Download January 2012 - Appropriate Balance Financial Services

JANUARY31,2012
MARKETUPDATE&COMMENTARY
“Change is the law of life. And those who look only to the past or present are certain to miss the future.” ‐ John F. Kennedy WHEREAREWENOW?
Source:Tradestation
The market has rallied, nearly without pause, since the beginning of the year. With the S&P 500 moving above the October 2011 highs, the intermediate trend now appears to be to the upside. We may be on the cusp of a longer term rally. The market has, for the first time since the breakdown in early August 2011, shown real strength. Small caps have begun to lead the market – a demonstration of the strength of the uptrend, as these more economically sensitive companies often serve as the canary in the coal mine that one can use to assess the validity of a move higher. The situation in the Eurozone is far from resolved but still improving. Importantly, the market seems to have discounted the news out of Europe as we’ve moved higher this month in the face of negative news. This can be interpreted as a sign of strength. Sentiment among those we speak with and read still shows a healthy dose of skepticism. We see this as a positive for the market’s upside prospects as it means there are folks who have yet to buy. Over the short term we see the market as slightly extended and it looks like it is due to pullback a bit here. So long as the pullback isn’t anything more than a 3‐5% drop, we expect to see the market testing the highs made last spring. Appropriate Balance Financial Services, Inc.
www.abfsnw.com
JANUARY2012
CHARTOFTHEMONTH
USDOLLARINDEX
Source:AdvancedGET
U.S.DollarBottom?
The U.S. dollar index, which compares the dollar to a basket of six currencies, may have put in an important low. The dollar, which remains the reserve currency of the world, effects commodity prices, corporate earnings, international trade, inflation, and the equity markets. Understandably, sentiment toward the U.S. dollar has been exceptionally pessimistic over the past few years with the dollar having lost over 40% its value since 2002. This type of pessimism is often how market bottoms are formed. The U.S. dollar broke out of a seven year downtrend in 2008 and has since traded in a four year, sideways, trading range. There are indications that the current bottom will hold and that the U.S. dollar may begin a protracted move higher. The European debt crisis, and the resultant weakness in the Euro, is helping to put a floor on the decline of the U.S. dollar. With the Euro totaling 58% of foreign currency representation in the U.S. dollar index, as safety is sought, it doesn’t take much in the way of poor news out of Europe to push the dollar higher. The strength in the U.S. economy, particularly relative to Europe, also serves to attract more money to the U.S. market. Technically speaking, we’d like to see the U.S. dollar index trade above $90, moving out of the current sideways trading range to confirm the bullish change in trend. If it moves below the 2008 low, expect an increase in our international equity exposure. Appropriate Balance Financial Services, Inc.
www.abfsnw.com
JANUARY2012
STRATEGYHIGHLIGHT
IntheOctober2011newsletterwefocusedonexplainingourMomentumGrowthstrategy,
providingageneraloverview.Specifically,wedetailedhowwecombinerelativestrength
and timing to produce returns over time. This month we’d like to expand on the
explanation, detailing our expectations going forward and discussing how the relative
strengthandtimingcomponentswillmodifythebehavioroftheportfolioslightly–toan
experiencemoresimilartothatwhichwasseenyearsago.
MomentumGrowth
To briefly recap what we wrote back in October, momentum based strategies, including relative strength and trend following strategies, are considered to be some of the most rigorously tested and discussed investment strategies in place today. Academics have proven time and again that using momentum based strategies has produced, over the long run, improved returns compared to “buy and hold” investing. Imagine your investment horizon as a baseball game. For a team focused on scoring a lot of runs (unfortunately the Seattle Mariners of recent years do not qualify) the number of runs given up in any particular inning is of minor importance. It is the result of the game, and more importantly, the season that matters. Such is the case for Momentum Growth. Going forward, we expect to see greater monthly volatility than has been experienced in the last few years; volatility more on the level of what was seen in the portfolio years ago. The recent refinements to the strategy should ensure that it is the most dynamic of our growth strategies. It is our most actively traded strategy – averaging 1‐2 changes per month. This volatility, more akin to the heavy run scoring teams such as the New York Yankees or Boston Red Sox, comes with benefits and drawbacks. We wouldn’t be surprised to see monthly drawdowns which are higher than in recent years. This is attributable to the focus on relative strength. Sectors and asset classes which have been in favor work well as investments – until they don’t. In the months where their relative strength falters we’ll likely take positional losses that are larger than you’ve experienced recently in the Momentum Growth strategy. But, the payoff for focusing on the leading sectors and asset classes, when they are leading, should greatly outweigh the sacrifice of the occasional bad “inning”. The meaning of each inning (month or quarter) becomes less important as we focus on winning the game – and succeeding in the market, over multiple years. It is also difficult to win over the long term if you don’t identify situations where it is better to simply sit out and not play. During market downtrends, and the beginning phases of new uptrends, Momentum Growth is likely to be on the sidelines. The strategy, in an move such as from October 2007 – March 2009, is likely to hold cash for a substantial length of time. It is a strategy focused on waiting for the fat pitches, periods when, historically, one has been rewarded for taking on risk. Appropriate Balance Financial Services, Inc.
