Phase Two of The Bear Market 2022

Side bar: I’m going to use terminology that I hate to use such as, bear/bull markets, recessions, bubble, etc. There are emotional attachments to those words and it is important to remain objective, factual, and as dispassionate as possible. For emphasis, I’m going to use these words to make a point.

You invest for what is to come, not what has happened! No one, myself included, knows the future with 100% certainty. Investors biggest challenge is how to deal with uncertainty. Part of what makes investing hard is that you have the media and Humongous Bank and Brokerage, Inc. (HBB), each with no vision, simply telling you stories about the most recent past and extrapolating that into the future. This is called recency bias and is a big no no. These institutions with big megaphones have a massive conflict of interest because they rarely tell you to sell. There is never a way out. But I do find it funny that while they never call the top, they are quite quick to tell you the bottom is in! Wearing the losses all the way down is not calling a bottom, btw. These charlatans haven’t changed in 100 years. This is exactly why I am writing this missive.

I was recently flipping through LinkedIn and I noticed several ads/articles from ahem, competitors, cheering on that the big rally in stocks for July is somehow a sign that the stock market decline has priced in a recession and its time to be more positive on stocks - or something along those lines. I obviously have a different perspective. I could be right or I could be wrong. If I am wrong, I won’t stay wrong and adjust my positioning to reflect new incoming data in context to history and math. Stocks are just bouncing to a lower high in a massive downtrend. To me this is a sell (or sell short), not a buy signal.

My view: The Fed is in the early stages of bursting the biggest bubble in stocks and real estate - EVER!  We are in the very early stages of a massive valuation markdown. This mark down will continue until big companies begin to break. What I mean by break is bankruptcy. The run up in stocks in July is nothing more than a very large short squeeze. (A short squeeze is when institutions that sold stocks short, must close the trade by buying those previously sold shares.  The violent move higher is due to speculators pushing shares up in price simultaneously with short sellers buying back the shares to close the trade.) We are in the early innings of a recession. This mark-down process most likely happens over many quarters or even years.  Any bubble, not to mention the biggest bubble EVER (did I say that already?) that has been pumped for over a decade, doesn’t get deflated in 6 months. One of the most important things investors need to understand, when this valuation mark-down, bear market, or whatever is finished, the next group of great stock market leaders WILL NOT BE THE PRIOR LEADERSHIP STOCKS. If your portfolio is heavily weighted in Apple, Facebook, Google, Microsoft, Netflix, etc.etc., I’d seriously start thinking differently. 

I always corroborate any fundamental view with price. Price is the final arbiter. I am not smarter than price. This is like the old saying that I don’t have to outrun the bear, I just have to outrun you. I have a select set of rules that help me confirm when I am right and get me out when I am wrong. You always want to wait to be the technical buyer meeting the emotional seller or the technical seller meeting the emotional buyer. 

The markets always leave a series of clues, but do you have the strategy to act while uncertain?  Can you be comfortable being uncomfortable? Do you have the ability to hold two opposing thoughts simultaneously in your head? Can you act bullish while having bearish bias or vice versa? Analysis is easy. The only way to increase your account balance is to execute. When we are required to execute under uncertainty you have to behave in a certain way. When we require behavior all sorts of issues within your brain or past can prevent you from success.  People don’t sell high prices because they fear leaving money on the table. People sell at lows because the pain of loss has superseded the hopium of price coming back. I’m not a hopium dealer. Call your Humongous Bank and Brokerage, Inc. rep or your local CFP to give you your fix if that is what you need.

Here are the top 10 things I’d be talking to your spouse or yourself in the mirror:

1. Do I/we have a technical rules base process to help me risk manage markets

2. Do I/ we have the investment flexibility that can be applied to a wide variety of asset classes

3. Do I/we have a daily or weekly review process to help me risk manage my accounts

4. Do I/we maintain an active watchlist of new and innovative companies

5. Do I/we have a process to monitor major economic indicators using a rate of change math

6. Do I/we have a min/max position sizing process of getting in and getting out of positions

7. Do I/we have a good grasp on the relevant factors that are currently driving order flow

8. Do I/we have a quantitative process to clearly (like within seconds) tell if an asset is in an uptrend, downtrend, or no trend

9. Do I/we have 4 distinct investment portfolios that change as the incoming data changes

10. Do I/we have a process that is adaptive and forward looking or is it a “stay the course” regardless of the data

I know what I do and what my clients expect from me. That is what I’ve outlined above. Markets change. The fundamental view that I have outlined above may not come to fruition. Currently, I believe it will and that many people will be unfortunately financially crushed. I also believe that If I am right and can properly execute on my risk management rules over the next 18 months, there will be generational wealth creating opportunities waiting for us on the backside of all of this. I feel guided to marshal my resources before the coming investment hurricane, so that I am of clear mind to decisively act when the opportunities are presented.

Peace and prosperity,

P. Franklin, Jr., CEO

What Not To Do - Part 1 of A Series

What I’m going to do in the next couple of months is lay out, in the most straightforward way, exactly how I approach trading and investing. This is what I use to try to simplify the complex. Imagine the entire stock market is like the ocean and we are investing in a surfing contest. I’m going to put my money on the 13 year old kid from Huntington Beach, CA. I’m not going to put my money on a 57 year old oceanographer who can talk endlessly about currents, tides and sand. (And btw, has probably never been in the ocean.) Wall Street is full of oceanographers!

At the core of what I do is follow price trends. [insert clever Geico commercial here - no offense to cavemen] Asset prices are mean reverting. Nothing goes up or down forever. Think of a stock price like climbing a flight of stairs with a landing in the middle. The mean or average would be the landing. The mean is a high probability area where the stock price will pause. Technically, this is an area where buyers and sellers are in balance. This is a price-zone where supply of shares is enough to satisfy demand. If we pull back and look at price on a bigger scale, you will observe that price has a tendency to revert towards an average (mean), pause, and then thrust away from the average usually in the direction of the predominant trend. This relationship can be illustrated by the graphic below.

There is no magic average level for anything. But as the song goes, “if you don’t stand for anything, you’ll fall for everything.” The goal of this missive is for the everyday investor to come away with a greater understanding of how to identify trends, limit losses when wrong and hold on to gains when right. So, I visualize price data through three different time frames. Oh, and before I forget one important concept before we begin. I am nothing more than a gatherer of data. I happen to gather data on the capital markets. But none-the-less it is just data. Up-ticks don’t have any more or less meaning than down-ticks. Your confidence level should not change due to changes in price. That is your ego. 

The three time frames I use most often are: weekly time series, daily time series and 130 minute time series. I can and do flip around 2-day, 3-day, 4-day time series. I also look at 195-minute, 78-minute and 39-minute time frames. Just a note on how I come up with the sub-daily time series- there are 390 minutes in every trading day (not counting pre/post hours of trading). If I divide 390 by 3, I get 130. This will give me 3 bars of data in every day. A 78-minute time frame will give me 5 bars of data per day, for example. I rarely look at data through a monthly time series, which may seem odd, since my overall time frame is quite lengthy.  It may also seem odd that I would spend time looking at sub-daily time frames. Remember, I am in the data collection business and more data is better. I analyze data across multiple time frames to first protect my portfolio against loss and second to identify the signal for purchases within price. 

