Good morning! Today Troy continues about the investing for beginners series. You can check the previous posts about What are stocks and how to value them, How does Currency Trading Work, How are Currencies Traded, Investing in Commodities, What Fundamentals Affect Commodity Prices, What are ETF’s, What are Options, How are Options’ Prices Structured, Investing for Beginners Part 2 – Different Investment Strategies, When does Buy and Hold not Work, An Unconventional Approach to Buy and Hold, An Unconventional Approach to Buy and Hold Part 2, How the Investment Advisor Game is Played
Welcome back to another post in our weekly Investing for Beginners series. In the past 3 posts we discussed how to make buy and hold work for you (using some rather unconventional methods). However, the main problem with buy and hold is that you cannot generate superior investment returns. This is where Secular Investing comes into play. It involves investing for longer time frames (3-5 years per investment) and incorporating the fundamentals of the global economy.
What is Secular Investing
In every market (excluding currencies), there are long term, 20ish year trends. These 20ish year trends are call secular trends. For example, stocks have long term bull markets (1980’s to 2000) and long term bear markets (late 1960’s to the end of the 1970s). Keep in mind that this “20 year” is a give-or-take number by a couple of years. Commodities (gold, silver, oil, copper, etc) also have 20ish year secular trends. For example, the early 1980 to 2000s were a secular bear market for commodity prices in general (over that 20 year period, commodity prices were virtually flat).
Now within every secular (20ish year) trend, there is are smaller 3-5 year waves. These smaller waves are the crux of secular investing. Whereas Buy and Hold will tell you to hold onto an investment for the entire 20 year secular bull market, secular investing means that you will try to catch each of the 3-5 year waves. These 3-5 year waves are called cyclical markets. If the overall direction of the market in a 3-5 year wave is down, then it is called a cyclical bear market. If the overall direction of the market in a 3-5 year wave is up, then it is called a cyclical bull market.
The key to secular investing is obvious. In the beginning of a cyclical bull market, buy long (bullish) positions in that market. E.g. if it’s a commodity cyclical bull market, buy commodities. If it’s a stocks cyclical bull market, buy commodities. Oppositely, if it’s a cyclical bear market, sell your existing investments or go short (profit from a price decline – this will be covered in later posts).
Obviously, the key question here is “how do I determine if it’s a cyclical bull market or a cyclical bear market?” The answer to that question is actually quite easy (contrary to popular opinion – you CAN determine if the market will go up or down).
The Market ALWAYS Lags Reality (the Fundamentals)
What is the market (whether it be the stock market, commodity market, or currency market)? The market is really just the sum total of investor sentiment (whether investors are bearish or bullish). Sentiment is really just how investors feel, also known as human psychology. And sorry to break it to you, human psychology (a.k.a. the market’s price) always lags reality (the fundamentals of the global economy). Why?
Because human nature does not like to change its mind. If the market has been going up up up for 5 years, what is the natural human reaction? “Stocks will go up the next year too!” But what if the fundamentals of the economy (in the case of stocks) goes against the direction of the stock market?
- At first, the stock market will keep going up because people are in disbelief. They do not believe that the economy is turning sour.
- Eventually, the stock market will fall and follow which direction the economy is going in.
Legendary investor Jim Rogers once said “I always use public information”. To some this may be quite a shocker – we’re preordained to believe that only the super-knowledgable can know what’s going on in the economy. The reality is, the fundamentals are right in front of your eyes! Just taking a quick glance at the economic data (see Briefing.com – and no, this is not an endorsement for that website) will tell you how the economy is performing.
There are different sets of fundamentals that influence different markets. For stocks, see below:
- For the U.S. stock market, the U.S. economy is all that matters. Europe may be in shambles (as was the case in 2011), but as long as the US economy is doing ok, stocks will go up.
- For other stock markets (e.g. the Japanese stock market), there are 2 factors that affect their market: their domestic economy (e.g. the Japanese stock market) and the U.S. economy. Such is the power of America.
For commodities, there are 2 factors:
- Good old fashioned demand (since supply doesn’t change much, supply isn’t that important). Demand is tied to the global economy, and specifically to the Chinese economy (because of how fast the Chinese are rebuilding their country). If China slows down, you can bet demand for raw materials will slow down.
- Inflation, and particularly American inflation. Because all commodities are listed in USD, inflation in the U.S. is good for commodities. How can you gauge inflation? Simple – just go to the grocery store!