In investing there are certain realities and sometimes in the markets as in life nothing is what it seems. You only have to see the performance of Susan Boyle, the Scottish singing sensation to appreciate the beautiful upside surprises of life. So what does that have to do with investing? She is a good example of a speculative investment which paid off. You see one wise fellow had an insight on Susan Boyle and purchased the domain name, Susan Boyle. There now is a fan club web site there. Good call fellow. That was a good speculation based upon information (he had heard her sing before he debut on Britain's Got Talent and took a small risk which is paying off handsomely) but speculation is entirely different from investing.
There has been a lot written about excess speculation in the markets and a lot of it trashing capital investing but no one really takes the time to differentiate the two even though society has benefited handsomely upon both for many years. So why the trashing"? Politics and power? Naaah, couldn't be. Politics is a different subject. Let's just talk investments. What is the difference between speculation and investing?
It's like knowing the difference between potential and reality. To explain that difference to his son consider the dad who told his son to ask his sister if she would sleep with Brad Pitt for a million dollars. She said she would. "Now that's the difference between potential and reality", said the Dad. "Potentially we are sitting on a million dollars. In reality your sister is a tramp."
Speculation is based upon information. Information is potential., Investing is mathmatical. It is based on market realities.The short term information does not really matter. The long term realities of the capital markets do.. Investing is long term and is structured to put "the numbers" in your favor. It only need time to succeed while speculation depends on timing.
For example, investing in individual stocks is speculating because the return is dependent upon the information surrounding the company and the ability of its management to contend with the overall economy. That is why management is so important. The economy is constantly evolving and management must evolve to contend and succeed.
Want a good speculative investment? Look at Gigamedia, a Chinese software and gaming company. Of course you are speculating on the unknowns of the Chinese so consider the realities of this speculation. Who owns all the US debt? Who has an immense population that loves on line gaming and a fast paced growing economy. China. What is the new frontier? The internet. It is a good speculation priced at just under six dollars but the real speculation is how management handles the speculative unknowns, favorable and disfavorable. (I think there is a "falling of the Berlin Wall" type event coming soon in China. When it happens, look out, with the old government foggies gone the gold rush is on.).
Want to set up a mathmatical investment portfolio? It is so simple you will think it suspect. But it works. There are now mutual funds that set up their assett allocation this way and charge you a hefty fee to do it. Don't pay them. You can do it yourself.
Want an an assett allocation structure that will minimize the downside capture the upside and put "the numbers" in your favor? Set it up this way. Divide your investment dollars into four equal amounts and place them into four seperate sectors. Say you have $60,000.00. Divide it into four equal amounts, $15,000.00 each, now place each quadrant into a different sector. One into an aggressive growth stock fund index (The Wilshire 500 would do. There are many small cap index funds) and also into a conservative stock growth index fund (S & P 500) then place funds equally into an aggressive bond index (Corporate investment grade with a mixture of junk bonds) and a conservative bond fund (investment grade corporate and treasuries). Rebalance the assetts monthly or quarterly and you will find the downside swings minimized and your portfolio will outperform the market substantially. It is too simple isn't it. Why does it work?
The stock market historically grow at just under 11% annually with 20% volatility and bonds move inversely to interest rates. Stocks do the same with greater volatility. You are capturing the upside volatility whether it is in bonds or stocks and investing in the lagging downside volatility which will catch up as interest rates effect the markets.
Want proof? To slow the stock market interest rates are always raised. By rebalancing quarterly you rebalance your stock gains into bonds which now have high interest rates. As the markets take advantage of this interest rates will drop to attract funds back into stocks and your bonds will have appreciated nicely due to their inverse relationship to interest rates and your now rebalancing gains in bonds back into stocks.By rebalancing quarterly you don't even have to think, It is automatic, just keep the sectors in balance. That is investing , mathmatical. You should outperform the markets as much as a third. If they do 11% you should do 15%.If the markets are down 30% you will be down 20% and will have automatically rebalanced into the lagging sector. When the market returns to even, you will be ahead ten to fifteen percent.You minimized the downside , remember? So when the market recovers, you have less to recover (you are recovering from 20% down instead of 30% down)due to assett allocation and quarterly rebalancing. This is what they talk about on the business chanel. You don't need Kramer or Suzie Ormonde for this. It is mathmatical, it is investing, not speculating.
Of course there is one speculative wild card that trumps even the strongest capital markets.You might say it is the joker. Government intervention corrupts and skews the markets balance. GM is bankrupting due to huge SUV's which people no longer want to buy. Why did they buy them in the first place? Remember the tax credit for auto's purchased over 6000 lbs which the Fed's implimented when no one was buying them years ago? And why weren't the buying them years ago? The consumer wanted cars that got better mileage so the gas guzzlers accumulated on the dealers lots.. So the Feds put a tax credit in place so the auto mfg.'s could sell their amassed inventory of gas guzzling monsters. It proved popular and the Hummer soon followed. GM is not alone.
Mortgages are also melting down. Glass Steagall was repealed allowing Wall Street into Mortgages and a tax credit was given allowing you to sell your primary residence ever two years without capital gains. You could buy with no money down through Ginnie Mae and Freddie Mac which attracted the speculators who
had no exposure so they risked other peoples money with multiple mortgages. The market was rigged to be the equivalent of the perfect storm. A rising tide floats all boats. The perfect storm sinks them.Still think your vote doesn't matter?
Next post, covered call writing. Would you like to make 15% to 30% cash on your portfolio. Tune in , it is easy.
author Wall Street Dancers
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