If I had to prioritize the level of importance, the weekly time series, hands down, is of greatest focus for me. All of my work flow is broken down from the weekly data. To keep the discussion at a high level, I want to see price above an up-ward sloping 50-week simple moving average.  This is about a year's worth of price data. Again, there is nothing magical or unique about this.  This is what I consider the long-term trend line. Above the 50-week, positive sloping average the security can be categorized in an up trend. If price is oscillating around a flattening average, the security can be classified as in no-trend. If the price is below and downward sloping average, then the security can be classified as in a down-trend. I will never use a single time frame and a single input to make a buy or sell decision, but there is also really no need to complicate this any more than necessary. As I roll down to a smaller time-series, like a daily chart, I’d be referencing a 230 period average that would correspond to the 50-period average from the weekly graph.

At this point I am just observing the data. I do not make any buy or sell decisions based on this data point. I use the scientific method approach to this. We have no conclusions just yet. Think of this like a gold miner. A gold miner has his belts, shakers, trammels, and water to strip away the excess material to see what gold shows up in the sluice box.  But what is the first thing that a miner has to figure out? What dirt is miner going to run through the machine. The miner doesn’t throw random dirt through his system. The focus is on “pay-dirt.” And not every piece of ground is gold. The miner is constantly striping away the material to finally get down to the gold.  I’ll let you in on a big part of my process. If a security trades below its 50-period weekly, downward sloping average, the stock is complete garbage. I don’t care how wonderful the company’s products and services are. I don’t care if your son is the CEO. I don’t care if they use 50% of their profits to save baby seals. There will be no gold in my account if I run garbage stocks through my system. 

We are in a difficult investing environment right now. These are not the times to “stay the course and be patient.” Price is one leading indicator that helps me manage risk against large losses.  One paradox in investing is that if you begin to lose a little, this could mean something is fundamentally changing. On one hand, you can’t make a lot if you are not willing to lose a little.  On the other hand you can lose a lot if you don’t change. There are times to stay the course- for me- for example, could be when a security pulls-back to an upward sloping 30-week simple moving average line supported by an upward sloping 50-week simple moving average line. Ah.  You see I threw something else in there for you to think about. If you go back and look at data through this lens, it will become very obvious to you that the probabilities for a significant decline have been in the works for 6 to 9 months. To come out now and say, “the market is down 20% so we're now in a bear market,” is amateur hour. I want you to be better than that. I am brutally patient in an uptrend. Today, except for energy, which looks like it could be an early sign of a breakdown, most everything looks to be somewhere along the downward cycle. Some are farther along in this process than others. We are still in Act 1 of the busting of the credit cycle. It is never too late to risk-manage your hard-earned wealth. Last, whatever you do, don’t ever buy in a, ah-hem, downtrend!

Peace and prosperity!

P. Franklin, Jr, CEO

Franklin Trend Investment Management, LLC

Now What?

I guess I shouldn’t be amazed by now at how many people refuse to accept the cyclicality of business. This is problem number one. What goes up eventually goes down. IT’S ALWAYS A SINE CURVE. Problem number two is the human ego. Making money in the stock market is the art of execution, not the science of analysis. When you have to execute, there are 4 or 5 main behavioral issues that come into play. Problem number three is that Wall Street has many conflicts of interest and you are not priority number one, two, three or four. For the next two months, I will lay all of this out so that you can have the tools to be better.

First go back and re-read what I wrote in January, February, and March of this year. Second, stop reading and believing in Wall Street research. This is nothing more than sales literature designed to keep you in the casino at all times. Price targets are bull shit. It’s “hopium.” Get off it. Last, learn to trend follow. Price is the only thing that matters. You can’t pay your mortgage with, “well at least (insert company name here) won’t go out of business ha, ha, ha.” Your job as an investor is to buy something at a low price and sell it later at a higher price (and repeat this process as often as possible). Nothing more. Do not get confused about this.

Referencing the picture above, begin to think about an investment program that starts with what will happen if a financial hurricane hits? A pie chart portfolio will not save you. It only dilutes your upside. WE ARE NOT ALL IN THE SAME BOAT TOGETHER. We are certainly in the same storm, but you do not have to choose to be in the same boat as everyone else. Although, that is another behavioral issue that we’ll need to address.

I’ll close this missive with this comment (and really what ticked me off to write this post). Humongous Bank and Brokerage firm “research” is putting out garbage about the strength of the consumer and strength of corporate earnings. This is a lie and let’s just stop the B.S. When you read, “the consumer is in great shape,” that is a level and a rearview mirror moment in time. And the consumer is 100% of the time in “great shape” at the peak of the cycle. So this is irrelevant to point this out. Right now, as I write this today, the best spin I can give is that the U.S. consumer is in SLOWING SHAPE. The level or narrative around the consumer doesn’t mean squat. So, if you want to talk about the consumer you must look through the lens of employment (which is a “the horses have already left the barn” data point), savings, and credit. The savings rate peaked in December of last year and is meaningfully slowing. Disposable income peaked in Q1 of 2021 and real income growth is negative. If you look at the credit card data, defaults are increasing. The sub-prime rated consumer is really struggling.

Let’s look at the health of corporate earnings. In February of this year, I posted a chart graphing high-yield OAS index, which is a risk barometer for corporate credit, is now hockey-sticking up. So when the media wants you to get all ginned up when the market rallies 500 points, take a look at what high-yield spreads are doing on the same day. They are most likely not moving much at all or continuing to move higher. The is a real-time look at corporate financial conditions that are tightening (worsening) not improving or in “great shape.” Stocks will not make a sustained move higher until this index peaks and begins to decline.

This is my situational awareness. The following is the dialog that I have in my mind. The other team has the ball. You are on defense. Your defensive team (whatever that looks like for you) should be on the field. Your job is to defend your portfolio - now! What you paid for some stock or fund is irrelevant and the market doesn’t care. What your statement balance looked like four or five months ago is irrelevant and the market doesn’t care. Believing that somehow a paper-loss is not a loss until you sell is ridiculous. It’s a loss. Dollar cost averaging into a down-trend is fools way of (mis)managing capital. Shore-up your funds to be deployed later when the probability of business conditions are more favorable to risk assets.

Sincerely,

P. Franklin, Jr., CEO

Franklin Tend Investment Management, LLC

Disinflation VS. Deflation

In the graph above I’ve marked the difference between disinflation and deflation. Disinflation happens as part of the normal cycle. I’ve noted 15 such examples in the past 70 years. Deflation, however, is rare. In fact, it has only occurred four times since the late 1940’s. The rate of change in inflation is one of two main causal factors to my asset allocation decision making.  So just to be crystal clear, it is 50% of what I look at to make asset allocation decisions. For me to get this wrong would be like a pizzeria forgetting to put cheese on the pizza. (For those inquiring minds, the other 50% is the rate of change in growth in the economy.) Since my focus this week is inflation, the quick take on economic growth is that it is going down and hard. Given that backdrop, can you tell me what two seasonal investment outcomes to look for? If you said Fall or Winter you’d be correct. Just narrowing it down to those two regimes will give us a big leg up in our investment decision making. 

There is only one point I want you to take away from this graph. The main point is that inflation is not a constant or a level. It changes. There is no “managing” the level of inflation. See, you are already smarter than most people at the Federal Reserve. Asset prices move (which is really the only thing you should care about) based on the rate of change in inflation. Inflation is a cycle. Sometimes it is a big cycle and sometimes it is not. Sometimes it is a short cycle, sometimes it is a longer cycle. The only question we really need to answer is what is the future outlook for the rate of change (ROC) in inflation. Whether it turns out to be long or short or big or small is impossible to know ahead of time. I don’t know and neither does anyone else.  All we know is that it is beginning to change. So we continue to monitor the change and adjust the portfolio accordingly.

