March 23, 2013
I actually read Martin Pring’s latest book Investing in the Second Lost Decade: A Survival Guide for Keeping Your Profits Up When the Market Is Down prior to reading The Investor’s Guide to Active Asset Allocation: Using Technical Analysis and ETFs to Trade the Markets. I thought Investing in the Second Lost Decade was an outstanding book and it prompted me to read his earlier work. If you’re a value investor and are already turned off by the use of technical analysis in the title, don’t be so easily discouraged. The Investor’s Guide to Active Asset Allocation is really about tactical asset allocation and following trends in the business cycle to identify the ideal asset class mix in a portfolio. I think the biggest lesson that most value investors learned following the 2008 financial crisis is that by being a “bottom-up” stock picker you can’t simply ignore the macroeconomic outlook. Even David Einhorn, a successful value investor, has publicly stated his belief that investors can no longer ignore the big picture. During a talk at the Value Investing Congress a few years ago he stated the following: “The lesson that I have learned is that it isn’t reasonable to be agnostic about the big picture. For years I had believed that I didn’t need to take a view on the market or the economy because I considered myself a “bottom up” investor. Having my eyes open to the big picture doesn’t mean abandoning stock picking, but it does mean managing the long-short exposure more actively, worrying about what may be brewing in certain industries, and when appropriate, buying some just-in-case insurance for foreseeable macro risks even if they are hard to time.”
Martin Pring is a noted investor in his own right and has written numerous books on technical analysis and investing. The purpose of The Investor’s Guide to Active Asset Allocation is to introduce investors to the idea that business cycles are a part of all modern economies and progress through a set sequence of events, which are driven by the actions of central bankers. The business cycle is essentially the movement of the economy from recession to recovery to growth to a slowdown and back to recession. Pring has actually identified six stages in the business cycle and has gone into great detail about which asset classes tend to outperform during each stage. Pring focuses on three primary assets classes, which are bonds, equities and commodities. During a downturn bonds bottom first, then equities and finally commodities as the economy begins to recover. During an expansion bonds peak first, followed by equities and commodities peak prior to the onset of the next downturn. Interestingly, I noticed a similar phenomena occurring during the 2008 crisis but didn’t really identify the pattern until I read The Investor’s Guide to Asset Allocation. During 2007, I was an equity analyst for a global long/short fund and covered the financial sector, globally. I remember distinctly that interest rate sensitive stocks were underperforming as early as 2H 2006, well ahead of the 2008 recession as the Fed began hiking interest rates. At the same time, the commodity sector continued to perform well until the beginning of 2008 despite the onset of the credit crisis and bankruptcy of subprime broker New Century Financial in early 2007. After reading Martin Pring’s book, the pattern of sector under and outperformance became evidently clear over the course of the 2008 cycle.
In addition to explaining the main stages of the business cycle, the second major theme running through the book is the use of technical and intermarket analysis to identify each stage of the business cycle. Pring identifies a number of barometers or indicators that he’s created to help him identify the various stages of the business cycle. I’m not a big user of technical analysis but I was able to follow most of the discussion. Pring definitely assumes the reader has some familiarity with technical analysis. I think he could have done a better job of describing the calculations for some of the various barometers mentioned. I also appreciated his approach which involved reviewing economic, monetary and technical indicators. I think this holistic approach will help investors improve their ability to correctly identify the correct stage of the business cycle.
I think Chapter 11 is probably the most useful for value investors as it discusses how the various market sectors perform over the course of the business cycle. As a value investor you screen for securities that are trading near 52 week lows to identify securities that could be potentially undervalued. Typically this process is hit or miss because you’re not really sure why the particular security is trading so cheaply. With Pring’s approach you can identify entire sectors that are underperforming at a particular stage in the business cycle, allowing you to better identify individual securities to purchase. For example, interest rate sensitive sectors such as the homebuilders tend to bottom prior to other sectors during a downturn. As an investor you can use this knowledge to invest into the sector as it is in the bottoming process. Essentially, by using sector allocation you can improve you investment success by purchasing securities that have the potential to outperform as the business cycle moves to a new stage. I have also reviewed another book titled Value Returns, that advocates a tactical approach to value investing. You can read the full review here. However, I think The Investor’s Guide to Asset Allocation provides much more detailed research and analysis into how the business cycle impacts various asset classes. If you’re looking for a way to improve your asset allocation process, I would highly recommend reading the book.