Reader Jim posed an interesting question:
Just read this article on Morningstar about the likelihood of a sideways market over the next 5+ years. Basically, the author, a senior vice-president at Legg Mason (fancy title for being a “chief salesman”) think we’ll likely be in a sideways stock market where momentum investing won’t work very well and value stock picking will.
Isn’t your system basically a momentum style of investing? In a sideways market wouldn’t your system keep invested in instruments that didn’t go up (due to sideways market) and didn’t go down more than the 7% sell point as opposed to looking for investment managers who were value stock pickers?
My view is somewhat different. While I agree that we’ll be in some sort of a sideways market, my definition is not as narrow as yours. As I have posted before, I think the market pattern will be more “w” like as we move into and out of recessions once the stimulus programs exhaust themselves.
I believe that the sideways pattern will be much wider than bouncing around the unchanged line by a few percentage points. I think it is far more likely that we will see sharp rebound rallies followed by mind numbing drops; but when all is said and done, the buy and holder will end up very likely with not much to show for.
And that includes value investors as well. After all, value investing is nothing more than an attempt to buy stocks at lower levels and hope for a rally. If the bear strikes, value investors will get clobbered just as anyone else with market exposure. Remember 2008? Only cash was king.
However, if the sideways pattern turns out to be as narrow as you suggest, that will offer a great opportunity to invest in income producing funds/ETFs, because the lack of volatility will keep your principal intact. Personally, I’d like that scenario as well, because I could invest in a high yielding fund like JNK and simply collect the 12% dividend without much downside risk.
Chances are that we will end up with a scenario that is in between. However, I am convinced that somewhere within the next few years (maybe even in 2010) another heavy hit to the downside will occur. That’s the moment where it pays to have insurance via a trend tracking safety net along with a strict exit strategy.
Disclosure: We currently have positions in the funds discussed above.
Comments 6
I am curious about how you described JNK as not having much downside risk. I have never owned it, but I was under the impression that, especially these days, it was pretty risky. I know risk is a relative term, and everyone has their own comfort level, but do you really feel that it has little downside?
PS-I was pondering this before I saw what it did today!
Chuck,
I didn't say that it had little risk. I said that it could be a worthwhile play because of the high dividend if indeed the sideways market would happen in a very narrow range around the unchanged line.
Ulli…
Ulli,
I see. Thank you for explaining that. I will have to look at a chart for JNK and see what kind of range it has been trading in. If it is indeed a very narrow range, then I would be tempted to put my toe in the water for some of that 12% dividend.
BTW-Do you know the holdings for JNK? Is it strictly domestic?
Chuck,
You are missing my point. Reader Bill was of the opinion that we may have a sideways market in the future. I merely said that if it would be in a very narrow range, funds like JNK might make sense. I believe, however, that the range will be much wider, hence buying and holding anything without a sell stop does not make sense.
Ulli…
If it is a sideways market for years ahead, like the last 10 years for the S & P 500, there will probably be sectors that outperform and underperform at different times. Following the trends, or "momentum trading'(so long as the story makes common sense) should again be much more profitable than trying to trade the ranges (always tricky), or sitting in cash.
Got it. Thank you for the clarification.