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F.A.N.G. Investing Makes Sense – Facebook, Amazon, Netflix, Google
As market volatility reached new highs this week, CNBC began talking about something called “FANG Investing.” Most commentators showed great displeasure in the fact that prior to the recent downturn, high-growth companies such as Facebook (NASDAQ: FB ), Amazon (NASDAQ: AMZN ), Netflix (NASDAQ: NFLX ) and Google ( GOOG , GOOGL ) (FANG) had performed much better than all the major market indices. And in the short burst of recent recovery, these companies again seemed to be doing much better. Coined by “CNBC Mad Money” host Jim Cramer, he felt that FANG investing was bad for investors . Cramer said he preferred seeing a much larger group of companies would go up in value, thus representing a much more stable marketplace. Sound like Wall Street gobbledygook? Good. Because as an individual investor, why should you care about a stable market? What you should care about is your individual investments going up in value. And if yours go up and all others go down, what difference does it make? Most financial advisers today actually confuse investors much more than help them. And nowhere is this more true than when discussing risk. All financial advisers (brokers in the old days) ask how much risk you want as an investor. If you’re smart you say “None.” Why would you want any risk? You want to make money. Only this is the wrong answer, because most investors don’t understand the question – because the financial adviser’s definition of risk is nothing like yours. To a broker, investment risk is this bizarre term called “beta,” created by economists. They defined risk as the degree to which a stock does not move with the market index. If the S&P down 5% and the stock goes down 5%, then they see no difference between the stock and the “market”, so they say it has no risk. If the S&P goes up 3% and the stock goes up 3%, again, no risk. But if a stock trades based on its own investor expectation and does not track the market index, then it is considered “high-beta”, and your broker will say it is “high-risk”. So let’s look at Apple (NASDAQ: AAPL ) over the last 5 years. If you had put all your money into Apple 5 years ago, you would be up over 200% – over 4x. Had you bought the S&P 500 index, you would be up 80%. Clearly, investing in Apple would have been better. But your adviser would say that is “high-risk”. Why? Because Apple did not move with the S&P. It did much better. It is therefore considered high-beta and high-risk. You buy that? Thus, brokers keep advising investors buy funds of various kinds. Because the investors says she wants low risk, they try to make sure her returns mirror the indices. But it begs the question, why don’t you just buy an exchange-traded fund (NYSEMKT: ETF ) that mirrors the S&P or Dow and quit paying those fund fees and broker fees? If their approach is designed to have you do no better than the average, why not stop the fees and invest in those things which will exactly give you the average? Anyway, what individual investors want is high returns. And that has nothing to do with market indices or how a stock moves compares to an index. It has to do with growth. Growth is a wonderful thing. When a company grows, it can write off big mistakes and nobody cares. It can overpay employees, give them free massages and lunches, and nobody cares. It can trade some of its stock for a tiny company – implying that company is worth a vast amount – in order to obtain new products it can push to its customers, and nobody cares. Growth hides a multitude of sins and provides investors with the opportunity for higher valuations. On the other hand, nobody ever cost cut a company into prosperity. Layoffs, killing products, shutting down businesses and selling assets does not create revenue growth. It causes the company to shrink and the valuation to decline. That’s why it involves lower risk to invest in FANG stocks than in those so-called low-risk portfolios. Companies like Facebook, Amazon, Netflix, Google – and Apple, EMC Corp. (NYSE: EMC ), Ultimate Software (NASDAQ: ULTI ), Tesla (NASDAQ: TSLA ) and Qualcomm (QCOMM), just to name a few others – are growing. They are firmly tied to technologies and products that are meeting emerging needs, and they know their customers. They are doing things that increase long-term value. McDonald’s (NYSE: MCD ) was a big winner for investors in the 1960s and 1970s, as fast food exploded with the Baby Boomer generation. But as the market shifted, McDonald’s sold off its investments in trend-linked brands Boston Market and Chipotle (NYSE: CMG ). Now, its revenue has stalled and its value is in decline as it shuts stores and lays off employees. Thirty years ago, General Electric (NYSE: GE ) tied its plans to trends in medical technology, financial services and media, and it grew tremendously, making fortunes for its investors. In the last decade, it has made massive layoffs, shut down businesses and sold off its appliance, financial services and media businesses. The company is now smaller, and its valuation is smaller. Caterpillar (NYSE: CAT ) tied itself to the massive infrastructure growth in Asia and India, and it grew. But as that growth slowed, the company did not move into new businesses, so its revenues stalled. Now, its value is declining as it lays off employees and shuts down business units. Risk is tied to the business and its future expectations, not how a stock moves compared to an index. That’s why investing in high-growth companies tied to trends is actually lower-risk than buying a basket of stocks – even when that basket is an index like the DIA or SPY. Why should you own the low-or no-growth dogs when you don’t have to? How is it lower-risk to invest in a struggling McDonald’s, GE or Caterpillar or some basket that contains them than investing in companies demonstrating tremendous revenue growth? Good fishermen go where the fish are. Literally. Anybody can cast out a line and hope. But good fisherman know where the fish are, and that’s where they invest their bait. As an investor, don’t try to fish the ocean (the index.) Be smart, and put your money where the fish are. Invest in companies that leverage trends, and you’ll lower your risk of investment failure, while opening the door to superior returns.
