The ease of adapting Drach’s methods to closed-end funds is based on the similarity of scanning for relative discounting. The essence of the timing technique is to attempt to expand common stock investment when the overall market is relatively low, confining investment interest to stocks that qualify for the Master List, which appear relatively discounted to the others.
Scanning for the most appropriate closed-end fund based on discounts has the same objective: isolating the cheapest. In Drach’s objectives, he is searching for specific stocks that are overly discounted. In Herzfeld’s closed-end fund analysis, he is searching for the most discounted fund. The focus of both techniques is to isolate excessive discounts relative to historical/statistical norms.
A significant differential between Drach’s concentration on specific stock and Herzfeld’s concentration on specific funds is that the funds, by their structure, involve diversity in the number of different positions. Read the rest of this entry »
In the published common stock portfolio modeling the Continuous Full Investment portfolio models were included to function as a control to allow objective comparisons with the market timing models.
Although intended as a control, allowing demonstration of the validity of the timing technique, the Continuous Models have significantly outperformed the broadly based popularized market averages. The reasons for this superior performance are twofold. First, the rigid requirements for stocks to qualify for the Master List results in the stocks comprising the Continuous Models to be of usually superior fundamental quality, thereby giving the group an upward bias relative to the overall market. Second, the Continuous Models change positions in a gradual, relatively slow process in which new positions are selected that are among the most discounted (low-priced relative to the others) on the list. In effect, a rotational process adds those that have become more discounted and deletes those less discounted. Read the rest of this entry »
In the common stock investment techniques, the most obvious hedging strategy might be to be long the stocks that are relatively discounted and sell short those that appear most overpriced. However, the process is not so simple.
Because of the composition of the Master List, the stocks as a group tend to do significantly better than the market as a whole. Consequently, although the long positions have significantly outperformed the broadly based market, the short positions, if sold, will likely provide lesser returns than the overall market.
It is because of the Master List’s positive bias that in hedging accounts Drach utilizes writing index call options as a substitute for the short side. This substitution both eliminates the effect of the Master List’s upside bias that would be experienced in attempting to short Master List stocks and provides added profitability for the short side because of premium capture. As discussed in Chap. 9, the method of going long the selected Master List issues and proportionately shorting (selling) index call options is a lethargic process, which has so far produced a constant annualized return of about 15 percent irrespective of overall market conditions. Read the rest of this entry »
Empirical evidence suggests that stocks experience momentum and reversals in returns depending on holding periods. Generally, there is momentum in short-term returns of about one month and also in the medium term of about one year, but reversals in longer periods of three to five years.
The most successful momentum strategy is to buy stocks that have performed the best over the past three to twelve months, and short-sell stocks that performed the worst over the same period. If these positions are held for the next three to twelve months, the positions generate an abnormal return of about 12 percent per year. Momentum strategies seem to be adopted extensively by mutual funds and other institutions.
Over longer periods, studies find that the returns reverse, that is, past winners become losers if held for three to five years and past losers become winners. According to long-term studies, 25-40 percent of the future return is predictable based on past returns.
Unlocking Value Around Expiration of IPO Lockups
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There are many mispricings that have been discovered by academic and practitioner research that have not been discussed in previous articles. While it is not possible to list all possible anomalies and nonanomalies, a few popular or interesting anomalies are listed below, with a brief description relating to that anomaly. The following features characterize the mispricings selected for inclusion:
- The mispricing has been tested with different sample periods and different methods. Some popular mispricings that are not supported by the evidence are also included so that readers can see examples of failed anomalies.
- The mispricing appears interesting and profitable though more testing is warranted.
Several long-term mispricings are included because there is much evidence to support the mispricing even though it is prudent to remain skeptical of long-term underperformance or overperformance for reasons. Read the rest of this entry »
Nearly all of the mutual fund families offer multiple funds that are geared toward international investing. The different kinds of funds can be categorized into index funds, international funds, regional funds, country funds, emerging market funds, and global funds. International mutual funds have higher expense ratios than domestic mutual funds to cover higher trading costs and higher management fees. The funds also tend to have redemption fees to control frequent trading. Examples of funds offered by major mutual fund companies are given below.
* Index funds. These include Fidelity Spartan International Index Fund, Vanguard Developed Markets Stock Index, Vanguard Emerging Markets Stock Index, and Price International Equity Index Fund.
* International funds. These funds do not invest in the domestic market. Funds include Fidelity International Growth, T. Rowe Price International, Fidelity Overseas, Vanguard International Growth, Fidelity Diversified International, and so on.