The easiest example of what I mean by the rate of change is to think about hitting the most perfect drive on a long par 5. Based on a small amount physics, you can imagine that as you strike the golf ball with your driver, the impact launches the ball forward - remember this is your perfect drive not your usual drive! Somewhere out on the fairway this phenomenon called gravity and a few other things slows the ball down and begins to descend toward the ground. If you could measure all of the factors that began to overtake the upward thrust of the ball, you would see that somewhere, out there, the ball begins to decelerate and fall. This is basically the rate of change process that I go through. 

The short answer to all of this is that inflation is peaking (think of our golf ball mid-flight) or to get super fancy- most likely peaked in March. Because we invest in the future and not the past, knowing the mechanics (physics) of the slow-down could be advantageous. No? You’ll notice in the graph that peaks in inflation are not nice, rounded tops. They are sharp and jagged. This is the proverbial “you have to skate where the puck isn’t” in order to make any money at this. The brain mechanics of why this is difficult to do is called recency bias. We are wired to take what has happened in the most recent past and extend this out into the future. This is like hitting a golf ball and expecting it to never come down in the fairway. 

Just remember, inflation is cyclical and not a straight line. We need to anticipate these coming changes and position our assets BEFORE consensus. Being outside with the birds looking in is never fun, but a necessary part of the successful investing process.

Have a blessed day!

Paul Franklin, Jr., CEO

Franklin Trend Investment Management, LLC

Fonzi's not going to make it this time... Sorry Fonz!

My purpose in writing these missives is to give back. Even though people hire me to run the ball on the field, so to speak, it is also important to me that my clients, specifically, and individual investors, generally, have a better understanding of how the game is played at the highest level. I believe that in every endeavor it is best to have (good) teammates. But, teams are very different from a committee. Committees by and large are useless. Nothing great has ever come out of a committee. Teams on the other hand can (and do) challenge each other to push beyond what you’d normally do alone. Teams can be as little as two people. In investing, Warren Buffett wouldn’t be the icon that he is without his teammate Charlie Munger. 

This is what I wrote three weeks ago.

So what do we do now? Portfolios should already be proactively prepared (you see what I did there?) for peak inflation and for corporate profits to slow. We are watching for indicators like the one above, to signal that the market is beginning to re-price risk. This re-pricing tends to happen slowly then all at once. So you kinda have to be there first because if you’re not early, you’re late. We are also watching assets like U.S. dollar, conservative bonds, gold, and low volatility stocks (utilities, consumer staples, REITs) to show outperformance. These will be our green-light, confirmations that we are on the right path. The CPI number will be released tomorrow and it will most likely support the inflationary drumbeat of Wall Street. It will be interesting, however, to see what interest rates actually do after that report. Will they signal the top?

Well, fast forward to today and we have been getting green lights both right and left. This is not me trying to peacock around. This is me trying to get people to focus on something that is measurable and repeatable. Otherwise, what are we really doing here? If you’re just looking for random rewards you’ll be better off just going to Vegas and they’ll give you free drinks too! 

The title of this missive is a tongue-and-cheek reference to a particular episode of the 1970’s sitcom Happy Days. To “jump the shark” is an expression taken from an exciting scenario where “the Fonz” hopped on some water skis and jumped a shark contained in a large pen in an attempt to show his affection for his girlfriend. Of course he made it because it was TV. But in investing, we don’t risk-manage portfolios on TV. Our portfolios are real and in real-time. The big picture takeaway is that we are in the investment season of winter. This investment climate has very particular characteristics for portfolio construction and performance. 

“But Paul, it’s too late to sell,” is a common response I get about this time. The short answer is that it is never too late to sell because in “real life” we never know how far down an investment can go. We are trend followers, not fortune tellers. The caveat to my “it’s never too late to sell” statement is that before you take action, you must have a pre-thought out plan for under what conditions would you re-invest your proceeds. In my mind if one is saying they cannot sell because they wouldn’t know when to get back in, they are setting themselves up for a lot of financial pain. A large part and possibly the very first part of an investment strategy should be defining one’s edge. An edge is simply a higher probability of one thing happening over another. And, over the course of many opportunities, one’s edge should generate acceptable results. 

From my perspective one needs to clearly identify all of the parts to an investment strategy. This would include; what to buy (or avoid), when to buy, when to sell (90% of your success in those three words), and what to do with the proceeds. Each investment climate dictates at least a review, but most likely a reconfiguring of your portfolio assets. You wouldn’t go to the beach in August wearing a down jacket with wool pants would you? Today, this is the equivalent to owning bubble-cap tech and story stocks with no cash-flows in your portfolio right now. If you do, you are totally out of touch with the season. “Loving the company” and “they’re not going to go out of business” are not reasons to hold onto such stocks. The only good stocks are the ones that go up in price, the rest are bad!

We are headed into a very interesting time right now. In two weeks (March 16th) the Fed (Fonzi) is going to embark on, in my opinion, a huge policy mistake. (You see how I tied this whole thing back to the title) The Fed is Fonzi and Fonzi doesn’t make it in real life. The cool thing about the capital markets is that if one is aware, you can proactively do something about it. My concern is that the current positioning of the market is expecting a massive rebound in stocks once there is a resolution to the Russian/Ukraine conflict. Even if there is some kind of resolution shortly, we still have to deal with the fundamentals of a slowing economy, slowing corporate profits, and declining inflation. The driver of long-term movements in security prices is the business cycle, not random macroeconomic or geo-political events.

Have a blessed day!

P. Franklin, Jr., CEO

Franklin Trend Investment Management, LLC

The 7 P's of The British Army

“Proper Planning and Preparation Prevents Piss Poor Performance” is the guidance, while humorous, to increase our chances to experience favorable outcomes. In investing, there are economic guideposts to point us in the general direction to “what” we should be planning for. Asset pricing (the change in price of assets) then begins to anticipate or handicap the most likely economic result. This is precisely why we trend-follow. Last, we utilize clarity to remain open to the possibilities, but also to remain steadfast in our conviction. Our goal is to use data and eliminate noise, emotions, and narratives. Wall Street is full of Pinocchio’s, so we need to carry a hacksaw!

Like any good son of a carpenter, you would never show up to a job site with just a hammer. In investing, we never show up with just one indicator/data point to base our decision-making. We also never rely on how we are feeling either. For the sake of time and to try to understand why I do what I do (assuming I’m not just a cure for your insomnia), I am only highlighting one reference to a mosaic of other stuff.

I hope I’ve already made it clear from earlier posts that the data is showing that the highest probability moving forward will be a slowdown in both the economy and inflation. I believe that Wall Street is completely wrong on this and misguiding their clients. It is my job to correctly read the field and help to facilitate the transfer of wealth from their client’s accounts into my client’s accounts. Sorry, this is a meritocracy and not everyone gets a trophy.

The graph above charts the comparison of non-investment grade bonds (crap paper) to treasuries. You can research the exact make-up, but this essentially reflects how the capital market’s feel about risk. If there is an appetite for risk and the economy is strong (default risk is low), then the line in the graph will be declining or simply low. If the market is beginning to re-price risk higher (prices go down), then the line begins to slope upward. It has been my experience that anything north of five is stressful to the credit markets. You can take my word for it (or you can go back and look at the time periods I’ve marked in red), but these stresses flow into the stock market. During the times on the graph when high yield spreads were widening, stocks either declined a lot or experienced much volatility with no real upward progress. I don’t know about you, but either one of those scenarios doesn’t sound like fun.