You Hedged Like We Suggested… Now What?
In my last article I said unless we could rally this summer we’d be in for tough times. I cited the sectors our firm was selling. And provided, for your due diligence, a suggestion for hedging with ETFs. Where does that lead us today? In my last article (August 12,) I wrote “Indeed, unless we can mount a rally in the next six to eight weeks, it may be a long cold winter that follows this long hot summer before we can get back to moving forward.” Those words may seem prophetic now but they were really nothing but common sense. When a plant grows bushy and full, it usually means it is healthy. When it grows straight and willowy, it usually indicates a problem of some sort. It’s the same with markets. As long as all sectors are moving along – at different speeds, of course, but still moving in the same direction – then things are likely to continue in that direction. But when some 20% of all stocks in the S&P 500 are down 10% or more, and most others are flat to a little down or a bit up, trouble is brewing. Yes, Apple, Amazon, Google and Netflix were still roaring ahead providing, because of their large market cap, an inaccurate picture of “the markets.” As a result of this dichotomy I wrote, “We’re reallocating our portfolio strategy to reflect what we believe to be the likelihood of a dull market that vacillates between heightened expectations and dashed expectations. That means lightening up on developing markets, energy, industrials, materials, utilities and even some technology firms.” That meant pretty much everything! I advocated buying a couple unique situations as well as “shares of ProShares UltraShort S&P 500 (NYSEARCA: SDS ), which moves inverse to the S&P 500 at double the rate of movement, as well as shares of the iPath S&P 500 VIX (NYSEARCA: VXX ), which is a reflection of the volatility I imagine we’ll be seeing more of in the coming weeks and months.” Via client and subscriber e-mail, we’ve since added shares of AdvisorShares Ranger Equity Bear ETF (NYSEARCA: HDGE ) to this mix. But our best purchase decision of 2 weeks ago was not as a hedge for our long positions but as an outright short on hubris and autocracy, shares of Direxion CSI 300 China A Shares (NYSEARCA: CHAD ). CHAD is an unleveraged short on the 300 largest and most liquid Chinese A Share companies. All of these hedges served their purpose, with VXX up more than 17% on Monday, August 24th, and CHAD up greater than 12% that day. What to do now? I wish I could tell you that we are covering or placing trailing stops under these marvelous hedges, taking our profits, and beginning to reinvest in fine, now cheap, companies. But I cannot. We are in fact using any bounces – and they will come; no market goes straight up or straight down – to sell. We’re doing so even if it means taking small losses on the long side. I simply don’t see a catalyst that will make this week-long crash a distant memory with the market marching inexorably higher. I see such a hope as unsustainable in the real world, the real world consisting of a collapsing Chinese economy (about which we have warned in numerous previous articles;) a Russia unable to sell its only “product” for more than it costs to produce it; an Iran bloated with the gift of tens of billions of dollars with which to foment terror; Brazil; a dithering Fed; Greece; and on and on. If you are thinking of buying something on any bounce, may I suggest that the above VXX, HDGE, SDS and CHAD might be fine choices to serve as a hedge for any long positions you choose to keep. And I do think you should keep some long positions. For us, the washed-out Big Energy firms are now looking very attractive, for instance. I’m not advocating selling everything. Indeed, I have written puts in our family and some client accounts on Apple. If it never gets put to us, we’ll enjoy the free money from those who think it will crash severely. And if it is put to us, I’m OK owning Apple at 10 times trailing, understated, earnings. We’re also adding to our energy exposure during this selloff – Royal Dutch Shell (RDS-B) for 12 times earnings and a 5.5% yield? I’m OK with waiting for it to recover. No fancy algorithms, no Fibonacci technicals, nothing complicated. Just good old-fashioned stock-picking with a very large hedged position, under which we’ll place trailing stops in what I hope will be the not too distant future. And, at this rate (not that I expect it to continue at this rate!) a full-blown bear market of a 20% or greater decline could be on us by mid-September! While we take a certain pride in having advised exiting most long sectors just 12 days ago and instead buying the short hedges above, the market will always make fools of those who rest on their laurels. We remain keenly focused on each day’s market action and look forward to responding to the best of our ability, come what may… _________________ Disclaimer: As Registered Investment Advisors, we believe it is essential to advise that we do not know your personal financial situation, so the information contained in this communiqué represents the opinions of the staff of Stanford Wealth Management, and should not be construed as “personalized” investment advice. Past performance is no guarantee of future results, rather an obvious statement but clearly too often unheeded judging by the number of investors who buy the current #1 mutual fund one year only to watch it plummet the following year. We encourage you to do your own due diligence on issues we discuss to see if they might be of value in your own investing. We take our responsibility to offer intelligent commentary seriously, but it should not be assumed that investing in any securities we are investing in will always be profitable. We do our best to get it right, and we “eat our own cooking,” but we could be wrong, hence our full disclosure as to whether we own or are buying the investments we write about. Disclosure: I am/we are long VXX, CHAD, SDS, HDGE. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.