A Review of Our Investment Strategy
As seen in Paragon's second quarter 2008 print newsletter
Written by Nathan White, CFA
Photo by Kevin Dooley
We've had a good year so far relative to our benchmarks (S&P 500 and Lehman Bond Index).
Our models kept us fully invested during March as the credit crisis hit full steam with the Bear Stearns collapse unfolded and the markets sold off.
I must confess during that time the mood was so foul that I kept “wishing” some of our models would get the Top Flight portfolio to some cash. The mood got so foul that our sentiment indicators all reached extreme levels where they tend to produce very accurate signals.
For example, one short-term sentiment indicator that we use is the CBOE Put/Call ratio. It reached an extreme level during the middle of March and on August 16th and the first part of March in 2007. The markets rallied nicely after each of these signals.
Because the market sentiment was so low during March it kept many investors on the sidelines causing them to miss the rally that lasted through April. During June it produced a sell signal and we have subsequently reduced our exposure in the portfolios.
Our intermediate to long-term models are still on buys or holds and we will wait for them to produce sell signals before reducing our exposure any further. One of my favorite long-term models measures the fundamental and technical strength of stocks in the S&P 500. Each stock is rated as a buy, sell, or hold and the model provides signals based upon the percentage of stocks with buy or hold ratings.
This is a sort of “bottom-up” analysis that is used in conjunction with other “top-down” macro-type indicators. This signal was bearish ahead of the 87 crash, the 1990 and 1994 bear markets, the 1998 Asian currency crisis, and the tech meltdown at the beginning of decade. So far through 2008 and for all of 2007 this model has not produced a bearish signal so perhaps what is occurring with the credit crisis will not end up being as bad as is widely expected.
With the continued strength of oil and other commodities our screens are subsequently dominated by energy and natural resource sectors and industries. In June we reduced our exposure to the energy areas as we felt that most of the upside has already been seen with many of these areas and any further return is not worth the risk.
Our screen also has us invested in the transportation sector which with the price of energy one would think would be at the bottom of the list. It has so far performed better than the market on a relative basis and if energy does take a dip it has some good upside potential. The summer is generally a weaker period for the markets as a whole so we will look to our models to guide us through. Stay tuned.
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