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PRIMARY OBJECTIVE: ... Income Replacement! Escape velocity is the speed that an object needs to be traveling to break free of the planet's gravitational pull and leave it without further propulsion. This portfolio is looking for the point where the income being generated can allow the holder of... More
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Market Strategies
  • Market Strategies - The Philosophy 28 comments
    Feb 17, 2013 5:21 PM

    When I decided to become a self directed investor, I thought I could perform as well as those who manage money for a living, in other words, the people I used to trust my money too.

    I came to the conclusion that the only difference between them and me was knowledge. I determined that the way they started to gain that knowledge, was to go to school where a professor told them to read a book, and then they were tested on what they read.

    I know how to read, so I started. I have many investment books back in my study and I've read them multiple times.

    I studied various investment styles from momentum, to value, to contrarion, to speculation, to shorting, to trading. I've enjoyed "some" success in all of them. What I lacked was the experience to make a specific style successful in all market conditions. So I trekked on, learning and applying and learning some more.

    This series of instablogs is about sharing some of those findings and those findings are credited to James O'Shaughnessy and his book, "What Works On Wall Street."

    O'Shaughnessy back tested many various strategies over a 40 plus year period, through all types of market conditions. Some strategies worked better than others.

    O'Shaughnessy showed that a portfolio's returns are essentially determined by the factors that define the portfolio. He found that most investment strategies are mediocre and that the majority, particularly those most appealing to investors over the short term, fail to beat the simple strategy of indexing to the S&P 500.

    O'Shaughnessy found that you can do four times as well as the S&P 500 by concentrating on large, well-known stocks with high dividend yields.

    I interpreted high dividend yields to be 50% or more above what the S&P 500 yield is. Other sources have defined and confirmed that for me.

    O'Shaughnessy also found that a strategy's risk is one of the most important elements to consider. Thoughts like, "No risk, no gain," should be left to the rookies. The key to the most successful strategies, over the long term, were based on a more conservative approach, what we might define as risk adjusted.

    Before delving into some of the components on what makes up a successful strategy, which I will cover in the next article, I think it is important to touch on the psychology of the market, or why an investment philosophy is so important, and that's the focus of this instablog.

    David Faust, in his book "The Limits of Scientific Reasoning," found that human judges were consistently outperformed by simple actuarial models. Like money managers and retail investors, most professionals cannot beat the passive implementation of time-tested formulas.

    Robyn Dawes, in his book, "House of Cards: Psychology and Psychotherapy Built On Myth," tells us there are instances where the human judges had more information than the model and were given the results of the quantitative models before being asked for a prediction. The human judges still failed to beat the actuarial models.

    I think it's time to stop and think about those last two paragraphs!

    Humans were told what the results are going to be and they still got it wrong. Why is that?

    In a famous cartoon, Pogo says: "We've met the enemy, and he is us."

    I am of the belief that most people who invest in a company are not the same people who manage that investment. Once we have committed to an investment, it appears we have made an emotional attachment. We defend that position even when it goes against us.

    We do our best to sell ourselves that we're not emotionally attached, but we are. This is one of the reasons investment firms have "buy side" and "sell side" analysts, and have them situated in different locations. The firms understand, all to well, about emotional attachment. I've been there, I know. I still struggle with it at times.

    Case in point: EXC was showing strong capital appreciation as share price rose all the way up to $90. They were growing the dividend as they went. Those who owned EXC through all of that were very comfortable with their position. They weren't mentally prepared for what happened next. After seeing share price continue lower and lower, EXC froze the dividend. Price dropped below $30. People justified holding on. I did too. Guilty as charged Your Honor!"

    EXC was no longer the company I purchased, but I wasn't ready to let go. Capital gains started slipping away. Finally management announced they might have to cut the dividend in six months. They gave the answer to the test, and people still got it wrong. EXC has finally made it official. The dividend will be cut and people still think it's okay to hold on and try to ride it back up, provided it does. ... Why?

    For those who bought EXC a few years ago, and are still holding on, it's not the same company anymore. At what point do you let go? The person who bought the company, the "buy side" of us, isn't the same person managing that position. Those people haven't developed a "sell side" criteria.

    Why models beat humans ---

    O'Shaughnessy found that models beat human forecasters because they reliably and consistently apply the same criteria time after time after time. In almost every instance, it is the total reliability of application of the model that accounts for its superior performance. Models never vary. They are always consistent. They are never moody. They never get bored. They don't favor vivid, interesting stories. They don't take things personally. They don't have ego's and they aren't out to prove anything.

    Our decision making is systematically flawed because we prefer gut reactions and individual, colorful stories to boring entry and exit base rates.

    We prefer the complex and artificial to the simple an unadorned. This is why so many people are under weighted utilities, especially since highly rated utilities have shown to be one of the best long term strategies in the market. It's too easy. It's too simple. It's not sophisticated enough.

