Prior to starting my company, I worked for 20 years at two of the biggest brokerage firms in the US. I’ve had the luxury of seeing, from behind the curtain if you will, many different approaches to how your money is managed. Some approaches are well thought out, but most are not. Many have no approach at all. The bulk of client money is managed by some model, most likely created by someone at the home office or “puzzle-palace” as we would affectionately refer to the corporate location. Which at face value, the model isn’t necessarily bad, but when “theory” meets capital markets “reality” you end up with the equivalent of bad hospital food for dinner. Sure… it will keep you alive, but there has to be a better way!

Most advisers simply read back to their clients what the temperature is today. Client assets are simply managed in a backward-looking approach. Most client assets are managed by taking past returns and correlations and then extrapolating those results out into the future. Yet every piece of sale literature states that past performance has no guarantee of future results right? This is true. In fact, I could go a few steps further and state that past performance has absolutely no relation to future results.

Let’s take this lazy, non-thinking approach a bit further. Your money is literally managed by the equivalent of the saying “April showers bring May flowers,” so your portfolio is going to wear a rain coat and carry an umbrella around for the month of April, and every April in the future. What if a foot of snow dumps in April, or it’s 90 degrees outside in April? But no, your adviser will simply want to re-balance your portfolio to a rain coats and umbrellas. This is the thermometer. It makes no sense. It is my experience that clients really want and expect the idea of a thermostat to be managing their funds. The all too often reality is they are dealing with a thermometer.

What if an asset is not of value, then why would you allow someone to commit your capital to the space? For example, how many client portfolios around the country are still sitting with emerging markets assets in their accounts? Or even a greater sin, adding into emerging markets? Oy vey! (I’m slapping my hand against my forehead). Emerging markets peaked at the beginning of the year and have been in an obvious downtrend since May! The thermometer has you dollar cost averaging into this space. Wrongo! Dollar cost averaging is a concept invented by Wall Street and the mutual fund industry, so they can keep collecting fees. Being wrong is fine but staying wrong is totally unacceptable.

Being a thermostat means you are thinking about value, about risk, and about the future. Managing risk puts the adviser in the position of looking stupid. I’m totally fine looking stupid from time to time if (and when) a bear market strikes, I’ve protected my client’s assets from long, protracted declines. Managing money is a risk management business. It is really the only aspect of your portfolio you can control. You cannot control how much an asset goes up, but you can control how much you will lose. But that takes a process. That takes a discipline. That takes the emotional fortitude with being okay standing outside with the birds looking in. That takes being a thermostat.

When the investment tide goes out, the way “asset allocation” is practiced will not protect you. The humongous bank and brokerage fantasy laboratory of “asset allocation” gets destroyed when real life market participants behave like real life participants. Real life decisions are situational. Real life decisions are based on the available facts. If history is your guide, then why doesn’t every protracted decline in stocks stop when interest rates go down to 3%? or 2%? Why did going to negative interest rates not work? Because is it situational. It depends on the opportunity set.

Act like a thermostat - think!

P. Franklin, Jr.

December 20, 2018

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.