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October 3, 2011

Rowing vs. Sailing – How to Invest in a Bull Market vs. a Bear Market

From 1982 to 2000 the Dow Jones Industrial Average rose a cumulative 1,408% over a 17.5 year period, one of the greatest bull markets of our generation.  In the last decade, this same index is down a cumulative 11%.* It’s…

Rowing vs. Sailing – How to Invest in a Bull Market vs. a Bear Market

From 1982 to 2000 the Dow Jones Industrial Average rose a cumulative 1,408% over a 17.5 year period, one of the greatest bull markets of our generation.  In the last decade, this same index is down a cumulative 11%.* It’s no wonder investors today have been frustrated and confused about how to approach this very different market.

Just like most things in life, the stock market moves in cycles.  Recognizing the secular market trend is an extremely important first step towards understanding what type of investment philosophy is prudent in the medium to long term.

Long term positive market movements allow for a more passive management style.  Whereas long term stagnant or declining periods require a more active approach. This balance of active and passive management styles is best illustrated by the concept of sailing versus rowing.

Sailing

Many advisors who have been in the financial industry for 20 to 30 years have built their careers on a diversified strategic investment philosophy; a long term investment strategy, based on the view that in the long run financial markets give a good rate of return despite periods of volatility or decline.

This way of investing works particularly well during periods of strong market growth referenced above in the raging bull markets of the 80’s and 90’s.  Envision this type of secular bull market where nice advances are being made over the long term, as a period with a strong wind at your back. You can raise the sails and allow the natural market forces to guide your portfolio to solid returns.  Over a 17.5 year period, 1982-2000, the market annualized 16.84%.  There wasn’t much more to do than just be invested, sit back, and watch your portfolio grow.

Rowing

Conversely, during secular bear markets, these tailwinds shift direction and create headwinds that can slow or stop your portfolio progress all together. It is during these periods that you must reign in the sails and cast out your oars in order to row your portfolio forward, actively avoiding market turbulence while seizing short term opportunity.  This is the definition of tactical management.

Tactical portfolio managers constantly measure risk versus reward to efficiently utilize equities, fixed income and cash to control portfolio volatility.

The Lost Decade

Many investors have experienced poor performance over the last 10 years because they are primarily following the same “sailing” strategies best used during a bull market. The secular headwinds dictated that they should have included a more active “rowing” strategy to protect themselves in the more volatile and challenging market of this time.

By not recognizing the shift in the market and changing their strategy accordingly, many advisors and their clients lost an entire decade of opportunity.

At South Coast Investment Advisors the concept of tactical management along with the use of alternative investments is hardly a novel concept.  Using tactical managers and hard assets to reduce overall volatility in a portfolio is a strategy our team has used for years.  But for many advisors who grew their practice on the success of the buy and hold strategy through the raging bull markets of the 80’s and 90’s, these concepts are something fairly new.  Many of these same advisors have lacked the flexibility to change investment philosophies as the markets have changed, having left their clients’ portfolios in a sail boat with no wind.  A tactical investment allocation could have painted a very different picture of what the last ten years could have looked like.

Considerations

One of the first things that I tell a new client is that I have no idea what the stock market is going to do tomorrow and I refuse to predict because in some cases I will be wrong.  Much of the movement is based on human emotion.  However, one can prepare their portfolio to be more defensive or more aggressive depending on which way he or she feels the market is going to move.  A bear market tends to call for a more tactical portfolio, and a bull market, a more strategic approach.  By recognizing trends and having flexibility in a plan, we can not only protect principal and purchasing power over time but also achieve consistent returns without the roller coaster ride experience.  It’s time to turn money management back into a positive experience.

-Posted by Chris

 

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