Deutsche Bank G10 Currency Future Harvest Index - Excess Return. The index is comprised of long futures positions on the three G10 currencies associated with the highest interest rates and short futures positions on the three currencies associated with the lowest interest rates. The G10 currency universe includes U.S. Dollars, Euros, Japanese Yen, Canadian Dollars, Swiss Francs, British Pounds, Australian Dollars, New Zealand Dollars, Norwegian Krone and Swedish Krona.

Next came additional purchases in the "commodities" portion of the asset allocation model:

I believe that water is going to be THE commodity of the future, one that wars are fought over. PHO tracks the Palisades Water Index, which represents the stock-market performance of companies in the global water industry and holds 38 stocks of companies ranging from giant to micro. The expense % is low, selecting individual "winners" in this field is next to impossible even for experts which I'm definitely not, the ETF pays a dividend, and I intend it to be a very long term holding. While I anticipated a lot of volatility in water stocks, the limit price I set was substantially down from recent highs. Unfortunately, it wasn't nearly as low as it's fallen this week. Another "if only I'd been more pessimistic" purchase....

I faired better with the limit price I set for IGE which tracks the S&P GSSI Natural Resources Index. I bought this because I want heavy exposure to energy going into hurricane season and because of present and, I believe, growing instability in oil-producing regions. Valero and Suncor were two energy stocks I was considering, but I decided I wanted more diversity. This ETF contains 127 stocks and has large stakes in both stocks I was considering.

The balance of my allocation to "commodities" should have triggered this morning but didn't: one of the many small mysteries of the Marketocracy system. DBC, the commodities index tracking fund I purchased some of and described in an earlier posting, dropped like a rock briefly this morning. The plunge drove the holding from the top of my stratification list to the bottom and the rock bottom price appeared on my open orders page, but no purchase was made and the order stayed open, just as it did with an additional purchase of DBV earlier in the week.

Bianca's first pick

Rating: 1.83 (35 votes) Vote:

"Everything Apple is cool. Doesn't matter if you can get an MP3 player that does more for less - everybody wants an iPod. Same with everything else they make or might make. Apple is cool."

Here's Bianca -- my collaborator on the portfolio for the Strategy Lab Open. She is my "Little Sister", and she represents the younger generation in a family trust. Having just turned 15, she's totally up on what teens consider cool, and she uses that knowledge to pick stocks.

Bianca was sure: when Apple's ratings were good and so was the price, we should buy it.

Bianca starts researching whether a company is as good as its product or service by checking Morningstar. Like a good student, she looks for A's in growth, profitability and financial health. Then she looks at MSN Money StockScouter rating. A perfect 10 - as Apple has at the moment - is what she prefers, but she'll "settle" for a 9 or 8 if there are enough other good ratings. Then she reads the rationale behind the StockScouter rating. In this case it says:

Pro
The ratio of AAPL's price-to-earnings multiple to its five-year growth rate is slightly below the average of all stocks in the StockScouter universe. Positive
The StockScouter measure of relative price change and consistency is very high. Very positive
The price-to-sales multiple is significantly higher than the average for all stocks in the StockScouter universe. Very positive for a medium- to large-sized company like AAPL

Con
The price-to-earnings multiple is higher than the average for all stocks in the StockScouter universe. Negative

Five year figures are very important to Bianca. She recently studied the Great Depression in school and found it very scary. She doesn't want to make mistakes that economists discovered how to avoid in the 1930's, and they established then that five year trends are much more reliable than 1 year trends.

Next Bianca checks the StarMine ratings for a stock. These are the opinions of the analysts with the best record of making recommendations on a particular stock. At this time for Apple there are 3 analyst companies whose accuracy in predicting the ups and downs of Apple stock prices exceed 79%. All three Market Edge (100% accuracy), Deutsche Bank (82%) and UBS (79%) rate it a buy.

Finally Bianca goes to Yahoo Finance to find the company's competitors and then goes to "Charts" to see how the company she is considering compares with its competition for the year and for 5 years. Apple totally blew away DELL, HPQ and MSFT.

Apple passed all Bianca's tests, so the next step was to pick a price. In the week before the competition started, Apple stock prices soared to as high as $146, way too expensive for Bianca. Still at Yahoo Finance, she checked under "Historical Prices" for Apple. $130, 10% lower than present prices and the lowest price since the beginning of July, seemed like a good sale price to shoot for, and that is where we set the limit price for our purchase.

It triggered this week, and we got it.

If we had it to do over, we would have set the price at $115, but Bianca is happy to be an honorary Apple shareholder.

Oops! Hope you avoid this mistake

Rating: 1.00 (6 votes) Vote:

I made a mistake I hope others avoid.

The practice portfolio I set up before the competition began still exists because I haven't figured out how to delete it, and it has a very similar symbol to the SLO portfolio that was set up for me automatically as the competition began.