www.abfsnw.com
JANUARY2012
STRATEGYCOMMENTARY
CURRENTPOSITIONS
Cash
MOMENTUMGROWTH
3%
Bonds
The strategy is fully invested after sitting in cash or cash replacements for a number of months. We expect to rebalance the portfolio on or around the 15th of every month. 19%
Stocks
78%
0.0%
50.0%
100.0%
MANAGEDRISK
Cash
4%
Bonds
There were no changes in MR this month. The portfolio is behaving well, trending higher with little volatility. All positions are at or near their highs. The bond portion of the allocation is yielding over 4.5% with a duration of 2.6 years. MR as a whole has a trailing 12 month yield of 3.3%. 45%
Stocks
51%
0%
20%
Cash
40%
60%
VALUEPLUS
12%
Currency
Value Plus is getting very close to fully invested but is still relatively conservative risk‐wise. We added exposure to the Asian market and technology sectors this month. Healthcare, technology, and consumer cyclicals compose the top three sector allocations. We expect to be fully invested soon. 15%
Intl Stock
20%
US Stock
53%
0%
20%
Intl Stock
15%
Cash
40%
60%
TACTICALGLOBALGROWTH
The TGG model turned more bullish recently and additions were made to large cap, small cap, and international allocations this month. 18%
Small Cap Stock
29%
Large Cap Stock
38%
0% 10% 20% 30% 40%
Cash
STRATEGICGLOBALGROWTH
1%
Intl Stock
30%
Small Cap Stock
30%
Large Cap Stock
39%
0%
20%
40%
60%
No position changes this month. The strategy has done well by capturing 80%+ of the returns of its comparable blended index (40% SPY, 30% IWM, 30% EFA) while maintaining its defensive allocation and 50/50 approach of 50% defensive funds, and 50% funds with higher market exposure. Appropriate Balance Financial Services, Inc.
www.abfsnw.com
JANUARY2012
GLOBALUPDATE
Global Markets ‐ Market Movement vs Currency Year to Date % Change (Market Index)
Currency % Change
9.5%
9.3%
7.5%
5.1%
4.5%
3.7%
3.1%
4.1%
3.0%
2.3%
0.6%
0.7%
‐0.4%
‐0.7%
iShares FTSE
China 25 Index
Fund
iShares MSCI
EMU Index
1.8%
1.3%
SPDR S&P 500
iShares MSCI
iShares MSCI
Pacific ex‐Japan Japan Index
iShares MSCI
Emerging
Markets Index
iShares MSCI
Brazil Index
iShares MSCI
Australia Index
MarketYeartoDateChangeDataasof1/23/12(Yahoo)
The global markets are off to a great start in the new year. We’ve recently seen the International Monetary Fund (IMF) lower global GDP growth forecasts to 3.3% in 2012 and 3.9% in 2013 from its previous forecast of 4% and 4.5% respectively. Some of those gains were helped by the gains in currency versus the U.S. dollar. China’s GDP growth slowed to 8.9% in Q4 of 2011, its lowest rate of growth in 2 ½ years. The IMF also cut China’s estimated expansion to 8.2% from 9%. For the first time ever, China’s urban population has exceeded the number of rural dwellers ‐ rising to 51.3% of the nation’s 1.3 billon people. This is a very positive development for the global market in the long‐term and may be the tipping point for China as a consumer. International companies have been waiting for years for the Chinese to become consumers. That time may be here. Japan reported its first trade deficit since 1980. The 2.49 trillion yen ($32 billion) shortfall in 2011 was caused in part by the March 11 earthquake and tsunami, and the rising value of the yen. The Yen surged to all‐time highs last year and is still trading near that high today. IMF’s outlook for growth in the Euro area in 2012 shrank to 0.5% from 1% and Europe may experience a mild recession this year. The good news is that the IMF’s outlook for the U.S. economy is unchanged at 1.8% growth in 2012. This a positive for U.S. equities relative to the rest of the world. Appropriate Balance Financial Services, Inc.
