HOFFMAN,
WHITE & KAELBER FINANCIAL SERVICES, LLC
Investment managers &
WEALTH Advisors
September 7, 2005
This is the September 2005 monthly Wealth Management newsletter from Hoffman, White & Kaelber Financial Services, LLC. If you do not wish to be included in our circulation, please reply indicating your desire to be removed and we will be happy to oblige. Alternatively, any of your friends or colleagues may receive this on a regular monthly basis by sending their name and email address to info@hwkfs.com. Feel free to forward this to any of your friends who may find it useful. Thanks for your interest and I hope you enjoy the letter.
What's the
best way to invest your money? In my
parent’s day, conventional wisdom was that the best investment strategies for
accumulating wealth were built on safety and security. This usually translated into a belief in
“the American Dream” – home ownership – and “squirreling” away money into
FDIC-insured passbook accounts, CDs, T-bills and other more secure
instruments. Little did they know that
I’d enjoy making finance my career.
Fast
forward to today.
Since the
beginning of this decade, real estate has garnered the attention of both
professional and amateur investors alike.
What used to be the ultimate long-term buy and hold investment, seems to
now have turned into a trader’s game.
Haven’t you heard about the latest craze – flipping condo contracts in
“hot” markets like the
But this
month’s letter is not about investing in real estate.
Last month,
together with some of my office cohorts, I went to the Money Show in
At the
show, it was interesting to see that a number of workshops and vendor exhibits
featured trading strategies – mostly day trading! What’s more, I observed that many of the day
trading workshops were well attended by handsomely groomed folks whom, the
majority of, looked like they were at or nearing retirement age!
Wikipedia.com,
the free internet encyclopedia, defines day trading as the practice of either
buying and then selling or selling then buying a stock within the same
day. On the other end of the spectrum,
the long term buy and hold practice (also known as the “buy and forget”
strategy), suggests that investors rely on the belief that in the long run the
investment will be profitable. In
certain situations, both strategies work.
But not always and not for everyone!
As readers of my newsletters well know, wealth management is
the ultimate goal of all that we do at Hoffman, White and Kaelber. Yes, we promote our services; yet, you will find that we
always seek to present thought provoking topics that are relevant to our wide
audience.
In this edition, we’ll
take a look at understanding each of these investing practices – when they
might work and when they might not.
Lastly, we will finish with a review of the economic and investing
climate for the month past, the current market outlook and our investment
performance.
Trading and
Investing Are Very Different
Every investor is
affected by some degree to trading and the cost of transacting. This refers to trading as a function rather
than one’s investment strategy. While
it is important, if not very helpful, for investors to understand the rules and
operational aspects of executing a securities trade, to make it one’s
occupation or base one’s wealth generating strategy on active trading is
another thing entirely!
The mindset
of an investor is quite different from that of a trader. An investor generally seeks to know plenty of
fundamental information about his or her investment. On the other hand, the trader uses other information
in seeking quick short-term profits with the hope of earning potentially
greater gains. This should be puzzling
to some, since the traditional concept of stock ownership is that it's shared
ownership in the prospects of a company.
Yet the trader has little use for the concept of ownership. Rather, he or she is more interested in the
short term dynamics of supply and demand and how to quickly turn a profit.
Sound
investing requires thorough fundamental analysis of a security to determine if
it is attractive or not. For example, to
increase the probability of making a good stock investment, an individual
should try to buy that stock at a good price.
In order to do that, the investor needs to determine if the current
price of the investment is attractive relative to others by studying earnings
trends, current and future business environments, interest rates, and many,
many other factors. In making the
investment, the investor is not concerned with what is going to happen to the
price of the stock the next day, because investments are longer term in nature.
Trading is
not investing; trading is more speculative.
A trader is not trying to predict what is going to happen in the next 10
years. He or she is concerned with price
fluctuations immediately after initiating a position. His or her goal is “turn a profit” as soon as
possible after the opening trade. The
term “opening trade” refers to executing a “buy” (to go long) or “sell” (to go
short) transaction after which the person has is at-risk in the market place; a
“closing trade” would be the corresponding “sell” or “buy” to end being at-risk
on a position. In order increase his or
her chances of trading successfully, a trader may study past and current price
and volume history to determine what might happen next.
A
day-trader trades within the time frame of one day, entering and exiting
positions within the day but always closing out trades by the end of the day,
win, lose or draw. To be successful, a
day-trader must have the discipline of a machine, the instincts of a fox, the
emotions of a rock, the skills of a surgeon and the patience of a saint. A little luck wouldn't hurt either.
