Take Care


A reader recently sent me this note.

“Dear Gary, I just noticed that you are proposing to reduce the gearing on your Emerging Market Portfolio from two to one down to one to one. Is that because you see more volatility/risk in Emerging Market equities in 2008? The use of the Singapore dollar is interesting.  If you were a betting man, do you think your Green Portfolio will still outperform the rest next year?  All the best.”

Because our portfolios are so heated, the reply is something I would like all readers to read.

First, there are two questions. The first is about reducing the leverage in the emerging markets portfolio.

Last year the emerging markets portfolio’s leverage was dropped to one to one because it performed so well the year before. The portfolio consisted of $100,000 invested and $100,000 borrowed and invested for a total of $200,000.  This is what we propose to do this year as well.

    

We are not increasing or decreasing the amount of leverage we are using.

The Emerging Market Portfolio has seen a phenomenal performance. In 2006 it rose 114.16%. This year since November 1, 2007, it has risen 105.22%.  If a person had started with $100,000 in November 2005 and let this portfolio ride, with reduced leverage, their original investment would now be worth $439,449…even with the reduced leverage! This is the power of compounding with leverage and high returns.

$100,000 grew to be worth $214,160 from November 2005 to November 2006.  

Had an investor at the end of the first year (Nov 2006) bumped leverage up so it was on a one to one basis they would have left the $214,160 invested and borrowed $214,160 more to also invest.  The total investment would have been $428,320.  The base amount would have risen 105.22% or $225,339 so the portfolio would now be worth which would now be worth $653,659.

Not bad appreciation for $100,000 in two years.

With such great performance for two years in a row, one might be tempted to say let’s leverage even more.

I would not.  Below you can see why.

I am not a fan of pyramiding or increasing leverage as a portfolio rises because of a simple human reaction.  As numbers grow, most investors lose perspective…and their common sense.

An investor who had this much profit could now bump up their loan to $653,659 and still have a one to one leverage.  The loan ratio remains but the actual amount has risen….a lot.  Two years ago the loan was $100,000. Now it is well over half a million.

Keep in mind that this portfolio rose 114.16% in a year but dropped from + 61.03% March 5, 2006 to + 4.68% in July 2006.  That’s a huge drop, not into negative territory, but the $100,000 investor lost $56,350 of his profit during that three month down turn.

That could be hard on the psyche.  How about losing $368,337 in three months?  This is what would happen if the $653,659 portfolio rose 61.03% and then dropped to 4.68%.

Look at the portfolio performance for 2007.

Portfolios 2007 Mar 27 July 20 Aug 17 Aug 31 Sept 28 Oct 5
Swiss Samba 16.15% 45.84% 26.42% 30.86% 44.40% 47.94%
Emerging Market 15.11% 67.67% 30.50% 67.95% 103.22% 105.22%
Dollar Short 20.12% 33.81% 40.31% 9.14% 42.71% 42.06%
Dollar Neutral 16.58% 37.64% 38.07% 13.56% 34.74% 37.19%
Green 86.86% 178.28% 214.15% 110.93% 220.22% 236.47%

Again there was a huge drop to ride though when the emerging market dropped from 67.67% July 20 to 30.50% August 17.  If an investor was bumping leverage each year (pyramiding) and had started the year with $653,659 invested and the same amount borrowed the 67.67% profit would be $442,331.  Less than a month later, if the markets reacted in the same way as last year, that profit would have dropped to $199,365. That’s a $242,966 drop!

How would you react, losing nearly a quarter million dollars in just weeks? 

Experience has shown me that investors tend to forget ratios, percentage points and how much they have made. They see only one thing…the quick $368,337 or $242,966 loss!

The problem is with dashed hopes.  For example if an investor has $300,000 saved up  he or she has certain hopes, plans and aspirations about what they can and cannot do with that money. $100,000 of it gets invested in the Emerging Market Portfolio and two years later it’s worth $653,659. Now the investor has $853,659 (assuming they just held onto the other $200,000 of their original nest egg).

Now their dreams and ambitions shift and grow. Their lifestyle, in their minds at least, expands.  Then the sudden loss dashes their hopes.  Most investors fixate on the highest point in their portfolio. This imaginary figure becomes an investor’s wealth and if it gets taken away….especially quickly…investors do strange and often stupid things with what is left.  