    We are certain that investment success requires an incredibly complex ability to judge a host of variables correctly and then act upon that knowledge. We try to be "too smart."

    O'Shaughnessy has found several strategies that work well over the long run, some better than others, but not enough to alter your strategy if the strategy you use matches up with his research.

    Regardless of which strategy you choose to use, the two most important components are discipline and consistency. A structured approach has been found to be the most effective. If a stock meets the criteria, it's bought. If not, not. No hunches or intuition. No guessing or speculating.

    Think of a pilot going down his checklist before takeoff. Everything must check out or they don't take off. Perhaps we should have a checklist just as that pilot does, and we need to insure that each of the criteria is met before buying. Then develop a checklist for the "sell side."

    In O'Shaughnessy's book, "Invest Like The Best," he found the one thing uniting the best managers was their consistency to their rules. John Neff of the Windsor Fund and Peter Lynch of Magellan were known for their devotion to their investment strategies.

    As I continue with this series on the psychology of the market, it is my hope that we learn the best strategies to use and then let them work. Don't try to outsmart them, don't abandon them if they are going through a rough patch. Understand the nature of what you are using and let it work.

    In the words of Johann Wolfgang Von Goethe ---

    --- To think is easy. To act is difficult. To act as one thinks is the most difficult of all.

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Comments (28)
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  • SDS (Seductive Dividend Sto...
    , contributor
    Comments (4480) | Send Message
    Thank you for good article.
    James O'Shaughnessy's book "What Works On Wall Street" is really good but reader should remember that the more correct title must be "What HAVE Worked On Wall Street". To look deeper in the different investment strategies we need to find WHY it DID work and WHY it WILL probably work.


    Unfortunately (IMO) many successful investment strategies did work due to human behavior - usually investors behavior but sometimes executives behavior as in the case of DGI. Most professionals use to some extend computer trading (in HFT even without human review) now + Because professionals mostly define the market previous behavior based strategies might NOT work in future.


    Anyway, I'm looking for you next article.
    Good luck.
    17 Feb 2013, 05:51 PM Reply Like
  • Chowder
    , contributor
    Comments (15540) | Send Message
    Author’s reply » SDS, I agree with you. What "HAS" worked on Wall Street.


    I am going to attempt to provide components that are a perennial success. Components that apply to all market conditions. This was one of the missing ingredients as I grew as an investor. Too often we focus on price and price should be the last thing we focus on. ... Ha!


    I'll get into that later.
    17 Feb 2013, 07:10 PM Reply Like
  • jdhd
    , contributor
    Comments (514) | Send Message


    My thanks for this Instablog and I'm looking forward to the next. I think many like myself will relate to this article.
    We all have had loses and for me it keeps you humble and makes you try to find out where you went wrong. The enemy was me in most cases where I generated a loss verses a gain.
    I had small positions in CLF and CTL so took a couple of jabs this week.
    My thanks though for explaining no more then 2% in each position because the dividend increases I saw this month alone will cover the losses of those 2 positions.
    Keep 'em coming!
    17 Feb 2013, 06:15 PM Reply Like
  • Chowder
    , contributor
    Comments (15540) | Send Message
    Author’s reply » jdhd, I'm sorry you got taken out in a double play. Have you read my instablog on stock selection?



    Anyone following that selection process would not have owned CTL or CLF.


    I know that doesn't help you now, but it may be something you want to adopt going forward.
    17 Feb 2013, 07:15 PM Reply Like
  • Guitar Man
    , contributor
    Comments (227) | Send Message


    What can I say? Another excellent piece of wisdom. Thank you.


    17 Feb 2013, 07:04 PM Reply Like
  • Chowder
    , contributor
    Comments (15540) | Send Message
    Author’s reply » I wish I could take credit for it Guitar Man. There isn't a single word or idea that is original.


    I simply do a lot of reading and adopt common sense ideas as my own. Once I accept responsibility for the results, it then becomes my invention. ... Ha! Ha!
    17 Feb 2013, 07:17 PM Reply Like
  • HiloBeMagical
    , contributor
    Comments (752) | Send Message
    "There isn't a single word or idea that is original...I simply do a lot of reading and adopt common sense ideas as my own."