So what do we do now? Portfolios should already be proactively prepared (you see what I did there?) for peak inflation and for corporate profits to slow. We are watching for indicators like the one above, to signal that the market is beginning to re-price risk. This re-pricing tends to happen slowly then all at once. So you kinda have to be there first because if you are not early, you’re late. We are also watching assets like U.S. dollar, conservative bonds, gold, and low volatility stocks (utilities, consumer staples, REITs) to show outperformance. These will be our green-light, confirmations that we are on the right path. The CPI number will be released tomorrow and it will most likely support the inflationary drumbeat of Wall Street. It will be interesting, however, to see what interest rates actually do after that report. Will they signal the top?

Have a blessed day!!

P. Franklin, Jr., CEO

Franklin Trend Investment Management, LLC

Say it with me...We are in Winter...We are in Winter...We are in Winter

Just imagine for a moment if Einstein spent his life contemplating the valuation of things. I’m kind of joking, but also serious. Really think about that for a minute. Instead of coming up with the Theory of Relativity, what if he spent his precious time on earth contemplating valuation. It’s difficult to speculate what would have come of such deep thinking, but I will tell you for certainty no one would know the name Albert Einstein if that was his devotion.

Assets are priced, by in large, in relation to something else. In a world of alternatives, choice matters. To the highly paid analyst or asset manager, “valuation” is a overwhelming part of their investment philosophy. Such dogma can be a major handicap to results. This idea that someone is willing to pay $180 million for a Picasso painting is lost on those who simply say, “but it only costs $50 for the canvas and some paints.” Sure, the pricing of assets have several drivers, but a big ingredient is relativity. It is always a necessary consideration.

By now I hope it is clear that asset prices are screaming at us that Winter has come fast and furious, but also more subtly, and that it could be with us for some time. As you know a big part of my investment philosophy is using rate of change of economic growth and inflation. I use the association of winter because it symbolizes the end or dying of the cycle. A winter investment climate is synonymous with deflation. I fully understand that as of today, all you read about and frankly only see is inflation. I’m not going to argue that. The thing is that successful investing involves being right about the future.

So let’s just go with the concept that we’re in a Winter investment environment. It may turn out to be mild deflation (or dis-inflation) or it could become a horrific recession and the bursting of every asset-bubble known to mankind. And this is where the true inspiration comes for writing this missive (Thanks C.M. - and you see what I did there I got you both covered!) I was speaking with a wonderful client this week and, as many of you do, send me articles about various financial matters - topics that have caught your eye. This particular article was well reasoned with lots of known facts highlighting the many excesses in U.S. financial conditions. Fast-forward to his conclusion is that stocks will crash and/or will see zero returns for the next decade.

Not knowing is okay. In fact, it is probably the most profitable attitude to take. Not knowing keeps one open to possibilities. I don’t know if an elk is going to pop out on the road at mile-marker 57 and I’ll have to swerve, slam on the breaks, and end up with my car in the ditch. “The ditch” or massive capital loss is a known we don’t have to know. What we have to know is that the road is covered in snow and we need to adjust our speed (risks in the portfolio) IN CASE an elk pops out on the road. We play the game that is in front of us. We invest and drive adjusting to the conditions that are visible - no guessing. The problem with investing is that the general public have been told (sold) ideas by Wall Street and their peeps that can be hazardous to one’s wealth (Perma-bull, fully allocated pie-chart portfolios).

Every winter investment climate does not have to be met with massive capital loss. Although it is equally import to point out that we do not experience massive capital loss during the investment season of summer. It is not a coincidence that many negative geo-political and “black swan” events oddly occur during winter. Bad things tend to happen when the rate-of-change in the economy turns decelerates.

As far as capital deployment, we will be taking up our allocations to long-dated treasuries and reducing exposures to corporate credit. Almost all commodity exposures have already be eliminated. I’ve begun to make some small purchases in gold. It has not really moved much yet, but the is large upside here IF that elk pops out. As far as stock sectors, risks have been significantly reduced by selling out of technology, consumer discretionary, and energy holdings. I like our healthcare names, and will be looking to selectively add into traditional defensive names such as utilities and consumer defensive. This cycle will play itself out in due time. The data will tell us when to take on more risk, but we are definitely not there yet.

Have a blessed day!

P. Franklin, Jr., CEO

Franklin Trend Investment Management, LLC

Is The Inflation Cycle Over? The ROC says YES!

Now that every major Wall Street bank and brokerage firm is out there selling you inflation ideas, it is time for you to be thinking about doing the opposite. Based on my research, inflation has PEAKED or is at least peaking. Instead of looking at protecting your portfolio against inflation, I’d suggest you begin to look for ideas to profit from a dis-inflationary environment. The rate-of-change on the forward outlook on both U.S. inflation and economic growth is LOWER not HIGHER. In my opinion, Wall Street and their legions of sales people are presenting the exact opposite of what I am seeing. Lower inflation and growth is the hallmark of a WINTER investment climate (see my writings on the FOUR SEASONS INVESTMENT approach). This fundamental data is now being corroborated by what we are seeing in securities prices. Cyclical and other economically sensitive holdings (specifically garbage story stocks with little to no cashflows) should be benched and interest rate sensitive securities like bonds, utilities, REITS, and consumer staples are ideas you should be looking to build positions in.

There are times in the business cycle to be offensive and there are times to be defensive. Every cycle does not perform the same, so there is some nuance here. This is why price trend following is so important. Trend following definitely helps to stay on the right side of your fundamental ideas. Quit thinking in “terms” like long-term or short-term. These are undefinable, sales language used to market to individual investors. The most successful investors that I know think in terms of cycles and rate-of-change mathematics.

The idea that the FED is embarking on an interest rate hiking spree is, well, a very-low probability. We are heading into an inflation and economic slowdown and the idea that the FED is going to RAISE rates into that fundamental backdrop would be very damaging to both the economy and risk assets. I would not be surprised if the FED does try to raise rates at the next FOMC meeting in January or in March, but if the FED does that, markets will most likely respond quite negatively and it is more probable that they embark on a rate CUTTING spree. The irony in all of this is that IF the FED looks to raise interest rates, THEN there is a high probability that the long-end of the yield curve would actually see interest rates FALL. Go figure.

Have a blessed day!

P. Franklin, Jr., CEO

Franklin Trend Investment Management, LLC

Know What You Own

Let's have a real conversation.

When we are talking about bonds, we are talking about a contract. This contract creates a security. This security becomes a liability on the issuer's balance sheet and an asset on the investor’s balance sheet or brokerage statement. Cool?

After issuance the price and yield of the bond will change based on several factors. For today's purpose it is important to know that the price of the bond and the yield of the bond interact like a teeter-totter. The price of the bond and the interest rate of the bond are on opposite sides. So when yields are rising, the price is declining.

When an issuer’s ability to make interest payments or payoff the debt is impaired, the bond will fall in price and the yield will go higher. Market participants, who actually do research, will sell in anticipation long before any defaults actually take place. This is possibly what is happening today in the picture above.

