Dogs of the World

Market dogs

Quite a few people have asked me to write a bit more about the 'Dogs of the World' approach to investing, so here we go.

The concept of Dogs of the World isn't new. In fact, the idea of buying what's unloved is almost as old as the hills.

The 'dogs of the Dow' strategy was popularised in 1991, for example, which focused on buying the 10 stocks with the highest dividend yields.

And Dogs of the World certainly isn't cool right now. But that's actually the entire point.

Dogs of the World is about doing precisely what's not trendy, which is one of the reasons why it's so darned difficult to do.

But buying investments when they are cheap and the markets are having severe conniptions does have one wondrous and proven benefit: it works!

This is not my area of expertise, by any means - I'm too young to have seen it all before, for one thing. Rather, I was schooled in the mechanics of Dogs of the World by my coach Steve Moriarty of Macro2Micro (get in touch by email if you'd like to learn more). Let's take a quick look...

Buying a dollar for 50 cents

One key element of Warren Buffett's incredible genius over the decades has been to find and then invest in wonderful businesses.

Another key element is that he's had the wisdom and patience to wait until those enterprises are cheap before acquiring them, or buying in substantial volumes. 

Alas, most people don't have the ability to analyse companies very well, and certainly not as adroitly as the Sage of Omaha. In fact, to be brutally honest, most people are hopeless at analysing company financials in any meaningful way.

But that certainly doesn't mean that you can't aim to buy investments when they are cheap.

Market Dogs in action

The basic principle of the market dogs strategy is to invest in the most unloved companies, or sectors, or asset classes, or countries.

An example? Remember how bad everything was in the energy sector through 2014 and 2015 as the oil price collapsed?

Refer to the green boxes in the graphic below. Summarily, it was pretty morose.

In fact, it was the end of the world according to some of the usual suspects - some of whom somehow still manage to sneak their way onto my Twitter feed, despite being muted half a dozen years ago - posting up their analysis after the event to explain why the oil price was a bubble (worse than useless, but thanks anyway!).

Energy was the very worst performing sector of the market for two years consecutively as investors rushed for the exits (click to enlarge the images).

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Source: Novel Investor

The market dogs principle holds that you would then buy the unloved sector of the preceding years, and sure enough in 2016 the energy sector delivered the strongest sectoral performance in the S&P 500 market at +27.4 per cent.

Of course, our simple brains are not wired to work in this way at all. Instead, it feels much safer to do what everyone else is doing.

Interestingly, despite my inherent snark, I might be doing the social media Armageddonists a disservice. They might, after all, serve one very useful purpose: when they've become alerted to a market crunch and start telling you that the 'smart money' is now short or selling, this might well prove to be a signal that the worst has now passed - a contra-indicator in real time, if you will.

Exhibit A from one of the said usual suspects.

In a similar vein, when all those truckloads of books came out explaining after the event how the subprime crisis and subsequent great crash of 2008 happened, that was absolutely the optimum time to be buying stocks, real estate...you name it.

Returns from the US stock market since Q1 2009 have been utterly spectacular, and so too have the returns from real estate, commercial real estate, and an array of other assets that were on sale.

Of course, in many respects it was also the hardest time to be buying, with the end of the world apparently nigh, but the Dogs of the World cares not about the prevailing sentiment, it merely compels you to buy when markets are cheap and on sale.

Trend is not always your friend

So, what's become hip today? At the moment everyone seems to be talking about technology or IT stocks (refer back to the orange squares in the sector performance graphic above) which have delivered positive returns every calendar year since crashing spectacularly in 2008, as they are periodically wont to do. 

Buy and hold investors generally don't like this kind of volatility; yet this same volatility can be the best friend of the market dogs investor. When people and sentiment are pessimistic about a volatile industry then the price falls can be very sharp, but mean reversion then eventually delivers positive returns. 

All around the world

You can apply similar principles to investing in the stock markets of other countries, or at least exchange traded funds (ETFs) which fulfil that job for you. 

For example, take a look at Ireland's stock market returns (turquoise-green boxes in the graphic below) which suffered a sharp 20 per cent correction in 2007, then followed by a catastrophic crash in 2008, dropping by more than 70 per cent in that calendar year alone.

You would have needed a little patience in this instance, but buying markets when they are so remarkably cheap can deliver outstanding returns, simply through reversion to the mean (from 2011 until 2018 in this case). 

Source: Novel Investor

And to take a look momentarily at the local Ireland stock market index (ISEQ) graphically. Wowwwsers.

Source: ISEQ

Of course, you probably aren't going to move to Ireland and buy shares in the local index in a local currency. But there are two beautiful things about investing today.

Firstly, you can easily buy ETFs (through, for example, iShares) that do the job for you. 

And secondly, there is so much data available, that you can readily back-test any investment strategy. Thus, you don't need to rely on bloggers presenting their contrarian ideas, you can go back and test them for yourself.

And this strategy...works!

Dogs of the World can be as simple or as complex as you choose to make it. Poring endlessly over inflation rates, currency swings, and relative dividend yields can become very confusing, and you can receive contradictory signals.

But the fundamental principle of buying low and selling high can be very simple, although in my opinion it would only form a part of a sensible portfolio, rather than being the core of it. 

Emerging markets crack

Take a look back at the international stock market returns graphic and you will see the biggest challenge facing the Dogs of the World strategy right now.