    Heh. "All wisdom is plagiarized. Only stupidity is original." [*1]


    [1] I'd cite the source of that quote but I plagiarized it. :D
    25 Feb 2013, 10:49 AM Reply Like
  • Robert Allan Schwartz
    , contributor
    Comments (21339) | Send Message
    Picasso said, "Bad artists borrow. Great artists steal." :-)
    25 Feb 2013, 11:20 AM Reply Like
  • jdhd
    , contributor
    Comments (514) | Send Message


    Yes I read it and was actually looking at getting out of those positions. I was late on the uptake.
    It would have been much nicer to pick-up those dividend increases w/o the jabs.
    In your final quote from Wolfgang ~To think is easy. To act is difficult. To act as one thinks is the most difficult of all.
    Lesson learned and was given personal portfolio examples for future!
    17 Feb 2013, 07:45 PM Reply Like
  • Chowder
    , contributor
    Comments (15540) | Send Message
    Author’s reply » jdhd, you've had a rough week. Shall I have Percy bring you a cold one? ... Ha!
    17 Feb 2013, 08:02 PM Reply Like
  • jdhd
    , contributor
    Comments (514) | Send Message
    Your Percy is a true lady and wonderful host ~ Cheers to you both! :)
    17 Feb 2013, 08:34 PM Reply Like
  • Chowder
    , contributor
    Comments (15540) | Send Message
    Author’s reply » Oh! Oh! I didn't know Percy was a woman! I'm in trouble now. ... Ha!
    18 Feb 2013, 07:36 AM Reply Like
  • Iwant2fly
    , contributor
    Comments (336) | Send Message
    Bet your wife didn't either!
    19 Feb 2013, 07:19 AM Reply Like
  • jaych79
    , contributor
    Comments (512) | Send Message
    Thanks Chowder for the article. I finally got around to starting the "Intelligent Investor" earlier this past weekend. Great book thus far and it's always neat to see into the minds of those who came before us such as Ben Graham. I love reading, especially business and investing books. I believe the best investment anyone can make is in their education on how money works and how to make money work for them.
    18 Feb 2013, 11:07 AM Reply Like
  • Yield Hunter
    , contributor
    Comments (293) | Send Message
    Are you reading the copy with Zwieg's commentary? I'm not commenting whether he's a source to be reckoned with, but he brings facts proving Graham's ideas 60 years later. Phenomenal.


    And chowder, thanks for another good one!
    18 Feb 2013, 03:50 PM Reply Like
  • Ben Dean
    , contributor
    Comments (18) | Send Message
    Thank you for sharing what you have learned and most importantly, a common sense approach! Investing in well-known div stocks for decades yields superior results and yet we still get tempted by market noise and the latest trends. It sounds too easy to pick high yield blue chips and utilities that grow dividends as a strategy. Adding complexity does not always improve results. Simplicity can be very effective.
    18 Feb 2013, 02:16 PM Reply Like
  • Robert Allan Schwartz
    , contributor
    Comments (21339) | Send Message
    "Think of a pilot going down his checklist before takeoff. Everything must check out or they don't take off. Perhaps we should have a checklist just as that pilot does"


    Chowder, that is brilliant! You're absolutely right!


    Now, would someone please come up with the checklist ... :-)
    18 Feb 2013, 03:14 PM Reply Like
  • Yield Hunter
    , contributor
    Comments (293) | Send Message
    Can you imagine sitting in the cabin of a plane and the pilot gets on the radio and says, "Welcome aboard. It looks like we don't have enough gas in the plane, but I think if we just go for it, we'll make it." NOBODY's going to stay on that plane. So why should we?
    18 Feb 2013, 03:52 PM Reply Like
  • Robert Allan Schwartz
    , contributor
    Comments (21339) | Send Message
    I used to know a father and son team of brokers at Shearson American Express (in the late 1970's). The father had worked on Wall Street since the Depression (of 1929).


    The son was very good at picking what to buy, but was famous for riding a company up and down again. He used to be called "Round-Trip".


    The father was very good at picking what to sell.


    The son bought, the father sold.


    The son was always yelling at his father for selling what he had bought.


    18 Feb 2013, 03:16 PM Reply Like
  • rnsmth
    , contributor
    Comments (3600) | Send Message
    Very nice. I think you are saving a lot of us a lot of money. Have Percy buy one on me :)
    18 Feb 2013, 09:05 PM Reply Like
  • Yield Hunter
    , contributor
    Comments (293) | Send Message
    At the risk of sounding extremely naive, who or what is this Percy?
    18 Feb 2013, 10:38 PM Reply Like
  • Chowder
    , contributor
    Comments (15540) | Send Message
    Author’s reply » Percy? ... Okay, I'll tell you about Percy.


    Percy is my imaginary friend. Whenever I want a cold beer, I have Percy go fetch it for me.


    You may not be old enough to remember the radio college football prognostication program called Leonard's Losers. We was a classic. He had an incredibly unique way of providing the analysis for the upcoming games. He would always end his analysis as ... ends up loser ... then give the name of the team. He only picked losers.


    I wish there were a You Tube of one of broadcasts. He was great.