So why am I talking about this now? Well timing is everything. With 99% of all business media focused on the stock market, I thought it is important to remind everyone of what owning a stock certificate actually means. Think of stocks like the youngest child in a family of eight kids. You get the scraps. So when you think of the capital structure of a business and who gets first dibs on the cash flow - it is the bond holder. After all of the other business expenses and interest are paid, the stock holder has any claim on what is left. This is why when the business cycle slows, cash flows decline, and the old saying, “only when the tide goes out do you get to see who is swimming naked” comes to play.

The business cycle hit a brick wall and it is far too soon to know with any kind of accuracy what the range of outcomes might be. I’ve never invested during a pandemic - have you? The most prudent course is to observe how assets are being priced. Right now, I am seeing yields in certain countries in Europe increasing relative to other countries. This is telling me the stresses in the system are increasing not decreasing. So if entire countries begin to default, if municipalities begin to default, and if companies begin to default on their debt, do you not think this will have a negative affect on stock prices? If you begin to see the big kids at the table going hungry, what do you do?

Best,

P. Franklin, Jr.

FOMO and COVID-19

“Clowns to the left of me, jokers to the right, here I am, stuck in the middle with you.” - Stealers Wheel

I can feel the FOMO. I get it. But once the economy emerges post COVID-19, we still need to accept the cycle. While it is possible, it is not probable that the stock market goes back to business as usual. While it seems that most are either in the camp of this is going to be the Great Depression times two, or the camp of when we turn the lights on there is some mythical "pent-up" demand that drives everything forward. It is a bias we are all predisposed to amped by a narrative to reconfirm your bias. Think of it like a snake that is eating it's own tail. This is why I use data, not Wall Street Pinocchios.

The stock market eventually responds to the business cycle. The business cycle slowdown was well underway before the China virus. And pssst... here is another secret... (said in a hushed tone) all those tech names you've been buying all the way up pre-virus, will bleed your portfolio dry during this down cycle. The attached graphic of the 2000-2002 tech bubble is a reminder of how things can play out. Be prepared for the range of potential outcomes. Do you NEED stocks to go up to reach your financial goals? If so, we need to talk.

My Investment Journal Thoughts

I've been spending a lot of time going through my old investment journals - in fact, now a couple decades of journals.

I've been finding some gems that I'd like to share and I hope that it will help some of you.

From my journal:

Q: Why are most individuals so bad at investing?

A: It is important to separate investing into two components- Analysis and Execution. Analysis is really just observation. Generally your brain is in a relaxed state. However, execution is a function of action. Action requires one to behave in a certain way. When we are required to behave in a certain way our mind gets messy very quickly. Ones ego (over/under confidence) or internal issues (daddy never thought I was good enough, etc.) lodge a large barrier to our pursuit of personal wealth and freedom.

Analysis alone will not put a dime into your brokerage account. Successful execution is the only way to make money. Successful investing is about successful behavior modification and management! The Greek adage, "know thyself" comes to mind.

Portfolio Approaches

It is my sincere hope that the latest decline in your soon to be printed brokerage statement, will make you reconsider or rethink what you are doing with your hard-earned money. To increase your wealth in the markets, your perspective should be to make a decent gain versus what you risk! You want to repeat that process over and over as many times as humanly possible. Making money is not about achieving the "high price." Making money is not about owning household or familiar companies. When you begin to re-think your investments just like any other business, I believe the light bulb will go off and great things can happen for your net wealth. Your portfolio should be treated like any other kind of business - a grocery store or a car dealership, for example. You are simply taking on inventory into your account at one price and you expect to sell to someone else at a higher price. The difference is YOUR profit margin. High turnover should correspond to lower profit margins and low turnover should correspond to high profit margins. Either approach works well.

Patience

Something to think about this weekend - patience. Jesse Livermore was one of the greatest short sellers of all time. I think by 1933 he had become the 10th wealthiest person in the US. He had a saying that about how his "sitting" that made him his fortune and not his "thinking." He was also essentially a trend follower and I've leaned a lot studying his methods during the early 1900s.

In finance, there is a time to be patient and a time to be intentionally impatient. When conditions change, you need to change. I've studied many successful investors over the years and they all have one thing in common - they could change their minds. They were all comfortable not knowing the future.

In an up-trending market, one should be patient with gains and allow for the natural "wiggles" to increase exposure to what is working. In a down-trending market, one should do the opposite. One should be quite impatient with losses and use the "wiggles" to reduce risk. Your attitude toward risk is to sell into the "highs" and hold large portions of your portfolio in cash. The devastation to one's portfolio is rooted in the emotion of hope. Pride is another attitude to throw in the garbage! Eliminate hope and pride from your investment vernacular and input math. hashtag#learnitforward

What is Your North Star in Investing?

What is your north star in investing? Do you have one? I'll give you a hint as to what is NOT part of my north star. There are zero political bailout packages, global viruses, or smart, well dressed former central bankers as inputs to my process. I'm not a tourist snapping pictures at every headline that comes by. I'm also not inherently bullish on any financial asset.

I don't need (or pray, I am Catholic) stocks to go up to make money. I am not biased that way. The duration of the downside of the cycle, historically, is a range of 18 to 36 months. If you think in 6 weeks time that the stock market is going to back to new highs, history is not on your side. People have yet to get fired. People need time to adjust. Businesses need time to adjust. Buying into bear market rallies can be equally devastating to your financial and mental capital. You need to protect both! Spend more time understanding history and less time focused on headlines which only serve to distract you. Wall Street consensus wrapped in convoluted economic theory will get you to buy, but for some weird reason is absent of selling.

Investor Psychology

Investor psychology plays a large part in the pricing of assets - not just stocks and bonds - but assets in general. Stocks are priced much like art work. Mid-2019, a Claude Monet painting sold for a record amount of $110 million. Why? The cost of the paint and canvas is like, maybe $40. So perceived value and confidence makes up most of the price.

Stock prices move based on two things: anticipation and surprise. The stock price is not the company. A company may not go out of business, but you could lose 90% of your value for example. We are in a margin call market. Selling begets more selling in this environment. The image below is not perfect, but will give you a general road map of how the investment cycle plays out. My interpretation is that we are in the denial phase. I suspect that many who look at this will not believe me. The next rally should be a bull trap. If that does not hold, then we could begin the fear & capitulation phase.

Planning for the worst and hoping for the best is a more prudent approach than simply hoping for the best. As investors we carry around so much baggage. The rapid drop in the stock market has happened. The question to you is; what are you going to do today to deal with this new reality?

Losses and Gains

There is a non-linear relationship between losses and gains. It is just math. It has nothing to do with wonderful products and services. It has nothing to do with hardworking CEO's. The math is the math. The sooner you realize the mathematical importance of protecting capital, the better your investment results will become. Once your losses exceed a certain level (about 10%), your gains have to exceed your losses to get back to even, e.g. to recover from a 25% loss, a 33% gain is necessary and to recover from a 50% loss, a 100% gain is necessary to recover.

I am showing Boeing (BA) as an example below. I have no interest in Boeing. I am not long or short the stock. It is just an example. BA peaked at $446/share and currently trades about $112. It is a big cap, well know, and liquid company. It is now trading at 75% loss from the high. To recover from this this down move, BA would have to appreciate 300%. While anything is possible, this occurrence has about a 0% probability. This is how capital is destroyed for ever. Have investing rules to protect and grow your capital. 75% of the time, historically, stocks and stock markets are either going down or recovering from going down. You are hurting your results if you do not have a robust sell discipline!

