The sequel to Debunk the Myths in Investing

From July 4 for a week or so, my book "Investing Strategies: Updated and Profitable", the sequel to "Profitable St "Debunk the Myths in Investing: Final Version" (click here for more description ), will be on sales. The price will gradually return to the normal price  which is still a bargain. It is risk-free (check amazon.com's return policy).

It has over 230 pages. If you find the first book is useful, read the description before ordering the second book. If you already have the first book, order this book during the promotion as there may not be a similar promotion. 
You can have any of my ebook free if you write a review on either book at amazon.com. When the review is posted, send me a message to pow_tony@yahoo.com and tell me which ebook  you want me to send you.

These offers are for limited time and most likely they will not be repeated. This blog will be deleted too as the offers might damage my selling these two books at regular prices, which are still bargains. The above offers are for Kindle version only. Kindle reader is available in almost all platforms including iPad and Windows.

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Hedge Fund 101

LTCM, with two Nobel-prize winners, best supporting team and best technologies then, ran their hedge funds into the ground. A lot of hedge funds are closed due to frauds.

The primary purpose is supposed to ‘hedge’ your investments from market plunges / dips. Since 2008, the government prints so much money (Chapter 51), the market recovers and the hedges (shorts, derivatives, etc.) deteriorate. In reality, most hedge funds do not hedge.

Hedge funds get tons of press coverage as the Holy Grail of investing. The media need the advertising from this $2.5 trillion industry. It is similar to a mutual fund but most tend to take more risk for better returns. Most require higher minimum investments and more restrictions (such as longer periods to withdraw the funds).

It could be the worst deal: 2% average up front and 20% average on your profit. It is more acceptable to me if the 20% is on profit over the S&P 500.

Well, if they make a lot of money for you, it is not too much to ask for. However, most risk your money by betting big recklessly. When they win, they get 20% of your profit and they use you for advertising to lure other suckers. When they lose your money, they do not lose a penny. It encourages them to take big risks. I do not know any hedge fund (HF) manager who pays you back your losses. 

You have better return by investing in no-load index funds or other diversified ETFs than an average hedge fund. To calculate the average hedge fund performance, you need to include those hedge funds that are out of business. 

There are many failed hedge funds most likely due to poor performances and/or outright frauds. To them, they just open another hedge fund (if they do not go to jail due to frauds) and give you all the excuse for losing your hard-earned money. Some lose their reputation but you need to check them out.

In 2011, the hedge fund industry did not beat the S&P 500 index fund [SPY also termed as the “market” for me for easy illustration] after fees. I bet the hedge fund industry did not beat the market either in 2012.

Some hedge fund managers learn modern portfolio theories from Ivy League universities and apply them in the hedge funds. Often their theories are wrong due to wrong testing procedures or cannot be maintained.

Some use their specialty in certain sectors and that's fine. If they use derivatives, be careful and that's what resulted in our 2007 financial crisis. Derivatives could reduce the risk of the portfolio if they are properly used. If you still want to invest in them, ask for their methods and their historical performance. Very few hedge funds are good. When you find a good hedge fund, most likely it has been closed to new investors or its fees are outrageous.

The owner of a famous baseball franchise lost big money from a hedge fund that concentrated in the oil sector.  Almost every ETF in this sector made good money that year. He still stayed with the hedge fund and had similar miserable return next year. I did not blame his first mistake, but on his sticking with the same hedge fund after a losing year. Some hedge funds give you a hard time to take your money out.

One hedge fund has a performance of 25% every year for a long period. The SEC, take notes and investigate whether they were using insiders' info. There are few hedge funds with consistent performance beating the market. If you find some, stay with them forever.

In 1980, this industry started with really capable fund managers and made good money for their clients. After that, every analyst wanted to open a hedge fund and most did not even beat the market after their expensive fees. Alternatively, just buy the ETF SPY and relax, instead of waiting for the hedge fund to wipe out your savings.  This industry is not properly regulated.

Do not believe in any articles / ads praising how great the hedge fund is without knowing their credibility and their hidden agenda. The hedge fund indexes usually ignore the survivor bias of the bankrupt hedge funds and the early exits of many hedge funds. In addition, it is legal to compare their hedge fund performance to the index such as S&P500 without including its dividends. It could make their hedge funds look far better.

Since the hedge funds very seldom keep the stocks more than a year, their capital gains will be short-term and hence are taxed at higher rates than the long-term capital gains. In addition, most funds have 1-3 year lock-up periods and only allow withdrawals on the first day of fiscal quarters.

Afterthoughts

·         From WSJ, from 1999-2008, the hedge fund industry beats the S&P 500 by 13% a year.

From WSJ, from 2009 thru July 2012, it lagged by almost 8%.

As I stated before, there are good managers using the right strategies in a bull market. When every analyst starts a hedge fund, their performance lags. After the overall maintenance fees 2% (1.4% average for mutual funds and .7% for ETFs) plus 20% fees on the profit, most hedge funds eat up your principals and profits!

In 2011, the average hedge fund lost money when the S&P 500 was flat. In 2012, the average hedge fund earned about 6% when the S&P 500 was up 13%. It is a ‘genius’ to buy an ETF representing the entire market instead a hedge fund.