    Here's an example:


    Arkansas at Florida


    The Giant Swamp Lizards have a taste for pork, and there will be plenty of the stuff on hand this weekend. When Houston Nutt's Porcine Pugilists get to the Gainesville Bog, they better be wearing their protective galoshes, because they're gonna need them. But even if the Hogs are wearing waders made of steel, they're still gonna end up being a Alligator meal on Saturday afternoon.


    Ends Up Loser -- Arkansas by 10.


    Anyway, when the show was over, he'd say well folks, that's it for today. Okay Percy, get me outta here! Percy became my buddy. ... Ha!


    When Leonard went off the air, Percy lost his job, so Percy's spirit lives on.


    Okay Percy, bring Ole Chowder another cold one!


    See ya!
    19 Feb 2013, 07:23 AM Reply Like
  • Yield Hunter
    , contributor
    Comments (293) | Send Message
    Ha, thanks for sharing. I hope there actually is someone getting you those beers, though, or you've probably been dying for a drink for quite some time! I'll look into this guy. So far, your leads that I've chased re: TA and SBI have been interesting. Dare I say I trust an anonymous stranger on the internet...
    19 Feb 2013, 08:22 AM Reply Like
  • Eddie Herring
    , contributor
    Comments (2124) | Send Message


    I continue to be amazed by how much we have in common. I loved Leonard's losers. Percy Peabody and the smart pills. The guy was a hometown boy who found his niche and excelled at it. Being an Alabama and Bear Bryant fan I loved it whenever he said the pachyderms would roll or stomp and then call out the volunteers or whoever as the loser. Those were the days...


    25 Feb 2013, 10:16 PM Reply Like
  • kolpin
    , contributor
    Comments (1385) | Send Message
    lol, I always imagined that Percy was your dog...a greyhound to be exact--who lounged by your feet til you snapped your fingers for a beer.
    25 Feb 2013, 10:28 PM Reply Like
  • Chowder
    , contributor
    Comments (15540) | Send Message
    Author’s reply » Eddie, I loved it too when he said the pachyderms. Alabama vs Tennessee were some of my favorite Leonard prognostications.


    My best friend had a business association with the University of Alabama when Gene Stallings was the Head Coach. Coach Stallings used to have an annual golf tournament and the proceeds went to a charitable organization that had something to do with the illness his son suffered from. I forget what that was.


    Anyway, the Asst Athletic Director, Coach Gerald Jack invited us down to Alabama, all expenses paid, for a few days. They put us up in a nice hotel which was on the campus grounds.


    We got to tour the entire facility with Coach Jack. I was amazed at the state of the art weight room they had, and the size of it was incredible. A bunch of the ball players were in there lifting weights. It was summer time and Coach Jack said they couldn't oversee the ball players or work with them, due to NCAA rules, during that time of year. But, he said a coach will take a short cut through the weight room to make a mental note of who was working out. ... Ha! Ha!


    We were down in the equipment room where all of the uniforms are stored and hanging neatly. I noticed a bunch of Tenn. uniforms. I asked Coach why they had Tenn uniforms. He said the squad that gets their starters ready for the game wear those uniforms in practice to fire up the team. I said, Coach, I thought Auburn was your rival. He said we don't need to get fired up for Auburn, that's automatic.


    We got to visit the Bear's tower. We were given all sorts of Alabama sports wear and an autographed picture of The Bear.


    We got to visit the secret room that nobody is supposed to know about. That's where my buddy, Percy and I got to hang out with some of the staff, if you know what I mean.


    Coach Jack found out I was from Boston and tried to recruit me as a fan. I told Coach that I went to South Carolina for a short time and my loyalty was to them. I told Coach I was also a Boston College fan and couldn't turn on my city. I told him I would root for Alabama as long as it wasn't against those two teams. Coach Jack said that would work for him. So, I've been rooting for Alabama ever since.


    When Alabama played Notre Dame for the National Championship, I had a problem. I grew up watching Notre Dame. I forgot to tell Coach Jack though. My family called me a traitor because I was rooting for Alabama. I told them about Coach Jack and Coach Jack passed away several years ago, so he didn't know I rooted for Notre Dame growing up. I told my family I had to keep my promise to Coach Jack and his spirit lives on with this recruited Bama fan. ... ROLL TIDE !!!
    25 Feb 2013, 11:38 PM Reply Like
  • poundofbutter
    , contributor
    Comments (89) | Send Message
    Sorry I am late to the party, but nonetheless I brought a cold sixer and I am grabbing a Snicker's while I wait for more posts. Maybe now I won't have to bug you so much via PM.
    21 Feb 2013, 12:59 AM Reply Like
  • Chowder
    , contributor
    Comments (15540) | Send Message
    Author’s reply » I don't mind being bugged. I live for this stuff!
    21 Feb 2013, 02:00 AM Reply Like
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