History Rhymes vs. Nursery Rhymes

Nursery Rhymes are a function for what? As a parent of four children I can attest that when the kids were much younger, those little jingles were an important part of our nightly routine of lulling them to sleep. Now back to me, where the constant chatter around the Fed easing rates is more of a siren song about the potential danger to exposing one’s portfolio to too much risk, however as US stock indices levitate ever higher, to the vast majority of participants the rise in stock prices appears to be a nursery rhyme. Investing is a sport in probabilities. There are no certainties. Randomness and irrationality play a large part in securities pricing. So does luck. Pretending that only fundamentals matter more than psychology is a big mistake. Similarly, parroting some random market-socialist theories in Money magazine that “you can’t time the market,” so you should just buy and hold some index fund is probably a worse mistake. In my mind, successful investing is about situational awareness. Sometimes it is “three yards and a cloud of dust,” and other times you “air it out” into the end zone. The point is, that as a financial quarterback, it is my job to read the defense and to run plays that have the highest chance to advance the ball down the field. Let’s take a look at how I am currently reading the defense. Oh, and punting is an important part to the game of investing!

Anyone who has run a business or even raised kids should relate to the cartoon above. A couple of popular quotes come to mind, but I think the quote that is most germane comes from the investment guru Mike Tyson. Yes, the boxer. He stated that “everyone has a plan…until they get punched in the face.” Now your traditional Humongous Bank and Brokerage (HBB) sales person is notoriously bullish all the time. It is always a good time to invest because their job is to raise assets. There is always a product that is promoted that captures the essence of sentiment to get you to buy something. It has two buns; one baked with vague statements about valuation with the other bun baked with something about consensus packed in the middle with endless talk of strategy based on convoluted theories that seldom hold up in practice. Somehow eating this sandwich leaves me empty inside and most likely your brokerage statement too.

The key to keeping our portfolios to resemble the “plan” (albeit impossible to do) and a lot less like everyone else’s “reality” is to take a mosaic approach to risk by measuring the relationship of both fundamentals and price. Franklin Trend Management uses a three pronged approach when reviewing data. We first view the current landscape through the prism of history, not consensus. You’ll never make out-sized returns by investing with consensus. By the very nature of success your portfolio has took look different than what everyone else is doing at the cycle turn or whatever HBB sandwich they are serving for lunch that day. We like math. Our second leg involves math. Not crazy math, but the figures need to add up and make sense. The last leg is built around investor behavior. Psychology plays one of the biggest parts of your investment success. Do you have an investment discipline based on history and math? Do you have the emotional tolerance to “zig” when everyone else is screaming you need to “zag.” Especially when your idiot brother-in-law is “zagging” and you see all the money he is making. Can you steadfastly “zig?” This is what I will try to get you to think about throughout this missive.

The economy is cyclical. To most people this is kind of a “duh” statement. But when I talk to individual investors, it becomes apparent that while most acknowledge cyclicality, they still don’t truly believe that a cyclic downturn would negatively affect their net worth. Or that somehow cycle downturns come out of left field, so what is the point of evening trying to monitor? Or worse, they actually think their “advisor” is doing this for them. I can say with first hand experience, after working in two of the largest brokerage firms in the county, that would be a very bad assumption that your advisor is measuring and mapping the global data daily to protect your account in the case a financial downturn. The economy does not operate like how I hit 300 yard drives down the middle of the fairway. Now that comes out of left field! The truth is that the economy can be measured and monitored. If one takes a probabilistic approach to data and outcomes, many would experience brokerage account statements that look more like the “plan” and less of the “reality.”

Stock prices are driven by two things: the anticipation of earnings and the surprise of earnings. Long-term growth of a company’s market capitalization is driven by long-term earnings growth. If we refer back to the chart above, one can see that there is a high degree (not perfect) of correlation of the rate of change in S&P 500 earnings and the rate of change in industrial production. You can then use this relationship to identify the certain sections of the stock market or other asset classes with the greatest probability of success.

Above is a graph that monitors the global Purchasing Managers Indexes (PMIs). What is this and why do professional risk managers care about it? The PMI data are the result of surveying over 26,000 purchasing mangers on a monthly basis about the health of business. It is one of several good leading indicators about the future of economic conditions. Just to get on the same page, an upward sloping line is good and a downward sloping line is bad. When the line is above 50 that is good and below 50 is bad.

This graphic illustrates that the global economy peaked in the first quarter of 2018 (we can compare this to the EAFE index at the end) and has been decelerating ever since. Over time, assets get priced on the basis of fundamentals getting better or getting worse. Assets don’t get priced on that every day, but over a reasonable period of time (6 to 18 months) price will reflect that “better or worse” data. If price will eventually respond positively or negatively to the rate of change in fundamental business conditions, i.e. industrial production, PMIs, etc., then how do you think prudent risk managers should be acting right now? Maybe revisit the “plan” vs. “reality” cartoon for some guidance if you are unsure.

One of the most important lessons I’ve learned over the years is to never use a single source when drawing conclusions. It usually benefits me to take a more mosaic approach to decision making. The whole market can stay irrational longer than you can stay solvent thing comes to mind. It is my playbook to make investment decisions when both the fundamental data and the price are aligned.

The problem with a lot of what I hear about “investing” is totally wrong. It is like that game when you all get in a circle and one person whispers one thing to another and that person attempts to whisper what they were just told to the next and so on and so on. Inevitably, by the time that last person repeats to the group what the first person said, the statement may contain an original word or two, but the bulk of the phrase is completely wrong. That is a lot of what “investing” is. Most people “remember” the stock market peaked in 1999 and crashed in 2000. If we look at the graph of the “stock market” above, you will see that the peak was in March of 2000, moved trend-less for most of 2000 with a re-test of the high in September of 2000. Stock prices then began to anticipate poor economic conditions we were facing in late 2001 and 2002. I would say this was a pretty garden variety type of move. This is the real history. I was there. I was running money during the run-up in the late 90’s and subsequent slowdown in the early 2000’s.

Now let’s reference the same index from our 2000 - 2001 example and compare this to today. We had an initial top in January 2018 and subsequent double top in October 2018. The stock prices began to discount the future slowdown in economic growth with a significant decline in October through December. But then a funny thing happened - the market did an about face on the mere hint of the Fed pausing its rate hiking stance. Again, stocks prices move in either the anticipation of or the surprise of earnings growth. Long-term, positive changes in stock prices are not backed by the jawboning of the price of money. It is hard to make a case for robust corporate profits. A persistent rise in the US dollar and wages will undoubtedly put pressure on corporate margins. Companies can only make up the deficit in contracting margins by selling more stuff to increase net income. With the rate of change in GDP decelerating, again, it is really hard to make the case for selling more stuff. So we are at odds - right? We fail our two-part test. Prices look positive (hint: they always do at tops) but our fundamental data is deteriorating. So we wait. We wait for one of two things to happen. Either the fundamental data begins to show improvement, which would signal we would be in the early innings of a new bull run and we can then begin buying risk assets. Or price begins to decline meaningfully and our existing defensive positions improve and we begin to selectively add into risk averse assets as most other’s experience “the reality” whereby we should experience something that resembles “the plan.”

