Consuelo Mack articulated something interesting in the opening for this week's show. She talked about the school of thought that says the best active managers tend to outperform in flat and down markets and lag during markets that are up a lot. If I followed her correctly, she attributed this to Francois Trahan of ISI group and Smart Money magazine.
It appears that this is something I am trying to emulate in how I perform the task and, by extension, what I write about here. Part of the equation comes from Ken Fisher's idea of the market only doing four things: up a lot, up a little, down a little and down a lot. If you miss a big chunk of that last one and go a long for the ride for the other three then you should come out ahead in terms of the entire stock market cycle.
The breakdown of Consuelo's observation might be as follows: in a flattish market it is easier to add value with country selection, sector weightings, dividend yield increases or other things that a given manager might focus on. When the market is down a lot, some sort of defense trigger like going below the 200 DMA or the 50 DMA crossing below the 200 DMA can be a way to add value. However, when the market goes up a lot it is typically because most of the big sectors are up a lot. If an entire sector is up 50% during some short period of time then, chances are, most of the constituents of that sector are going to be up a lot.
Moves like we've had since March are in some part snapbacks fueled by emotion that represents the undoing of the other emotional extreme: the implosion in stocks that took them to their lows. If a group of related stocks are all up a ton chances are the move is not really about fundamentals. Moving for non fundamental reasons happens all the time. Sometimes the fundies dictate trade and sometimes not -- that's just how it is.
Consuelo mentioned something else of interest, an argument for top down portfolio construction. She said that in 2008 95% of all US stocks were down and this year 90% of all US stocks are up. While I do not know how normal 95% is for the typical bear market (my guess is that is higher than normal), chances are that if the market is down a lot most of the stocks that comprise the market will be down a lot too. In that light it makes more sense to focus on missing the full brunt of the decline as opposed to trying find the 5% of stocks that will be up.