* Global funds. These funds invest in all countries, including the domestic market, and include Templeton World, GT Global Worldwide, Dreyfus Global, Vanguard Global Equity, Price Global Stock, and so on. Read the rest of this entry »
Buying foreign stocks is cumbersome for an individual investor because it requires currency conversion, opening an account with a foreign broker, taking custody of a foreign company’s shares, and all the associated transactions. Many domestic brokers now offer trading in foreign stocks, but it is still a lot more difficult to buy and sell foreign stocks than it is to trade domestic stocks.
There are, however, alternatives available that do not require direct trading on foreign stock exchanges. These are American depository receipts (ADRs), mutual funds, exchange-traded funds, and multinational companies. Details are provided below.
ADRs are negotiable registered certificates that stand in for the underlying stock of foreign companies. A U.S. bank (called a custodian bank) holds shares of foreign companies and issues receipts (ADRs) against those shares. There could be one ADR for several shares or several ADRs for one share of stock—the custodian bank picks a ratio that puts the ADR in a tradable range of $50-100. For example, each share of British Petroleum is subdivided into six ADRs and each share of British Airways is equal to ten ADRs, while two Honda shares make one ADR but one Sony share is equal to one ADR. Read the rest of this entry »
Delta Delta peaks in between the two strike prices (i.e. near the money)—notice the difference
between the one-month Delta profile and the one-week delta profile. This shows us that small movements in the underlying stock price at these levels will have a more dramatic impact on the value of the Bull Put position. Delta becomes much more sensitive as time decays. This means that the Bull Put risk profile itself becomes much more sensitive as time decays. This is because Time Value is depleting to negligible levels, and so the stock movement is being followed almost exclusively by Intrinsic Value at these levels. Notice that as the stock price veers away from the money (on both sides), Delta is hardly sensitive at all and that the most sensitive Delta action is occurring close to the two strike prices.
Gamma The acceleration and deceleration of Delta is reflected in the Gamma values. As you would expect, Gamma peaks in positive territory where the stock is just below the lower strike price and troughs into negative territory where the stock is just above the higher strike price. Read the rest of this entry »
Greed is one of the most difficult sins to manage because it is always there. We invest to make money, and every promising investment raises the possibility of making a significant amount of money. We wouldn’t be human if part of us didn’t dream a bit about what might be. Good investors, though, keep that part of themselves in a controlled, isolated environment. If you are particularly vulnerable to the sin of greed, you’ll do likewise. Specifically, you’ll do some or all of the following:
- Invest slowly, knowledgably, and logically. Speed, ignorance, and reflex are the greedy investor’s enemies. Force yourself to move relatively slowly before making an investing decision, even when you’re certain that even a moment’s delay could cost you thousands. In the vast majority of cases, delaying your decision for a short period of time won’t hurt. In most instances, it helps because it gives you a bigger window of time in which you can think, reflect, learn, and talk about an investment. Greed preys on people who just react. When I say invest knowledgably, I mean do your homework. Learn about the fund’s or stock’s performance historically. Compare the fund or stock to the appropriate index or benchmark. Read as many reports as you can related to the investment. Don’t worry that your delay makes you spend an extra 50 cents a share because in the long run it won’t make a difference. Finally, logical investing means reasoning out your investment decision. When you hear a great tip or read something that makes you believe you’ve found a great fund that will make you millions, step back and write down the logical steps that have led you to this conclusion. Specifically:
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The good news about this investing sin is that you have a number of ways to reduce its negative impact. Here are some steps you can take to reduce your gluttony and find a more healthy balance between active trading and watchful waiting:
A. Reserve 5 to 10 percent of your portfolio for aggressive trading.
Just as a diet isn’t designed to eliminate all food—or even all junky food—a good regimen for the investing glutton isn’t to cut trading entirely. For whatever reason, you enjoy and need the action of buying and selling. What you don’t need is for this need to eat away at your portfolio. Therefore, reserve a small percentage to feed this habit. If you only actively trade 100 shares instead of 1,000, you probably won’t do much damage.
Remember, though, that this 10 percent high-end percentage is absolute! Invariably, a time will come when the actively traded 10 percent will be performing well, and the inner glutton’s voice will say, “Don’t be a sucker; you’re a much better investor now than before; up the percentage to 20 percent?’ Do not heed this voice. It is the same voice the dieter hears after losing ten pounds, the voice that says, “Another slice of chocolate cake won’t hurt you? Read the rest of this entry »
It’s likely that most investors, at some point in their investing careers, buy and sell much too quickly. Perhaps they get caught up in a market upturn or downswing or they are going through a difficult period in their personal lives and turn to day trading as a form of escape. If overactive trading is an anomaly rather than a pattern, then you probably aren’t guilty of this sin. On the other hand, if you find that you periodically fall into the habit of overactive investing, gluttony may be a problem you need to address. Read the rest of this entry »