www.abfsnw.com
JANUARY2012
APPROPRIATEBALANCEPORTFOLIOMANAGEMENTTEAM
FromL‐R:MaryAnnFerreira,BrianJohnson,BruceYates,BobPennell,EddieWoo
Bruce M. Yates, President and Founder. Bruce has over thirty‐two years of investment management experience, both with equities and fixed income instruments. Bruce is currently advisor to many ABFS clients, as well as co‐portfolio manager of the firm’s “Income Securities” accounts. Prior to founding Appropriate Balance 27 years ago, Bruce spent five years as a Financial Consultant and Account Executive for Shearson/American Express and Merrill Lynch, Pierce, Fenner & Smith. Bruce earned his Certified Financial Manager designation from the Donald T. Regan School of Advanced Financial Management in New York in 1982. In his spare time, Bruce is passionate about underwater photography, which he uses to raise money for charitable causes. [email protected] Robert M. (Bob) Pennell, Vice President and Partner. After leaving Weyerhaeuser’s New Business Ventures group in the early 80’s, Bob founded Harvard Financial Advisors which was merged into ABFS in the early 90’s. Prior to going into the financial services business on his own in 1980, Bob graduated from the University of Washington with a BS in Aeronautical Engineering. He served for 6 years as a Marine fighter pilot and went to the Harvard Graduate School of Business, where he earned an MBA. Following graduation, he and his family moved to Texas where he was with Cameron Iron Works (Manager of Capital Projects), MAC (Management Consultant), Optron (CFO), and Beta Engine Systems (CEO). He moved back to his hometown of Seattle in 1974 to join Weyerhaeuser’s New Business Ventures Group. In his free time, Bob enjoys activities with his family, and enjoying the great Northwest while skiing, hiking, playing golf, sailing, and fishing. Life is good. [email protected] Edwin T. Woo, CMT, Chief Portfolio Strategist. Eddie is responsible for overseeing the portfolios and their risk management. He works with the Investment Committee on portfolio construction, strategy allocation, and investment selection for each of the ABFS portfolios. As a Chartered Market Technician (CMT), he specializes in intermarket and technical analysis of the markets. Eddie has over 15 years of investment management experience. Eddie speaks both English and Chinese and has an extensive knowledge of Asian culture and brings to Appropriate Balance a unique perspective for global investing. He has a B.S. in Finance from Central Washington University. [email protected] Mary Ann Ferreira, CFP®, Fixed Income Portfolio Manager. Mary Ann not only serves as financial advisor to many ABFS clients, but is also co‐manager of ABFS's “Income Securities” accounts. She joined Appropriate Balance in 2001 with more than 14 years of prior experience in the securities industry. Mary Ann was instrumental in the formation in 1983 (and was a general partner) of Tuttle & Co., which was a consulting firm for mortgage companies, and savings and loans. Previously, she worked at various branch offices of major securities firms, assisting in daily institutional trading activities. Mary Ann is active in the community and a Board Member for Eastside Enrichment and Seattle Wheelchair Rugby Association. She lives in Renton, WA with her adopted twins. [email protected] Brian A. Johnson, Assistant Portfolio Manager. Brian joined ABFS in 2011 with 9 years prior investment experience. Currently pursuing a Chartered Market Technician designation, he specializes primarily in the fundamental and technical analysis of the market. Prior to joining Appropriate Balance, Brian worked with a wealthy investor, managing equity portfolios as well as making angel and private equity investments. Additionally, he was instrumental in the formation of the Tacoma Angel Network and was an early employee of CampRegister.com, an internet startup which was sold to The Active Network in 2007. He has a BBA from Pacific Lutheran University and lives with his wife and son in Puyallup, WA. [email protected] Appropriate Balance Financial Services, Inc.