Large
short-term profits can often entice those who are new to the market. But adopting a long-term horizon and
dismissing the "get in, get out, make a killing" mentality is a must for
any investor. This doesn't mean that
it's impossible to make money by actively trading in the short term. But, as we already mentioned, investing and
trading are very different ways of making gains from the market. Trading involves very different risks that
buy-and-hold investors don't experience.
As such, active trading requires certain specialized skills.
Neither investing style is necessarily better than the other - both have their
pros and cons. But active trading can be wrong for someone without the
appropriate time, financial resources, education and desire. And, most people just don't fit into this
category.
What an Aspiring Day Trader Should
Consider
Day-trading,
once the exclusive domain of floor traders and of the larger investment firm’s
proprietary trading desks, is now fair game for all speculators. Inspired in part by instant availability of
quotes, affordable high-powered computers and competitive on-line commissions,
the new wave of day-trading methods and systems has attracted thousands of
traders in recent years. The undeniable
thrill of trading is, however, a double-edged sword: one that can hurt as well
as heal.
Trading
successfully is by no means a simple matter.
It requires time, market knowledge and market understanding and a large
amount of self restraint. Anyone who
says you can consistently make money on every trade is not being truthful. Don't expect to generate returns on every
trade. Following that, in order to
increase your chances of making a successful trade, a trader has to take into
account technical and fundamental data and make an informed decision based on
his perception of market sentiment and market expectation.
The people
at ACM, SA, a subsidiary of REFCO Group Ltd., suggest what a trader needs to do
in order to put the best chances for profitable trades on his or her side.
Trade with money you can afford to
lose. Trading is speculative and can
result in loss, it is also exciting, exhilarating and can be addictive. The more you are 'involved with your money'
the harder it is to make a clear-headed decision.
Identify what the market is
doing. Is it trending upwards,
downwards, or in a trading range? Is the trend strong or weak, did it begin
long ago or does it look like a new trend that's forming? Getting a clear picture of the market is
important when preparing to trade.
Time your trade. You can be right about a potential market
movement but be too early or too late when you enter the trade. Timing considerations are two-fold. Timing your move means knowing what's
expected and taking into account all considerations before trading.
If in doubt, stay out. If you're unsure about a trade and find
you're hesitating, stay on the sidelines.
Trade logical transaction
sizes. In short, don't trade amounts
that can potentially wipe you out and don't put all your eggs in one basket.
What is the market’s
expectation? If people are expecting an
interest rate to rise and it does, then there usually will not be much of a
movement because the information will already have been 'discounted' by the
market. Alternatively, if the adverse
happens, markets will usually react violently.
Use what other traders use. The great diversity of opinions and
techniques used translates directly into price diversity. Traders however have
a tendency to use a limited variety of technical tools. The closer you get to
what most traders are looking at, the more precise your estimations will be.
The reason for this is simple arithmetic, larger numbers of buyers than sellers
at a certain price will move the market up from that price and vice-versa.
If you’re
going to try your hand at day trading, understand that the odds are high that
most newcomers typically suffer severe financial losses in their first months
of trading, and many never graduate to profit-making status. The US Securities and Exchange Commission
warns: “While day trading is neither illegal nor is it unethical, it can be
highly risky. Most individual investors do not have the wealth, the time,
or the temperament to make money and to sustain the devastating losses that day
trading can bring.”
Although
day trading has become somewhat of a controversial phenomenon, its prevalence
is undeniable. Day traders, both
institutional and individual, play an important role in the marketplace by
keeping the markets efficient and liquid.
Some argue that individuals should stay away from day trading, while
others argue that it is a viable means to profit. And although it is becoming increasingly
popular among inexperienced traders, it should be left primarily to those with
the time, skills and resources needed to succeed.
The
antithesis of day trading is the “buy and hold” strategy. Buy and hold is a long term investment
strategy based on the concept that, in the long run, equity markets give a good
rate of return despite periods of volatility or decline. This viewpoint also holds that market timing,
the prospect that one can enter the market on the lows and sell on the highs,
does not work or does not work for small investors so it is better to simply
buy and hold.
Just as day
trading may not work for everybody, “buy and hold” has its problems also.
