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The Nature of the Beast

     So now we’ve seen another reminder of what happens to markets when investors panic. Last Friday was a beast of a day throughout stock markets around the world as they reacted sharply to the Brexit news. Today wasn’t much better. What I find interesting is not the predictable market reaction to the news but what’s happening around the event. Here we begin to see some real insights into the nature of the current financial market environment.


#1 Google Search – What is Brexit?


     Last Friday, the number one term searched on Google was…. “What is Brexit?”. I chuckled too. 10 out of 10 people on the street couldn’t give you a single detail on the BREXIT thing, but they definitely sold stocks anyway. In fact, as the numbers and damage reports come in, it seems that more wealth was destroyed on Friday ($2.8 Trillion) than over the course of the entire stock market crash in October of 1987 when the US market lost over 20% in one day. So let’s digest this information a bit to help us understand the nature of the beast. First, investors are not investors anymore. They are news consumers, buying and selling according to which news item is trending. They watch and listen and hear what sources like Yahoo Finance tell them and they react without thinking. Or they might tune into someone named Jim Rogers (need to Google that name at some point because no one knows who Jim Rogers is). Jim makes a big bold statement to the news, supporting his personal short position against stocks, that we are about to see the worst bear market in history. One person offers his opinion, on one day, and suddenly, he has the gift of sight. He KNOWS the future and thus investors should ACT on his FORECAST! I’m using BIG BOLD caps to emphasize how ridiculous this is. Selling causes more selling because someone must know something right? Well….. no, actually. I won’t bother giving my own opinion on what I think we might see in the way of an economic or market impact stemming from the UK’s departure from the European Union. After all, it would be a total guess and without any substantive evidence because no one knows. Later, like 6-12 months from now, we’ll be able to look back and see what “things” changed and took a new direction as of last Friday. But for now, I won’t waste your time. If investors are this sensitive to news they don’t understand, we can rest assured that the negatives associated with behavioral economics are going to be an impactful part of the market cycle for a long long time. In other words, we can clearly count on the fact that investors, who do not have their own system to invest, or the knowledge or skills to do it themselves, will continue to buy high and sell low.


     Here’s another insight about the nature of the beast. Investors do not know what BREXIT means but they know that this thing is causing a great deal of portfolio pain as the news is consumed. What we must understand and respect is that investors can see and feel their wealth disappearing now on a minute by minute basis, usually on their phone at work. Perhaps they have alerts set up that say, “HEY, your portfolio is getting crushed, do something about it”. Once again, the impact of our instant information ecosystem and how investors process it means we should expect a highly reactionary market environment. What this means to us, is that we should not be reactive, really ever, but strive to remain in the drivers’ seat of risk management by constantly adjusting our Net Exposure, Selection and Position sizes appropriately – and not exclusively when a news item shocks us into action! Two weeks ago, in this update, I said the following as my first sentence.


There’s a lot I don’t like about the market action since my last update – 6/17/2016


     At that time, we made several adjustments to our blended asset and tactical equity strategies to adapt to the changing character of the markets which was showing real concern for the fate of Europe (as well as oil, financials, banks and transportation sectors). Those changes have kept us largely out of harms way. We sold down or eliminated many of our sector fund positions, we reduced our allocations to high beta stocks and left intact our core holdings in defensive, income bearing securities. Our clients’ portfolios were only slightly damaged last week. In fact, those with larger allocations to our Income models saw those accounts move out to all time new highs. These are the days when our process of generating asymmetric returns across our clients’ portfolios, begins to shine.


Betterment Knows Better? 


     This news headline caught my eye. Betterment is one of the new Robo advisors that take investors’ money and puts it into a “robotic”, automated investment programs so investors don’t have to think, I mean worry, about their portfolios. I have said many, many times that the process of managing investments is not a thing that can be automated as much as we would all like. I do appreciate the concept of portfolio modeling and academic research, but I also know from 22 years of doing this, that it just isn’t that easy. Please re-read above if you need to know why. So, apparently on the day of the panic, Betterment shut down their platform for about four hours, fearing that $4.8 Billion worth of investors might want to do some selling. Apparently they know better and are now not making it possible for investors to act on their own money when they want to. They said that they took this step to protect their investors from paying some transaction fees. So if I want out of the market and I don’t mind paying transaction costs, Betterment says, sorry you can’t get out because we have shut down our system. Wow! The real issue here is about control. In our shop we simply have a power of attorney to trade our client’s accounts but we do not restrict our client’s ability to act on their own money in any way if they so choose. I will say with high confidence that this unknown policy, invoked by Betterment in a moment of market panic, will not go unnoticed or unpunished. It could be the end of Betterment and a serious knock to the future of Robo advisors.



Here’s the short version of what happened from Reuters:


Betterment LLC, an automated financial adviser, suspended all trading on Friday morning as Britain's vote to quit the European Union sent a shock wave through global financial markets, The Wall Street Journal reported.


Clients were not aware of the halt, which ran from the market's 9:30 a.m. open until noon, the Journal said.


The company, which manages $4.8 billion, took the step to protect investors from paying the higher transaction costs associated with buying and selling securities during times of extreme market volatility, the WSJ said.


Betterment was not immediately available for comment.


     Looking forward, the Brexit vote will have some impact on global economics and global financial markets but we can’t say what that might look like yet. Today, global financial markets are breaking down more than anyone would like as the likes of the S&P 500 are now trading back below it’s 200 day moving average. Stocks are now stretched to the downside while things like bonds and gold are stretched to the upside. I’m going to expect reversals in both groups starting this week and then we’ll reassess based on winners and losers.


I hope everyone is enjoying the summer and staying away from the news!




Sam Jones