·         Now hedge funds can advertise.

A pig wearing lipstick is still a pig. No one including Sarah can deny that.

If you run 5 hedge funds, you will advertise your best fund. Advertising industry will benefit and eventually their investors in hedge funds will pay for it.

http://finance.fortune.cnn.com/2013/07/10/sec-votes-to-let-hedge-funds-advertise/?iid=HP_River

·         A hedge fund article from SA.

http://seekingalpha.com/article/584861-hedge-funds-are-they-just-smooth-operators?source=kizur

·         Another hedge fund fraud.

http://money.cnn.com/2013/07/25/investing/sac-capital-charges/index.html?iid=HP_LN

·         Gold even managed by great hedge fund manager is down as of 7/2013.

http://www.cnbc.com/id/100855708

·         A famous hedge fund manager has big losses in JCP and shorting another company. It teaches us to diversify and be conservative.

http://money.cnn.com/2013/08/26/investing/bill-ackman-sells-jcpenney/index.html?iid=HP_River

·         Hedge funds must have a hard time in 2013. Hedging against a rising market is a fool’s game.

·         The average expense for mutual funds is 2% and it is probably more if you consider other fees such as trade commissions. In 50 years, the $10,000 investment will grow to $1,170,000 assuming a 10% return a year. However, about $700,000 will be the cost of the typical mutual fund. It will be better to buy an ETF (far lower fee) and avoid market plunges described in this book.  

A correction experience 6/2013

Expecting a 10% correction, I placed buy orders on certain stocks from my watch list with 5% to 10% discount from the current prices. As of 6/2013, the market only corrected itself by +/- 6%. Overall, I bought 8 stocks (with LCC bought twice) and all the purchase orders were executed on 6/24/13 in my largest taxable account. Because the market did not correct by the expected 10%, I had not executed more buy orders.

This demonstrates how to take advantage of a correction even though it has not been predicted 100% correct. This method works most of the time but not all of the time—as the market could decline further. On the very rough average, we have two dips (good opportunity to buy stocks) and two temporary yearly highs (good opportunity to sell stocks) each year.

After 1 month (7/24/13), the average return was 11% and the annualized return would be 131%.

The stocks bought and their performances

Stocks	Return	Annualized Return
ALK	21%	253%
BTU	7%	82%
CF	1%	18%
CRUS	16%	191%
LCC	18%	217%
MOS	-4%	-54%
OMX	12%	148%
LCC	16%	194%
Avg.	11%	131%
SPY	7%	89%
Beat SPY	47%	47%

As of today (7/24/13) I may start to sell more soon (LCC sold already) and place buy orders expecting another correction as the market has been too high. For tax efficiency, I usually do not sell if I do not have short-term losses to offset the gains in taxable accounts.

The average return (11%) for these 8 stocks is annualized to 131% while SPY’s YTD (16%) annualized to 29%. It is used to demonstrate how fast the return gain. The 131% is over-blown but it is used for comparing the market (i.e. SPY’s 29%). It will not be sustainable and should be smaller if we include the days of the cash not invested.

Beating the SPY for 47% indicates the good quality of the stocks in the watch list.

Conclusion

In order to take advantage of the dips, prepare by:

·         Accumulate cash before the dip. However, if the market keeps on rising, you may lose the extra gains for selling too early. We bet the market is at a temporary peak.

·         Preparing and updating a watch list for stocks to buy. If you do not have time to maintain such a list, buy ETFs such as SPY or any market ETFs that are commission-free from your broker.

If you do not have time to prepare such a list, try my list described in my book Best Stocks 2014 or later version. Be prepared to evaluate the stocks again.

(http://ebtonypow.blogspot.com/2013/11/reserved_5358.htm)

·         Timing is everything. It is harder to detect corrections than market plunges especially in light of the current excessive printing of money.

As of 2/5/14, I did sold some stocks taking advantage of the low-tax rate in long-term appreciation for 2014 and bought some stocks during this correction. Will update the performance. 

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Check out my book Market Timing: Profitable, Predictable and Preventive from Amazon.com.

Is a correction coming?

I see 15% correction due to the recent market rise. Though corrections are harder to detect than market plunges, I still have more rights than wrongs. There are many ways to protect yourself besides accumulating cash as illustrated in my book Market Timing: Profitable, Predictable and Preventive. 

The chance of a correction is high: 

1. All the technical indicators show the market is peaking and overbought.

2. Newton's Law of Gravity has never been proven wrong. What's goes up must come down.

3. We did not have one in 2013, so the time is ripe. The average is about one correction of 10% or more for a year.

4. Many articles on this coming correction could be a self-fulfilling prophesy.

5. Today's low volume indicates that the market may be changing direction. 

6. With the market that high, it does not convince me that I can make a lot of profit even if there is no correction.

I guess it would happen before the institution managers take vacations. These are the folks who move the market, not us the retail investors. Am I 100% sure? No. However, if it does not happen, I treat it as buying insurance (you buy it not hoping accidents happen). A good sleep is worth all the gold in the world.

http://www.amazon.com/dp/B00FJIEPUY