Our last graph is what the “real world” looks like. This is an image of the price history of the Europe, Australasia, and Far East (EAFE) stocks. It is designed to measure what equity prices are doing around the world. I’d characterize the price action of the EAFE resembling typical stock market behavior when compared to 2000-2001 economic conditions. Granted, there is the same topping action in January 2018, but no double top later in the year. Remember, history rhymes, it never repeats exactly. What we do know is that the EAFE is behaving in concert with the Global PMI data presented earlier. At best, one can only say that this is a rally in a downtrend. I hope that even someone without “trend management” in their name can see this! What do astute investors do in a rally in a down trend with deteriorating fundamental data? Yup. You sell into the rally. Until the rate of change in the fundamental data begins to show acceleration, price rallies will most likely be sold into or shorted.

To wrap this up, we have an investment game plan. Traditional financial planners present this like our bike riding cartoon person at the begging of this missive. HBB sales people and planner’s main selling pitch to customers is to focus on the end game and forget about everything in the middle. I know this because I heard it from people in my industry for 25 years. Here’s a little clue to life and investing, IT’S NOT THE DESTINATION THAT COUNTS! THE JOURNEY IS WHAT MATTERS MOST. If you “f-up” the journey, the destination doesn’t matter. You’ll never get there - no matter how many pie charts or Monte Carlo analysis presentations you see. Now my journey doesn’t involve 8% to 10% returns over time, while subjecting my hard-eared capital to 50% - 70% draw downs in my account. You’re not putting the risk-reward relationship in your favor. The key to successful investing is to capitalize on this. It requires one to THINK! From my perch, equity investors have little edge right now. Unless the fundamental data does a complete u-turn, equity indexes like the S&P 500 are subject to significant (and swift) drops. Do I know for a fact that this is going to happen? No. It is a high probability that it happens. In Texas Hold’em poker, a pair of Aces (the highest hand you can begin with), will still lose 20% of the time. Patience in missing out on some of the upside is an important part of the successful investing. You’re being patient for the mismatch in data and price to reconcile one direction or another. Remember it is the second mouse that gets the cheese!

Looking three times before crossing the road,

P. Franklin, Jr., CEO

All opinions and estimates included in this communication constitute the author’s judgment as of the date of this report and are subject to change without notice. This communication is for informational purposes only. It is not intended as an offer or solicitation with respect to the purchase or sale of any security. This information is subject to change at any time, based on market and other conditions. Any forward looking statements are just opinions – not a statement of fact.

Investing may involve risk including loss of principal. Investment returns, particularly over shorter time periods are highly dependent on trends in the various investment markets. Past performance does not guarantee future results.

Prepare for Negative Earnings Surprises

Earnings are the lifeblood for long-term stock price appreciation. Over time, there is nearly 100% correlation with positive earnings growth and positive stock prices. If we look at earnings today versus where stock prices are today, it paints an interesting picture.

In the graph above, FactSet reports that so far for the upcoming Q2 corporate confessional (earnings season), that the number of S&P 500 companies pre-announcing negative EPS guidance is the second highest since 2006. For clients and regular readers of this blog, this should come as no surprise. Over the past several months I’ve been writing and speaking about how the economy, inflation, and corporate profits peaked in the 3rd Quarter of last year. I’ve also been writing specifically about a corporate profits recession for 2019.

Yet, the media is blaring its trumpets about all time highs in stock prices, so how do we reconcile? We reconcile this disconnect in several ways. One, from a calendar perspective (days, weeks, months, etc.) the “stock market” advance is quite long in the tooth. The probability of a meaningful advance from here is low. Two, from a cycle perspective, there is always some kind of lag between economic gravity and hope. It is clear that economic gravity is pulling most fundamental data lower, but the hope is that somehow the Fed or a trade deal will save the day. Spoiler alert: It won’t. Three, it is important that when we generalize the “stock market” that it is truly a “market of stocks” not a unified “stock market.” What I mean by this is that there are many sectors in the economy and not all of them preform in unison. Some sectors do great, while others do poorly. Like going to the supermarket, a spike in the price of meat doesn’t mean that price of doughnuts will also rise. Four, if all you are doing is looking at a single factor (price) as your basis for investing decisions, eventually you’ll inflict serious financial damage unto yourself.

If we believe there is a bull market somewhere, it is my job to find it. It is also as important to know what to avoid! So back to our trusty data crunchers over at FactSet, we see that they’ve broken down the S&P 500 companies that have have pre-announces negative EPS guidance by sector. FactSet has also included a 5-year comparison to help guide which sectors are better or worse.

For my playbook, given where we are in the economic cycle, inflation cycle, and profit cycle, it is important to stick with what has been working. Assets that tend to benefit from a declining yield environment should do well. You can think bonds, REITs, utilities, and gold. You’d want to avoid most anything technology, consumer discretionary, energy, and materials. The US dollar probably struggles going forward.

I’ll close out this post with a word of caution. If your playbook is to be long risk assets because of the hope of China trade deal or the Fed is going to lower rates in July or the chart looks good (sigh), I’d want to be on the opposite side of your positions. Meaning if you want to buy risk, I’d be happy to sell risk to you. Remember, to make money you need to first sell high and then buy low. It is true that after a Fed rate cut the short-term effect (a week or two) will be bullish for risk assets, but given were we are in the cycle, history will not be kind to your portfolio 3 to 6 months out. If you just take a step back and think about why the Fed feels the need to cut rates in the first place, your may come away with a different perspective on whether you’d be a buyer or a seller!

Hang on to your hats!

P. Franklin, Jr., CEO

All opinions and estimates included in this communication constitute the author’s judgment as of the date of this report and are subject to change without notice. This communication is for informational purposes only. It is not intended as an offer or solicitation with respect to the purchase or sale of any security. This information is subject to change at any time, based on market and other conditions. Any forward looking statements are just opinions – not a statement of fact.

Investing may involve risk including loss of principal. Investment returns, particularly over shorter time periods are highly dependent on trends in the various investment markets. Past performance does not guarantee future results.

Why Calling The Turning Is So Emotionally Hard

My claim or my “value-add” to my client relationships is not some sales B.S. that I can call tops or bottoms in asset classes. Far from it. In fact, I generally take an “I’d rather be late and right, than early and wrong” approach to my timing decisions. I do want to be clear, the data overwhelmingly suggests the markets are late in the topping process for risk assets. Even though it is late, now is the time to prepare because if the data really begins to slow, risk assets could significantly fall.

So why is calling turning points so emotionally hard to do? There are many reasons, but two primary ones come to mind. First, most people have bias that create blind spots to the turn. The chief, most widely publicized, is recency bias. Just like it sounds, it is where one takes the most recent past and projects that into the future. This creates an expectation. When the actual results contradict the expectation, the person does what? They look for information that confirms the expectation and will completely ignore data that would naturally lead to a change in course. By now, the person has anchored their decision making to the cost basis or the amount of capital contributed to the investment and will refuse to respond to the incoming data until their account reflects the original expectation. This negative feedback loop continues until the emotional pain is too great and are forced to liquidate. The two primary fears in this scenario are fear of being wrong and fear of loss. The exact opposite takes place when one has achieved great gains. Fear of missing out and fear of leaving money on the table over-take all other reasonable capital preservation decision making. I can write about this so effortlessly because I’ve experienced them all - many times.

The second problem with call turning points is more of an industry (or systemic) issue. The individual bias are challenged, but with personal work can be conquered. The second problem is more difficult. Humongous bank and brokerage is not compensated to issue caution. There is no vested interest. The media has no vested interest in stories of caution or conservatism, because a sizable amount of their revenue comes from humongous bank and brokerage. While I no longer have a front row seat in any big Wall Street firms, my information suggests that all asset programs are driven by compliance - not independent thought.

