Best of the Week
Most Popular
1. Gold vs Cash in a Financial Crisis - Richard_Mills
2.Current Stock Market Rally Similarities To 1999 - Chris_Vermeulen
3.America See You On The Dark Side Of The Moon - Part2 - James_Quinn
4.Stock Market Trend Forecast Outlook for 2020 - Nadeem_Walayat
5.Who Said Stock Market Traders and Investor are Emotional Right Now? - Chris_Vermeulen
6.Gold Upswing and Lessons from Gold Tops - P_Radomski_CFA
7.Economic Tribulation is Coming, and Here is Why - Michael_Pento
8.What to Expect in Our Next Recession/Depression? - Raymond_Matison
9.The Fed Celebrates While Americans Drown in Financial Despair - John_Mauldin
10.Hi-yo Silver Away! - Richard_Mills
Last 7 days
Coronavirus China Infection Statistics Analysis, Probability Forecasts 1/2 Million Infected - 21st Feb 20
Is Crude Oil Firmly on the Upswing Now? - 20th Feb 20
What Can Stop the Stocks Bull – Or At Least, Make It Pause? - 20th Feb 20
Trump and Economic News That Drive Gold, Not Just Coronavirus - 20th Feb 20
Coronavirus COVID19 UK Infection Prevention, Boosting Immune Systems, Birmingham, Sheffield - 20th Feb 20
Silver’s Valuable Insights Into the Upcoming PMs Rally - 20th Feb 20
Coronavirus Coming Storm Act Now to Protect Yourselves and Family to Survive COVID-19 Pandemic - 19th Feb 20
Future Silver Prices Will Shock People, and They’ll Kick Themselves for Not Buying Under $20… - 19th Feb 20
What Alexis Kennedy Learned from Launching Cultist Simulator - 19th Feb 20
Stock Market Potential Short-term top - 18th Feb 20
Coronavirus Fourth Turning - No One Gets Out Of Here Alive! - 18th Feb 20
The Stocks Hit Worst From the Coronavirus - 18th Feb 20
Tips on Pest Control: How to Prevent Pests and Rodents - 18th Feb 20
Buying a Custom Built Gaming PC From Overclockers.co.uk - 1. Delivery and Unboxing - 17th Feb 20
BAIDU (BIDU) Illustrates Why You Should NOT Invest in Chinese Stocks - 17th Feb 20
Financial Markets News Report: February 17, 2020 - February 21, 2020 - 17th Feb 20
NVIDIA (NVDA) GPU King For AI Mega-trend Tech Stocks Investing 2020 - 17th Feb 20
Stock Market Bubble - No One Gets Out Of Here Alive! - 17th Feb 20
British Pound GBP Trend Forecast 2020 - 16th Feb 20
SAMSUNG AI Mega-trend Tech Stocks Investing 2020 - 16th Feb 20
Ignore the Polls, the Markets Have Already Told You Who Wins in 2020 - 16th Feb 20
UK Coronavirus COVID-19 Pandemic WARNING! Sheffield, Manchester, Birmingham Outbreaks Probable - 16th Feb 20
iShares Nasdaq Biotechnology ETF IBB AI Mega-trend Tech Stocks Investing 2020 - 15th Feb 20
Gold Stocks Still Stalled - 15th Feb 20
Is The Technology Stocks Sector Setting Up For A Crash? - 15th Feb 20
UK Calm Before Corona Virus Storm - Infections Forecast into End March 2020 - 15th Feb 20
The Growing Weaponization of Space - 14th Feb 20
Will the 2020s Be Good or Bad for the Gold Market? - 14th Feb 20
Predictive Modeling Suggests Gold Price Will Break Above $1650 Within 15~30 Days - 14th Feb 20
UK Coronavirus COVID-19 Infections and Deaths Trend Forecast 2020 - 14th Feb 20
Coronavirus, Powell and Gold - 14th Feb 20
How the Corona Virus is Affecting Global Stock Markets - 14th Feb 20
British Pound GBP Trend and Elliott Wave Analysis - 13th Feb 20
Owning and Driving a Land Rover Discovery Sport in 2020 - 2 YEAR Review - 13th Feb 20
Shipping Rates Plunge, Commodities and Stocks May Follow - 13th Feb 20
Powell says Fed will aggressively use QE to fight next recession - 13th Feb 20
PALLADIUM - THIS Is What a Run on the Bank for Precious Metals Looks Like… - 13th Feb 20
Bitcoin: "Is it too late to get in?" Get Answers Now - 13th Feb 20
China Coronavirus Infections Soar by 1/3rd to 60,000, Deaths Jump to 1,367 - 13th Feb 20
Crude Oil Price Action – Like a Coiled Spring Already? - 13th Feb 20
China Under Reporting Coronavirus COVID-19 Infections, Africa and South America Hidden Outbreaks - 12th Feb 20
Will USD X Decline About to Trigger Precious Metals Rally - 12th Feb 20
Copper Market is a Coiled Spring - 12th Feb 20
Dow Theory Stock Market Warning from the Utilities Index - 12th Feb 20
How to Get Virgin Media Engineers to FIX Hub 3.0 Problems and NOT BS Customers - 12th Feb 20
China Under Reporting Coronavirus COVID-19 Infections by 66% Due to Capacity Constraints - 12th Feb 20
Is Coronavirus the Black Swan That Takes Gold To-Da-Moon? - 12th Feb 20
Stock Market 2020 – A Close Look At What To Expect - 12th Feb 20
IBM AI Mega-trend Tech Stocks Investing 2020 - 11th Feb 20
The US Dollar’s Subtle Message for Gold - 11th Feb 20
What All To Do Before Opening A Bank Account For Your Business - 11th Feb 20
How and When to Enter Day Trades & Swing Trade For Maximum Gains - 11th Feb 20
The Great Stock Market Dichotomy - 11th Feb 20
Stock Market Sector Rotation Should Peak Within 60+ Days – Part II - 11th Feb 20
CoronaVirus Pandemic Stocks Bear Market Risk 2020? - Video - 11th Feb 20