It is good investing policy to let winners ride but not prudent to pyramid winners, especially if the amounts involved rise above one’s emotional capability to lose.  

Ask yourself and try to honestly answer what you would do. Will you believe in the idea and hang on? Will you have a rational money management system in place to cut losses?

There are five facts we can depend on.

#1:  Emerging economies are catching up with major economies.  So too are their markets.  Emerging markets have dramatically outperformed major markets for the past six years.

#2:  Emerging markets are not overvalued. Most of the growth in share prices can be equated to growth in earnings.   

#3:  Equity markets are efficient stores of value in the long run but not in the short term.

#4:  Periods of high performance are generally followed by periods of low performance.

#5:  Leverage enhances profits and loss.

Each investor’s decision should come from matching these realities with their unique financial circumstance. Is the money needed? If so, how soon? Can the portfolio be held for the long run if there is a period of low performance? Is the profit and value of the portfolio significant to the normal expenditure of the investor?  Would a sudden large and sustained drop have a dramatic negative impact on the investor? 

These are the questions each investor and their advisor should seek to answer.  Yet when portfolios are over leveraged, logic gets thrown out during the heat of sudden downward moves.

Now onto the second question. “If you were a betting man, do you think your Green Portfolio will still outperform the rest next year?”

I am not a betting man. You should not be either.  The betting man and his money are soon parted. You should be an investor looking to spot trends and find good value.

I am a seeker of ideas. I have invested in the idea of emerging markets for nearly 40 years. This has been a good idea that has made sense and continues to do so for many reasons.

I also believe that green investments make sense.  Big problems create great opportunity. Environmental corruption is a huge problem…one of mankind’s worst.  Green is a huge trend. I believe the shares in the green portfolio are available at a good value.  

My conclusion is this portfolio will create wealth above inflation and has huge potential for growth.  This is an idea I believe worthy of a portions of one’s portfolio.  However I will not try to guess what will happen to that portfolio in as short a term as a year.

You can learn why this performance has taken place in a sixteen page email report about how 13 economic forces now clash to shape investments markets ahead that show the rewards and the risks.  The report also outlines the five Multi-Currency Portfolios we have tracked in our 2006 and 2007 Borrow Low-Deposit High Multi-Currency Sandwich Educational Service. Details are at http://www.garyascott.com/catalog/bldh

Low Subscription Update. There is a last chance to take advantage of the low subscription fee.  The publisher we are working with conducted its first test market and just wrote to me.

“ Gary , The price test at $249 didn’t win out.  We’d have to test it again to get a more conclusive result.”

This means that you can start your subscription at the low, existing $149 price only today.  To take advantage of this and save go to www.garyascott.com/catalog/bldh

Until next message, good global investing!

Gary

The mission statement of our Multicurrency Educational Service is to help our readers learn how to spot trends find value and to be able to better communicate with their individual investment advisor.  Details are at http://www.garyascott.com/catalog/bldh

Peter Conradsen and  Henrik Villumsen from Jyske Bank will join me, to speak about multi currency investing at our next International business and investing course in Ecuador . Jyske Bank is one of the leading international investing and currency managers in the world. Their trading room process $50 billion of business a day. So this next course makes a huge amount of global investing information available to you. Details:

http://www.garyascott.com/catalog/international-business-made-ez-ecuador

Here are excerpts from a note from a delegate at our last course:

“Gary & Merri,

“Thank you both for an enlightening, memorable, informative five days that were filled with life-changing ideas and wisdom from you two. It was indeed an honor to attend your seminar.  I loved your stories and enjoyed hearing the joys and challenges of your journey… so far.  And look forward to the next chance we get to share some time with you.

“Merri, your meals were outstanding!  Wholesome food and delicious. At the meal we had when we reached Greensboro Tuesday evening we just looked at each other and shook our heads at the difference between the cooking we had experienced for the past few days at the farm and the usual restaurant fare.

“ Gary , the passion and understanding that flows from your presentations embraces the group and magic happens.  The wisdom you shared from your life experiences in writing and publishing was priceless and I can’t express in words the effect it had on me.

Thanks again!”

Join us for one, two or all three of our November 2007 courses. See http://www.garyascott.com/catalog/ecuador-tours-november-2007


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