www.abfsnw.com
JANUARY2012
IMPORTANTDISCLOSURES
GENERAL The data on this sheet are for informational purposes only. Proper interpretation requires some knowledge of market risks, returns, and portfolio theory. Investors should not act based on it without substantial explanation, qualification, and discussion. We believe – but do not guarantee – that these data are accurate. Of course, there is no assurance that future returns will in any way resemble the past, or that results will even be profitable. We do not intend to imply that high relative returns will be produced on an ongoing basis, and periods of low, or possibly even negative, returns should be expected. Investors should be prepared to endure such periods, and should be sure money in‐vested is of a long‐term nature (i.e., that substantial withdrawals of principal are not anticipated for at least 5‐10 years). Investment decisions should not be based solely on these results. Investors should make sure they fully understand and agree with this specific management style. Returns Returns for ABFS strategies are “iterative internal rate of return, or IRR” (1999‐2005) and “time weighted rate of return, or TWR” (after 2005) figures for actual client portfolios. Figures for each “Return (%)” period include all client accounts (even new and terminated ones) that were invested in this strategy for the entirety of that calendar year (partial year for the latest component period when less than a full year), but exclude any non‐managed securities (which were occasionally held at clients’ request) in those accounts. We have used the returns for all clients invested in the strategy for each full year, rather than only results for clients invested since the beginning, because ABFS has had more clients in the strategy in recent years. Thus, we believe that calculating the returns including all clients invested for each full year (rather than only those in the strategy “from the beginning”) provides a much larger sample of returns, and is therefore more representative of the returns generally achieved for clients each year. Note that, while both IRR and TWR are commonly used methods of calculating returns, IRR tends to produce higher return numbers than TWR. As a result, the numbers herein for ABFS clients for the periods where IRR is used are higher than would be TWR numbers for the same clients for those periods. Returns are calculated on a dollar‐weighted basis; that is, they include the actual beginning values, all expenses (including management fees and transaction costs), and deposits and withdrawals for all accounts, calculated as one large “portfolio”. Returns are therefore net of all fees and transaction charges, and include reinvestment of all dividends and earnings. Returns ignore tax implications, which may be a significant consideration for taxable accounts. Actual individual client returns usually differ somewhat, depending on such factors as each client’s beginning date, transaction costs (which vary by account size), additions and withdrawals during the period, etc. Data for the “Vanguard Index 500” Fund (VFINX), an “index” fund based on the S&P 500 index, is for VFINX’s total return, including all dividends. “NASDAQ” data are for the NASDAQ Composite index price only. In 2005, ABFS changed the portfolio accounting software we use to track and calculate investment performance. This resulted in a difference between the way annual returns were calculated through 2005 versus after 2005. Returns through 2005 are “iterative internal rates of return” (IRR’s) while returns after 2005 are “time weighted rates of return” (TWR’s). Both methodologies are widely used, and are, we believe, indicative of this strategy’s results. We do not believe this change distorts return figures so as to invalidate a general comparison with the indexes shown or the strategy’s own performance prior to 2005. Hypothetical Example “Return (%)” is the composite return for the indicated Strategy and time period. “Starting Value” is a hypothetical account value invested as of the beginning of the year. “Return ($)” is calculated by multiplying the “Starting Value” by the “Return (%)” for each given year. “Annual Withdrawal (5%)” is the hypothetical amount withdrawn at the end of each year and is calculated as 5% of the “Starting Value” +/‐ “Return ($).” “Ending Value” is the algebraic sum of “Starting Value,” “Return ($),” and “Annual Withdrawal (5%).” “Change in Principle” is the difference in beginning year “Starting Value” and the final year “Ending Value.” “Total Withdrawn” is the net amount withdrawn over the time period displayed. “Cumulative Return” is the total effective return including “Change in Principle” and “Total Withdrawn.” Appropriate Balance Financial Services, Inc.
www.abfsnw.com