Market Oracle FREE Newsletter

Nadeem Walayat Financial Markets Analysiis and Trend Forecasts

Investing and the Passive Management Bubble

Companies / Investing 2014 Dec 16, 2014 - 03:33 AM GMT

By: Michael_Pento

Companies

We have happened upon that time in the investment cycle when investors vastly eschew active management of their assets in favor of a more passive management style. In fact, I read recently 461 Hedge Funds, a hallmark of active investment management, shut their doors in the first half of this year alone. If liquidations continue at that rate, they'll outpace the 1,023-closure record from 2009. All signs now indicate that active management has fallen out of vogue.


And why wouldn't it? Index funds have done very well these past few years; whereas active managers have underperformed the major averages. The problem is when everyone piles into or out of the same investment philosophy, it usually signals it's time to change course. Therefore, I predict the tides will soon change and active management will make a huge comeback.

Passive investing, such as Index mutual funds, is an easily understood investing style that allows you to access broad segments of the market. Indexing has been called investing on autopilot. This is a strategy that tends to work well, until it doesn't. Take the mid to late 90's, when it appeared the stock market would always go up. Everyone from your hairdresser to the cab driver was a stock genius. New websites such as the Motley Fool preached that you didn't need an investment advisor--just buy a broad basket of stocks (especially in the technology sector) and you would get rich. And, if got out before March 10, 2000, you were all set.

However, if you failed to get out then, we all know what happened--your portfolio quickly crashed and caused the loss of $5 trillion in the market value of companies from March 2000 to October 2002. During this time, only managers who offered a long/short and dynamic asset allocation strategy produced positive returns.

Another feature of the passive investment approach argues that you don't have to actively manage your investments as long as you stay diversified. This is referred to as the Modern Portfolio Theory (MPT). MPT is a mathematical formulation that creates diversification in investing, with the aim of selecting an assortment of investment assets that have a collectively lower risk than any individual asset. This is possible, so the theory goes, because different types of assets often change in value in opposite ways. For example, the stock market often moves in the different direction from yields in the bond market. Therefore, a pool of both types of assets can nearly always (in theory) offer lower overall risk than holding just one asset class exclusively.

But this doesn't always work. Consider the 1970's, a time when stock prices fell, while bond yields soared. Investors who remember the protracted bear market of 1970-1982, know that during this time both stocks and bond prices went down in tandem.