What an Aspiring Buy and Hold Investor Should Consider
The
buy-and-hold is said to be the most commonly used investment strategy among
individual investors. Many choose this
method because of its simplicity – buying a stock and holding onto it, no
matter how much the price rises or falls.
Buy-and-hold investors usually sell their stocks only when they have
reached a certain goal such as making enough money for retirement, a college
fund, or a house. Investors can buy a
stock, hold onto it, and not have to worry about the right time to sell. Two additional benefits to the buy and hold
strategy are that trading commissions can be reduced and taxes can be reduced
or deferred by buying and selling less and holding longer.
The
"buy and hold" approach to investing in stocks rests upon the
assumption that in the long term (over the course of, say, 10 or more years)
stock prices will go up, but the average investor doesn't know what will happen
tomorrow. Historical data from the past
40 years supports this claim. The logic
behind the idea is that in a capitalist society the economy will keep
expanding, so profits will keep growing and both stock prices and stock
dividends will increase as a result.
There may be short term fluctuations, due to business cycles or rising
inflation, but in the long term these will be smoothed out and the market as a
whole will rise.
Market
timing is an alternative to buying and holding.
Market timers believe that it is possible to predict when the market, or
certain stocks, will rise and fall. Does
it therefore make sense to buy when the markets are low and to sell when they
are high in order to maximize profits?
Investing
is a process of making decisions today to achieve results that will not be
known until tomorrow. Because nobody can
control everything that is going to happen tomorrow, nobody knows what tomorrow
will bring. As such, most experts agree
that market timing is incredibly difficult if not downright impossible. They also warn against it because:
But, buy
and hold doesn't work for most people because most people, for one reason or
another can’t seem to stay in the game!
Here are some reasons why:
This is the
problem with Buy and Hold. It's easy to stick with when the market is rising
but impossible when the market is falling.
If you think you're different and can ride out a bear market you'd
better think again about how emotionally painful it will really be.
Despite
battling the odds of uncertainty, most money managers are practicing some form
of market timing. But the truth is that
most timers are trying to flatten out the risk and volatility in a portfolio,
and are willing to trade some returns for stability.
Concluding
Thoughts
A trader must
have the discipline to pull the trigger without wavering – whether it means
cutting a loss, snapping up a profit, or entering a new trade after the last
three trades have dealt losses. An investor must often do just the
opposite – he or she must avoid pulling the trigger just because a position is
presently showing a loss or a quick windfall profit.
Some individuals easily adopt one strategy or the other because it simply works
best for their own personality and emotional make up. As a result,
there are people who are totally immersed in the market day-to-day on an
ongoing basis. On the far end of the spectrum, there are people who
put money into mutual funds – often ones they don’t understand – and never sell
them. They just keep putting money in until they either retire or
otherwise need the money. And of course, there is everything in
between.
If you
listen to the people at one end of the spectrum or the other, they will often
tell you that theirs is “the best” way. What you must do to succeed
at investing may be completely different. The key is to determine
where you fit in.
Hoffman, White & Kaelber Financial Services Investment
Performance Update
One year
ago, crude oil prices were approximately $30 a barrel, well below the $65 to
$70 mark that they are now. US average
gasoline prices were below $2 a gallon; now they’ve exceeded $3. Natural gas prices are better than twice
where they were 12 months ago. As well,
last September, the expectation was that energy prices were peaking and that
they would slowly erode through much of 2005 and 2006. Wow!
What a difference a year makes!
Hurricane
Katrina, continuing problems in the Middle East, heavy energy purchases by
With higher prices for gasoline and heating fuels, will consumers still remain
the backbone of our growing economy?
That’s remains a big question.
Tax cuts and strong housing prices supported purchases of consumer goods
such as appliances and other furnishings.
But, current spending rates relative to household income seems
unsustainable – the latest government reports suggest that consumers are
prematurely spending down their savings.
How long can we depend on personal consumption? Will business spending pick up? Only time will tell.
For the month ended August 31, 2005, our
one-month performance is down 0.01%, our year-to-date return is up 2.75%, and
our average annualized return since inception is up 8.40%. While volatility has become exceedingly
vigorous in the equity markets, our risk profile continues further
downward to +/- 5.67%. This
conservatively low risk level remains consistent with our strategy. With our expectation that this statistic
gains increasing importance, our Sharpe Ratio is more than respectable at 1.18.
Is a comfortable retirement or preservation of wealth important to
you?
Want better long-term results from your investments?
Choose Us As Your Investment Manager!
Research us on the web at www.hwkfs.com