Tuesday, October 16, 2012

Jim Rogers and the Dow Theory

Do they have something in common?

Today Seeking Alpha published an interesting article named “Jim Rogers: The U.S. Faces Several 'Lost Decades'” which you can read here

 If Rogers is to be proven right, the implications are really scary. Not only as investors but also concerning our day-to-day life.

The comments to the article were basically divided into two camps. On the one hand, those that agreed that the end is nigh; on the other hand, those that said that Rogers’ investment suggestions have been badly crushed in the past, and hence he is to be disregarded.

So, who is right? Are we going to have two lost decades? Or everything will be fine?

From a Dow Theory perspective, I think I can reconcile the two opposing camps.

Rogers is not the village’s idiot. This is clear to me. I’ve read all his books; I know the fund (and some of its people) of the commodity fund he sponsored, and I can tell you he is one of the brightest minds out there.

So, even though, I tend to be highly selective when it comes to accepting fundamental based scenarios, Rogers is a man to whom I’d give the benefit of the doubt.

However, Rogers’ forecasts are in the realm of the secular trend (he even speaks of two generations; this is in my opinion, quite “secular”).

However, such secular view, even when/if proven right, is not a straight line. The investments recommended by Rogers have experienced and will experience in the future tremendous draw-downs. This is why Roger’s brilliance was not and will not be useful to 99% of investors.

Not all investors have the resources (i..e liquidity) and psychological makeup to endure draw-downs. Those "secular" market forecasts, even when right (and I tend to agree with Rogers), have to endure long nerve wrenching periods. Many investors lack the liquidity to endure a 60% draw-down or even worse the psychological fortitude to remain unaffected. Hence, they sell out at the worst possible time. Furthermore, one should not forget that commodities are mainly represented through futures because, unlike silver or gold, they cannot be stored in a normal basement, and they perish. So the cost of rolling over futures contracts adds up. Personally, I prefer to invest in commodities through a more or less imperfect proxy: Gold, silver and the miners or even commodity producing companies if I buy into the secular trend bullish scenario.

Hence, the importance of "timing" and avoiding draw-downs. It is in this realm where the Dow Theory excels. By keeping devastating draw-downs contained it helps us stay the course and sleep well at night. Furthermore, for those investors of more limited staying power, it helps keep the powder dry. If you use the Dow Theory the way I do, you don’t need to be the smartest guy in town and know what will happen in 20 years. You just need to know to recognize a trend early, jump on it, get out before it is too late and go with the flow. I prefer to be a successful trend following idiot than a ruined secular investor. Furthermore, we have to be humble and accept that very few are in Rogers' league. What works for him will not necessarily work for other people.

What lessons do I derive from Rogers' outlook?

I derive the following practical conclusions from Jim Rogers' pessimism (or realism):

1) It will not be time to buy and hold. During the nineties, one just had to buy a stock index and ride the trend. No need for timing. Just buy and hold. These times are over (according to Rogers for two generations).

2) Timing will be essential to survive financially or, for those excelling at it, thrive.

3) Thus, it will pay off to pay attention to cyclical bull and bear markets.

We have an example right now: While maybe the economy will crumble, the SPY is clearly up for the year. What should have done the investor? Pass the investment based on Rogers? Or maybe follow some kind of timing device like the Dow Theory an align her/himself with the prevailing trend and make money?

Right now, and in spite of the current, until now, moderate correction, stocks are in a primary bull market under Dow Theory. Of course, the trend will eventually reverse, but the Dow Theory (and even moving averages to a lesser extent), will tell us when it is time to get out. As a rule of thumb the Dow Theory gets the investor out of a new bear market only 10% below the market highs. Not that bad.

The Dow Theory flavor I use (the Rhea/Schannep variety) clearly seeks to invest along cyclical bull and bear markets (duration 1-2 years). Thus, even in the midst of a depressed economy, there will always be opportunities to be found in the stock, gold, silver and bonds' markets. The only issue is to really understand that the current environment does not favor “buy and hold” and that those lazier investors may get burned badly by draw-downs.


The Dow Theorist.

No comments:

Post a Comment