During the 1960's, investors were persuaded to enter into a basket of large-cap stocks called the Nifty Fifty. If they were diversified, as the MPT suggested, they would have also been in bonds yielding around 4%-5%. The Nifty Fifty coupled with your 4%-5% bond would have worked pretty well during this time period, until it didn't. Holding this diversified portfolio would have left you in a house of pain during the mid and late 1970's, as the S&P 500 dropped around 50% and the Ten-year Treasury note went from 4%, to over 15% by 1981. The stagflation in the 1970's caused both stocks and bonds to fall in tandem.

So where are we now? I have stated for a while that it is my belief the United States -- along with the rest of the developed world--are facing an entirely new paradigm. Namely, that such onerous and record debt levels have now reached a point where government revenue will become woefully insufficient once interest rates normalize. Therefore, the developed world must choose the manner in which they will default on the debt. Central banks will be forced to either monetize mountains of debt, or allow a deflationary depression to wipe out the economy.

With bond yields already at historic lows, brought about artificially by massive central bank manipulation of bond prices, the next time a recession occurs it is much more likely we will have a debt crisis due to a lack of revenue available to service government debt.

The European bond crisis was all about such a fiscal disaster, not the prevailing rate of inflation at that time. Investors did not flock into the "safety" of bonds during their financial crisis of 2008. Instead, the Greek 10-year Note, which averaged around 5% just prior to the crisis, soared to near 40% by March 2012. However, the rate of inflation averaged just 1.5% during that same time frame. Bond yields soared because owners of sovereign debt became assured that Greece would either have to pay investors back in worthless currency or renege on the principal and interest of its debt. As it turns out, Greece used both methods of default.

A true fiscal crisis always leads to sovereign default -- either through inflation, a debt restructuring or both. Another recession similar to the Debt Crisis of 2008 will most likely bring down both stock and bond prices. Only this collapse in bond prices may not be caused by inflation right away, but instead will be the result of a severe revenue dearth due to a collapsing economy. A diversified portfolio of Index and bond funds will not provide much security in this case.

The easy monetary policies of global central banks have not only brought about serial asset bubbles, but these market manipulators have also created a new bubble...one where most investors have been lulled to sleep with a false feeling of comfort. What they believe to be a diversified portfolio may instead prove to be a group of highly-correlated asset classes.

These investors are also convinced that they have become buy and hold geniuses, duped by central banks into believing the passive management style of investing can never fail. But if stock and bond prices plunge together in the next recession, investors will then flock back into the active management style of investing, as they realize the need to have a manager that can not only move between asset classes (including precious metals), but also has the flexibility to profit from a decline in the market.

Michael Pento is the President and Founder of Pento Portfolio Strategies and Author of the book “The Coming Bond Market Collapse.”

Respectfully,

Michael Pento
President
Pento Portfolio Strategies
www.pentoport.com
mpento@pentoport.com

Twitter@ michaelpento1
(O) 732-203-1333
(M) 732- 213-1295

Michael Pento is the President and Founder of Pento Portfolio Strategies (PPS). PPS is a Registered Investment Advisory Firm that provides money management services and research for individual and institutional clients.

Michael is a well-established specialist in markets and economics and a regular guest on CNBC, CNN, Bloomberg, FOX Business News and other international media outlets. His market analysis can also be read in most major financial publications, including the Wall Street Journal. He also acts as a Financial Columnist for Forbes, Contributor to thestreet.com and is a blogger at the Huffington Post.
               
Prior to starting PPS, Michael served as a senior economist and vice president of the managed products division of Euro Pacific Capital. There, he also led an external sales division that marketed their managed products to outside broker-dealers and registered investment advisors. 
       
Additionally, Michael has worked at an investment advisory firm where he helped create ETFs and UITs that were sold throughout Wall Street.  Earlier in his career he spent two years on the floor of the New York Stock Exchange.  He has carried series 7, 63, 65, 55 and Life and Health Insurance Licenses. Michael Pento graduated from Rowan University in 1991.
       

© 2014 Copyright Michael Pento - All Rights Reserved
Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Michael Pento Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules