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By John O’Donoghue
Last Thursday, the US Dollar Index, which measures the dollar’s performance against a currency basket comprised of the Canadian Dollar, Yen, Sterling, Swiss Franc, Euro and the Swedish Kroner, reached its lowest point for a year, with the USD having lost nearly 15% of its value since the start of January. In a clear sign that investor confidence is improving ‘carry trade’ activity is increasing, it is apparent that the dollar has replaced the Yen as the preferred currency for this, a risky procedure where loans are taken in a low-interest rate currency to invest in higher yielding assets in another currency.
Further evidence of increasing risk acceptance is found in the continuing growth of stock markets over the last month, with the S&P 500 gaining 4%, NASDAQ 5.6% and the FTSE 100 4.8%. Out of step was the Shanghai Composite dropping 0.9%, perhaps a sign of the much discussed cooling of China’s economic activity for an index that is still over 60% up in the year to date! Our portfolios have also grown well, with the main Medium risk portfolio gaining 3.6%, the Medium – High portfolio 3.8%, and the Low Risk 2.6%, a good result bringing annualised growth to over 6%. The main portfolio is at +22.7% year to date, and is averaging +15.3% p.a. since inception six years ago this month. The total gain since then, on an initial investment of $250,000, has been just over $229,400 or +91.8%. Growth in the full 5th year, however, was down to 2.5%.
In last month’s article, I mentioned my intention to introduce a risk control mechanism called a ‘trailing stop’ and I have now done this; it’s quite straightforward, the ‘stop’ part is a price at which the holding will be sold, and is determined by a decision as to how much an investor is willing to lose. I have used three different percentages – 10%, 15% and 20% – based on a number of factors such as volatility, industry sector, contribution to date and more. The S&P Biotech Index ETF, for example, is given a 10% stop, whereas the Californian alternative energy producer Calpine, which has delivered over 80% growth in six months, has 20%. The ‘trailing’ part is simply a readjustment of the stop with every positive price movement. For an example, let’s use our latest portfolio addition, the high tech manufacturer NVE Corporation. This was purchased at the end of August at a price of $53.75 per share, and choosing a 10% figure attracted an initial ‘stop’ of $48.38. Had the price immediately dropped to that level it would have been sold asap. Instead, the price has risen, and today stands at $54.92. The ‘trailing stop’ is now adjusted to a price of $49.19. As the price, and its trailing stop, rises the risk of loss decreases. In this case a price above $59.72 would generate a gain even if the trailing stop triggers a sale – $59.73 – 10% = $53.76. Had the stop been triggered right from the start the loss would have been manageable, since it would have been 10% of a holding that was 4% of the portfolio, or 0.4% of the total value. This is an excellent discipline; however I am applying it to recent purchases of stocks and ETFs, and not to the older holdings, mainly of collective funds. In putting the trailing stops in place I found that WalMart and Exxon Mobil had broken through their stops and they were sold, providing funding for the NEV Corp purchase and topping up our cash account. The system only works, of course, if once a holding breaches its stop it is actually sold. There is no room for emotional attachment to a stock, and if a holding has a strategic role – for instance one that Gold has in our portfolio – don’t include it amongst the list of stops. NVE Corp, by the way, develops and sells devices using ‘spintronics’, a nanotechnology that uses electron spin rather than electron charge to acquire, transmit and store information. I thought you’d want to know that! Holdings with stops are marked with an asterisk on the spreadsheet.
As for risk appetite, my thanks to Tom Dyson for looking at Wall Street Journal editions from September 1930, when the markets had rallied from the 1929 crash. On the 13th: “We have passed the low point of the depression”, said the President of the New England Council. On the 14th, a headline: “Brokers, businessmen, and even the general public are more optimistic”. Within days the stock market crashed again, and within three months it was down 37%. Investors lost more money in the rebound than in the original crash of 1929. This sounds horribly familiar … Beware!
John O’Donoghue is a Consultant with Caratfin Insurance Advisers Ltd. Tel: 22 464190, e-mail: [email protected] and [email protected] , www.caratfin.com . Member of CIFSA. The Company is regulated by the Superintendent of Insurance under License no. F.O.S.7
