Streetwise

Lauren Rudd

Sunday, May 5, 2013

A Real Life Example From My Students

It seems that I can never speak often enough to the question of whether it makes sense to invest in today’s market, given its current exuberance. The funny thing is I am asked that question whether the financial markets are rising or falling. My answer is always the same, there is no bad time to invest, just bad...no make that “inappropriate” investments.

As I have said “ad nauseam,” investment opportunities abound in any market. Unfortunately, every time a company’s management is caught in the mandibles of unsatisfied expectations, its shares follow the glide path of a brick amid shrill cries of discontent from a cadre of prognosticators.

While not one to often quote Scripture, you might want to consider the wisdom found in Ecclesiastes 11:1-12, “Cast your bread upon the waters...for you do not know which will succeed, whether this or that, or whether both will do equally well.”

In other words, think of the equity markets as that which can increase your wealth...but only if you undertake the risk of casting your investment dollars upon its waters and have the patience to wait for the associated returns.

Yes, the uncertainty over the direction and health of the economy will reign supreme in the months ahead. It will also result in some bargains as share prices are subjected to the scrutiny of Wall Street and the inescapable consequences of less than stellar forecasts.

My suggestion would be to use any pullback as a possible opportunity to strengthen your portfolio. However, I want to clarify a misunderstanding held by some who have written to me.

Although I remain a strong proponent of long-term investing, you can no longer assume that the share prices of even the highest quality companies will continue to increase uninterrupted over the years. For proof you need only consider companies such as AT&T and General Motors. Therefore, align your portfolio with current economic and market trends and do not be bashful about taking profits when indicated.

The other key issue concerns dividends. When possible, eight consecutive years of dividend increases are the preferential avenue of choice all other factors being equal. Unfortunately, all other factors are usually not equal and occasionally the potential for capital appreciation sans dividends can make for a compelling story.

While the fore mentioned prose is all fine and good, coming on its heels is usually the question of whether the average individual investor can really be successful, given the continual antics of Wall Street. To answer that question I submit to you the following real life story.

Toward the end of a recent series of investment and portfolio building classes I teach for the Lifelong Learning Academy at the University of South Florida, my students, all adults, were charged with building a portfolio whose performance would then be back-tested.

Utilizing the skills they had been taught over a series of weeks, each student was eligible to submit up to six investment ideas. Eliminating duplicates, a list of 40 companies was compiled.

Employing software from Morningstar, the portfolio was back-tested from May 1, 2008, up through March 31, 2013. The average annualized return was 12.95 percent. For 2012, the return was 21.18 percent as compared to a return of 16 percent for the S&P 500. For the first quarter of this year, the return was 13.75 percent as compared to 10 percent for the S&P 500.

For those a little more versed in the technicalities of portfolio analysis, the three year standard deviation was 14.31, as compared to 15.01 for the S&P 500, the mean or average return was 20.77 as compared to 12.76 for the S&P 500 and the Sharpe ratio was 1.52 versus 0.92. The beta on the portfolio was 0.93 and the R-Squared was 94.45.