There is zero intellectual curiosity. The “advisors” or sales people continue to beat the drum of what brings in the most revenue to the organization- not to your brokerage account. They continue to speak gobbledygook about how you can’t time the market, buy and hold, invest for the long-term, asset allocation, blah, blah, blah. And when the bear market strikes, they don’t have to accept responsibility. “Well, the market went down,” they’ll say. It’s not their fault. No one could see that coming. It is cancerous bias to always buy and never sell. The main question is… where does this “fantasy” money come from to keep buying lower if you didn’t sell higher? If a manager under performs, you just change the manager. The advisor still keeps your fees. The advisor never accepts responsibility for the poor results, they again point the finger to… the manager.

Calling turns, both up and down, takes career risk. But- I’m in the risk management business. This is what I get up early every morning to do. I’ve been managing risks for clients for over 20 years. I fully own this and make no excuses. I make a lot of mistakes. I record those mistakes and move on. There is no perfection when dealing with the future. The most typical question I get from prospective clients is, “well that sounds great Paul, but how do you know when to get back in?” and I can hardly blame them in asking such a question. With “advice” today, you either get the perma-bull, which is most every humongous bank and brokerage firm and advisor because you don’t have to think or take responsibility for your actions. They get to continue to pitch you product 365 days every year.

Or, you get the perma-bear, bloviating fear like a broken clock is only right once every 10 years. You never see the same person who calls the turn and the top, subsequently call the turn at the bottom. The perma-bear is always right at the top (accept you’ve made no money for 10 years listening to him, but he’ll later write a book about calling the top) and the perma-bull is always right at the bottom (accept you’ve lost the majority of your money by then, but he’ll site some obscure comment he made in passing about being “cautiously optimistic” to feed the self-righteousness).

Humongous bank and brokerage doesn’t deal in facts you see. To answer the question about when you get back in? You get back in when the data (aka the facts) dictate that you get back in. I’ve spent a great deal of my professional life behind the curtain. Pretty much every humongous bank and brokerage model is centered around consensus. When you begin with consensus you are devoid of, (again) intellectual curiosity and financial puzzle solving. You then lather on top of consensus a big, thick dose of “valuation” and “economic theory” and it is no wonder why customers are so confused. This is all opinion based. When you begin and end with facts it makes the process definable and repeatable… and accountable- something humongous bank and brokerage will never do. At least with facts, I know when I am wrong. Wall Street will simply come up with new spin to justify the original opinion.

It’s the cycle. It has always been the cycle. It will always be the cycle. To think in terms of cycles, you have to acknowledged some bending or curvature of the data- right? Global data has been slowing since the beginning of 2018. US economic data peaked in the third quarter of 2018. It is now the middle of 2019. I’ve come up with a straightforward way for individual investors to understand cycles- called Four Seasons Cycle Investing. It is a play on the actual four seasons to identify turning points in the economy. It is data driven. It is not my opinion. It is a road map to anticipate the most likely future scenario. Is it perfect? No. Is it fool proof? No. But what I can speak to is how well this process stacks up to what millions of individuals receive as “financial guidance” from humongous bank and brokerage sale people and those useless plans handed out by the thousands of financial planners out there. The Four Seasons Cycle Investing approach is repeatable and fact based. This approach can be both bullish when the cycle indicates and bearish when it is prudent to do so. And if you can’t tell by now… I’m going out on a limb to say, here in the middle of June 2019, even the bear’s portfolios aren’t bearish enough.

Financially Prepared Winter!

P. Franklin, Jr., CEO

All opinions and estimates included in this communication constitute the author’s judgment as of the date of this report and are subject to change without notice. This communication is for informational purposes only. It is not intended as an offer or solicitation with respect to the purchase or sale of any security. This information is subject to change at any time, based on market and other conditions. Any forward looking statements are just opinions – not a statement of fact.

Investing may involve risk including loss of principal. Investment returns, particularly over shorter time periods are highly dependent on trends in the various investment markets. Past performance does not guarantee future results.

Factor Exposure is Key When Managing Risk

Earnings growth will drive share prices over time. So, even if you wildly over-paid for stocks in 1999 (which I am not support of that idea), earnings growth eventually bailed you out. If you look at a few of the bad boys from that era, like Microsoft (MSFT), Cisco (CSCO), or Walmart (WMT), you’ll find some patterns. Let’s take a look.

So we are just going to skip right past my kindergarten quality mark-ups - okay? If we look at the orange line as an estimate of business value and the black line as the monthly closing price for this business - which happen to be Microsoft - you’ll see how over-valued the share price traded relative to the earnings value of the company. It is the area marked with red squiggles. You should also notice that the EPS consistently went up from 2000 to 2008. The fact that earnings grew over this time allowed the business worth to catch up to the quoted stock price. Now the price one paid was two-fold: frustration and emotional pain had to turned over to the market gnomes.

And now, we can get into the purpose of this blog post. The graph above is a high-quality utility stock. As S&P earnings growth peaked in 2000, astute investors know to rotate the portfolio of holdings to companies that positively respond to the new business conditions. While the TV and other ignorant market talking-heads are screaming "buy the dip type of non-sense or buy and hold,” (hmmmm, these all seem to be “buy” focused) it should become very apparent that you have no process. A process should include, but is not limited to: what to buy, when to buy, when to sell, and what to do with the proceeds. A key part of you process should include factors. A factor is simply a quality or characteristic of a company or a group of companies. You can back-test or simply take notes for your future investment decisions as to what type of companies perform during what kind of economic or business conditions. One factor could be as simple as what sector of the economy the business is located.

So simply just using a factor model (which I would not recommend), you can see by rotating out of technology and into utilities would have been a good financial decision - right? Why is that? Under what business conditions favor utility stock over technology stocks? Are there business conditions where both utility stocks and technology stocks do well? The point is business conditions change over time because there is a cycle. As a professional, I monitor the business conditions so that I can manage risk. Let me repeat this; I am managing business conditions so that I won’t get run over by a bus that will back up and run over me again! While the TV pundits and wealth managers like to sell you products to make you money, true market pros always approach risk first.

Let’s finish up with our fact set data at the very top of this post. They show S&P earnings growth coming in at a -0.5%. It is a fair comment to say this is better than consensus. It is also a fair comment to say that we’ve now gone from +24% to +12% to now -0.5% growth the past three quarters. Not only that, but our comparable quarters are about to run into a brick wall. Fact set also did a nice job in breaking out a potential factor to be incorporated in our process. It shows earnings growth based on what percentage the companies revenue is US or foreign. There is a big divergence there. Big divergences can lead to out sized results for those paying attention. At a minimum, it should be a heads-up to know what percentage of one’s portfolio is comprised of businesses that derive a large percentage of their revenue outside the US. Some other company factors to consider would be levels of debt, beta, yield, and market capitalization.

Happy Returns!

P. Franklin, Jr. CEO

All opinions and estimates included in this communication constitute the author’s judgment as of the date of this report and are subject to change without notice. This communication is for informational purposes only. It is not intended as an offer or solicitation with respect to the purchase or sale of any security. This information is subject to change at any time, based on market and other conditions. Any forward looking statements are just opinions – not a statement of fact.

Investing may involve risk including loss of principal. Investment returns, particularly over shorter time periods are highly dependent on trends in the various investment markets. Past performance does not guarantee future results.