Saturday, October 1, 2022

Adapting to the Table

Happy October to everyone!

I started this investing/blogging journey off almost one year ago with a desire to self-manage my own nest egg. At the time an advisor managed everything for 89bps and with ~$270K that works out to $2.4K annually. Why not take a portion of that fee and invest in myself?  And so Dividend Town was born!

After careful research I decided that a dividend growth strategy was right for my risk profile. I love the idea of larger, stable companies providing some modest growth and opportunities for reinvestment along the way. Also, I found the research of these companies infinitely easier as there was a given set of criteria I could measure to find investment opportunities. I'm a data/spreadsheet jockey, so tools were created, screeners consolidated, rankings assigned, and I felt very comfortable I have the tools to pick the best of breed in each sector for longer term dividend growth investing. 

I wish it need not have happened in my time,

Through 2022 the dips starting dipping further and while my investing strategy yielded losses I carefully managed the risk of the portfolio to ensure losses were less than the overall market. As the year went on I became increasingly concerned about the overall macro environment. While I had a smaller portfolio at the time, I've been through 2004 & 2008 and saw >50% drawdown each time and I started to recognize the same warning signs that wisdom and experience bring. I reduced my beta considerably (from about 0.80 to 0.33), shifted into safer asset classes (consumer staples rather than tech), upped my cash percentage and assured myself this was a safer approach. But even with these changes I was NOT feeling reassured by swings in the market. 

As an investor it's important to recognize when 'poker table' has changed. Are you a 'rock' playing against a table of aggressive bluffers? That's an ideal scenario. Sacrifice blinds and get a payoff when the odds are in your favor. But are you a 'rock' playing against a table of other 'rocks'?  No one has the advantage and the vig slowly eats your money.  (For you non-poker players, a 'rock' is someone that an exceptionally tight player that only plays the best of hands)

I want to use a dividend growth investing strategy, but I don't believe it's the optimal strategy for the next 6-12 months. Could I continue to plow new capital and reinvestment into solid dividend producing companies? Yes, but I believe the risk outweighs the reward and will ultimately yield damage to my hard earned capital. I take risk management seriously through beta and sector management, and I need to take it seriously through the investing style.

From an investing standpoint, these types of 'once-in-a-decade' events should give investors cognitive dissonance. In 2007-2008 as the financial crisis was starting to explode, I received notices from my bank about 'staying the course' or 'consider the long-term'.  As I stayed the course and lost 50% of my capital, those that created the crisis received bonuses. Remember that?  

That cognitive dissonance that you experience should be a learning experience. You should sit with that discomfort and see where it goes. Maybe you continue along your current strategy, or maybe you integrate other elements that you had not considered into your investing strategy. 

There's plenty of macro economic news so I won't rehash it. Suffice it to say that interest rate hikes take time to work economies and financial systems and I believe the downside risk (derivative blowups, hidden leverage, sticky inflation) is much too large at the moment. So over the last month I've returned to about a 70% - 75% cash position and will be incrementally betting to the downside. I'm uncomfortable shorting and buying puts, but the learning from cognitive dissonance is where it took me. It's not the game I want to play but it's the game I'm in. 

As a result of adapting to the table I've been able to bend the curve of the portfolio balance slowly and incrementally. Since the week starting 09/12, I've been able to avoid the nearly 10% drawdown from the S&P, Nasdaq and Dow and I'm up about 0.45%. That's roughly $40K avoided loss. 

So while I've shrunk my projected annual dividends to $1.7K, I'm comfortable being uncomfortable managing risk more actively. I'm looking forward to the time soon where I can heavily invest and ramp up the income to a respectable level again.

Twitter is an excellent platform for bathing in cognitive dissonance and I would encourage you to do so. In particular I'm incredibly thankful to Keith McCullough and the Hedgeye team for helping to challenge my way of thinking everyday. As someone who is generally risk adverse, the risk management coaching their team provides each day really helps to challenge you and turn that advice into your own style. 

Hope everyone has an excellent month!  Be safe out there, waters are choppy!