When placing a buy order I didn't look closely enough and got the wrong symbol. Sure enough -- the most lucrative purchase I've made to date is sitting in the wrong portfolio.

Obviously, I'm going to be more careful in the future.

Picking a stock for a multi-generational trust

Rating: 1.81 (26 votes) Vote:

I feel a responsibility as the manager of the long term investments of three generations of my family to do more than simply make sure that the money is there and safe and growing enough to cover the needs of the extended family. Not that that responsibility doesn't weigh heavily enough when the market drops in all sectors as it has during the past weeks at the same time my 87 year old mother experiences a health crisis!

To me it's also important that a portion of the funds be invested in companies that members of the family can understand and relate to: companies whose products and services are in areas of interest or concern; companies whose business practices reflect the values of the family.

Communicating with the family about these companies helps them appreciate where the money they depend on comes from. It also helps me interest the next generation in investing, a skill that will help them build the capital to put wind in the sails of their dreams. Engaging the younger generation in proposing companies also helps me identify and develop a successor manager of the family trust so, when I'm no longer able to do it, we avoid paying fees to an outsider who will simply manage the money without concern for values or communication.

Clearly, stock picking for these purposes adds an additional dimension to research.

My mother has always had a strong interest in health care, so that's a sector that receives special attention in our family trust. My SLO portfolio is lower in health care than the percentage my diversification system calls for, so the quest began for a company that met all the criteria.

My mother, who was recently diagnosed with it herself, believes that the worldwide aging of the population combined with the global epidemic in obesity is going to make management of diabetes an important part of the health care market for many years to come, so I identified companies specializing in that.

Quick to rise to the top of the list was the Danish company Novo Nordisk A/S. The world's large provider of insulin, it also develops and sells diabetes care and oral anti-diabetic products, and biopharmaceuticals including growth hormone and hormone replacement therapy products. Last year NVO initiated a global Phase III study for the use of liraglutide, the human glucagon-like peptide-1 (GLP-1) analogue, in people with type 2 diabetes like my mother.

Further research showed NVO also passed the "values" test, having a corporate policy that holds management accountable for a Triple Bottom Line.

Being a large growth stock, NVO fit a niche that needed filling in the diversification by market cap part of my system; being Danish it helped round out the foreign allocation (as well as being of interest to a family that has lived for 5 generations in a city known as Little Denmark); having 5 years of stock price growth greatly exceeding the industry average, it passed another test.

All that remained was to get the number of shares we wanted at a bargain price. At noon on the 17th I got the shares at an average price of $102.40 which was less than the price I had mentally set. Time will tell if that is a bargain or not, but for the time being NVO is up, and that's the direction the whole family prefers!

Portfolio review -- week three

Rating: 1.33 (6 votes) Vote:

I'm managing this SLO portfolio the same way I manage the family funds I'm responsible for, but I review it once a week -- more frequently depending on how volatile the market is. I did the last review of my SLO portfolio on August 8 when I questioned whether the rally would last. Would that I were always so clairvoyant!

Here's how my SLO portfolio stands at the moment in relation to the plan: we have 68% of our funds in equities and we intend to have 77%. We plan to have 60% in growth, 25% in value and 15% in blend or core holdings. Currently we're at 43%, 41% and 16%.

In the most important part of the plan, asset diversification, we plan 40% in US equities and have 26%, plan 30% in foreign and have 29%, plan and have 6% in real estate, plan 9% in commodities and have 8%, and plan 15% in "safe stuff" and have 31%.

The allocation by capitalization: 46% large, 42% mid and 12% small is out of line because we're looking for something more in the neighborhood of 60%, 30% and 10%.

And then there is sector allocation, a bit trickier to calculate with confidence. Fidelity Investments has a great new tool called ETF Portfolio Builder that allows me to see the sector allocation of my ETFs, at least for domestic stocks, and it's available for use whether you have a Fidelity account or not.

In my SLO portfolio I've decided to overweight energy until the end of the hurricane season, and industrial materials and telecoms in the foreign category until the end of the competition. I'll pretty much follow the current distribution of the market in the US category. Everything is pretty much on track except technology (software, hardware and media) and consumer goods. That's perfect, because technology is my special interest (with the help of my computer scientist daughter) and Bianca and I are most knowledgeable about consumer goods.

My diversification system now tells me exactly what to do: find a "save stuff" alternative to cash for $235,026; find large cap growth stocks in technology and consumer goods for a total amount of $138,790; and buy $11-13K of commodities futures. As noted in an earlier post, a limit order is already in for the commodities futures and should have actually triggered although it doesn't seem to have. The rest requires some work.

Decision-making on our family trust

Rating: 0.60 (5 votes) Vote:

On the first Saturday after the last trading day of the month, you'll find me at my desk in an office my husband and daughter painted to look like a rain forest, looking at two computers and a spreadsheet. That's when, for each account that makes up our family trust, I record money that's been added, what's been spent, the current value of each stock or fund, the current sector allocation of the portfolio and of the market as a whole. I also record the current ratings for each stock and fund we own and whether there have been any significant shifts in the portfolios of funds.

With all the data in place, I look at asset allocation by asset type. If an asset type -- US, foreign, "safe stuff" (meaning bonds, CDs and money market funds), real estate and commodities -- is over or under by less than 5%, and there are no major "red flags" about company or fund performance and no sector allocations that are substantially off, I'm done. Everything stays as it is, and I'm back to life.

If an asset type is over or under by more than 5%, I do some research to decide whether I think the situation is likely to be temporary or not. When a category other than "safe stuff" is over or under by 8%, it's time to reallocate. Period. I never fail to reallocate. Ever.

When reallocation is needed, I look at capitalization, growth/blend/value, and sector to find candidates to buy. Selling is easy: the biggest loser in the "over" category is sold down to the appropriate level unless it will disrupt some other allocation by more than 10%.

When I've found what I think are the right candidates for sale and purchase, I call the person who controls whatever portion of the trust the candidates happen to be in and explain my reasoning to that person. Assuming my mother, for example, agrees with me, she then makes the trades herself. I've found that having responsibility for making final decisions and actual trades spread around the family has increased a sense of ownership in the whole process, and it has certainly engaged the interest of everyone who's been willing to give it a try. Family members who never paid any attention to the stock market now find financial news riveting. An added bonus: I never have to worry that I -- or my successor -- will be accused of anything worse than poor research.

"Safe stuff"

Rating: 1.63 (16 votes) Vote:

Long term investments need to be anchored in stability as well as sufficiently exposed to growth. I consider "safe stuff" to be CDs, money market funds, treasuries, short term, and intermediate term high quality corporate bonds, Ginnie Mae funds, foreign currency funds, commodities funds, high yield bond funds and foreign bond funds, in safest to least safe order. (I don't get involved in individual bonds.)

Do you rate the "safety range" in the same way or include other investment categories? Please post your comments.

In the family trust I'm responsible for, 46% of assets are in "safe stuff" at the moment. There is never less than 40% because that represents the current risk tolerance level of the family as a whole. My own personal long term investments are 20% in "safe stuff", currently almost entirely in CDs and money market funds paying over 5%, the safest of the safe with a respectable return during turbulent times.

For the hypothetical Bicycle Trust that is my Strategy Lab portfolio, I'm assuming a more risk-tolerant family group and chosen a 28% allocation to "safe stuff".

Because the Strategy Lab "pays" only 1% cash interest, I've been looking for alternatives for my 28%. I'm very leery of bonds since Pimco's Bill Gross said in late spring that he feels we're entering a long term bear market in bonds. Since I'm not using bonds in real life, I don't want to use them in this portfolio either.

The main alternative I've chosen, DBV previous post, has been doing quite well (up 2.57% in 7 days).

I recently bought a small amount of UDN, an exchange-traded fund that tracks the price and yield performance of the Deutsche Bank Short US Dollar Futures Index. The index is comprised solely of short futures contracts designed to replicate the performance of being long the US Dollar against the Euro, Japanese Yen, British Pound, Canadian Dollar, Swedish Krona and Swiss Franc. It's also up slightly (0.19% in 3 days).

I'd be very interested in any thoughts you have on other possibilities.

Bianca's new pick

Rating: 1.52 (23 votes) Vote:

Everybody including Bianca loves == Aeropostale == apparel for young people. Get the look. Great clothes, great prices, great sales. Like right now, there's a 50% off sale right from the company.

And we got the stock on sale too. We had a limit order in from the beginning of the competition, and it triggered on the day the stock split. Unfortunately, the price has slipped a bit today, but it's probably related to the split. It's back-to-school buying time. And there will be another wave of purchases after kids are back at school and see what "everybody" is wearing, then another burst for winter clothes buying as the weather gets cold and then, of course, Christmas. Because the brand is "in" and affordable, Santa places big orders.

ARO is just what we were looking for as a company and a stock - except it's small cap instead of large cap. Unfortunately, none of the apparel makers who passed the Bianca style test were large cap, so we're going to fill out our large cap purchases from a different type of consumer goods.

Besides style, a good stock price and the likelihood of strong sales growth from now to the end of the year, why did we decide to buy Aeropostale (ARO)?

Morningstar: B+ in growth, A+ in profitability and A+ in financial health

MSN Money StockScouter rating: A perfect 10 "Aeropostale Inc, a mid-cap value company in the consumer services sector, is expected to significantly outperform the market over the next six months with less than average risk. The StockScouter measure of relative price change and consistency is very high. Very positive"

StarMine ratings (opinions of the analysts with the best record -- 75%+ accuracy --of making recommendations on a particular stock): 3 of 5 say buy

And so we did.

For more detail on how Bianca researches the stocks she picks, click here. There's more about Bianca in my profile.

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Eileen Teska

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