And that is that most things are expensive today in this era of low interest rates, with 2017 delivering positive returns across most almost all countries, and most sectors. 

However, rates are now tightening in the US, and the US remains a major influence on global stock market valuations. And there are already some signs of cracks in some emerging markets.

An investment in a Turkey iShares ETF (TUR) has been a shocker since 2008 - even with all of the dividends invested a notional $100,000 invested would find you with 20 per cent less today than you started out with.

But that's kind of the point. With the ETF product now showing a P/E ratio of under 8.5, the entire country is practically on sale. 

Actions, not words

Of course, I'm not saying that you should be getting ready to buy an ETF to buy shares in Turkey in 2019.

After all, I don't know anything about your personal tax position, your money management skills, or your tolerance for risk. 

For one thing, the outlook can always get worse before it gets better, and by its very nature the Dogs of the World strategy is mentally very challenging to put into practice. 

In short, you have to develop the ability to hold your nose and buy anyway. 

When markets are at their most unloved the media headlines will be hollering in their most acute tones, as they presumably are about Turkey right now.

More than that, imagine for a moment that on 27 May in 2012 you'd told your friends and family you'd decided to buy $100,000 of shares in an Ireland ETF because the market had crashed and it had become very cheap. 

They would quite possibly have thought that you had lost your mind. 

Yet roll forward to May 27 this year and including the dividends reinvested your $100,000 is worth more than $¼ million, ready to be rolled into the next big opportunity. 

At the moment, the trendy thing seems to be talking about shares in companies like Netflix (NASDAQ: NFLX) - or 'Debtflix' if you prefer - a tech stock that has gone parabolic, and has just risen to yet another all-time high. 

With a P/E ratio of somewhere way north of 220 in the past week and a market cap of well over US$150 billion Netflix is now valued at more than Disney!

Even just based on the movies, merchandise, and general exposure in my household alone, I can see that this is some seriously irrational pricing.

Last year, some people were prepared to pay close to $400 for a single share in Tesla (NASDAQ: TSLA).

It's not a fashionable thing to point out by any means, but even today the market is still valuing Tesla - a loss-making company that's burning through cash like there's no tomorrow - at about US$50 billion, which is another idiosyncratic state of affairs.

Tesla would have to capture all of the future electric vehicles market - which history suggests is unlikely - and also make energy storage and solar panel manufacture very profitable, to justify such a market valuation. 

I can't predict the future, but mean reversion is a powerful leveller, and it's not hard to imagine that ending badly when the tide goes out. 

Dogs of the World is about doing the opposite of that. Which means buying investments when they are cheap and letting mean reversion do the heavy lifting for you, instead of trying to pick up pennies in front of Tesla- or Netflix-shaped steamrollers.

It's a proven and profitable strategy, but I warn you now, your friends will think you're barking mad!

Auctions volumes smoked

Stamped out

Median prices have been holding up reasonably well, although Melbourne house prices finally look to have cracked a little. 

But auction sales recorded are waaay down.

Source: Domain

On the same weekend last year $1.7 billion sold under the hammer.

This year the equivalent figure was a paltry $653 million.

That's a heck of a lot of stamp duty not being collected in the tighter lending environment. 

Just one of the reasons I don't believe there will be much appetite for it to last too long.

Lower bank profits and corporation tax receipts will be another. 

Who'd be a regulator?

Weekend reads (growth mindset)

Weekend reads

The must read articles of the week, summarised for you here at Property Update.

Growth mindset

It will soon be your last chance to sign up for Wealth Retreat 2018.

Quite apart from the Gold Coast, the golf, and the goal setting (and, for me, reviewing last year's goals), I'm looking forward to invaluable business coaching from Mark Creedon, and learning from the mind of US Rich Habits guru Tom Corley. 

Then there's the technical stuff, on mortgage lending, changes to tax legislation, structures, and the other fundamentals you need to know to gain the 'unfair advantage' of the wealthy.

I'll also be sharing my latest work in some in-depth presentations. 

More than anything else I can't wait to network with positive, like-minded people, as great things somehow always just seem to happen when you do that. 

It's interesting to look back, years ago I used to think that investing a lump sum in a 5-day event sounded like a waste of money.

These days I get the dollar value back (and then some) almost instantaneously from picking up a single useful business, motivational, or investment idea, or making one new genuinely useful connection. 

It's genuinely fascinating to me how you develop over time. 

You can sign up for Wealth Retreat here .

It's a great event, but it's not for everyone - it's really only for motivated or positive-minded people that want to achieve bigger and better things. 

But if you read my blog, you're most likely that personality type. At least I hope you are :-)

I look forward to seeing you there! 

Jobs cycle beginning to turn?

Wheel turning?

There has been a glacial improvement in the number of unemployed persons over the past year.

On an annual average basis, the total number of unemployed persons has eased a little to 723,600, down from 729,600 a year earlier. 

In saying that, it looks like the decline may now have stalled, as more people are lured back into the labour force. 

It's been a terrific period for employment growth, there's no question about that. 

However, a few cracks are now beginning to appear in that picture, with jobs vacancies just starting to roll over, following 18 consecutive monthly gains, which is the best run since March 2011. 

Job advertisements are 31.2 per cent or +43,700 off their October 2013 lows, but appear to have lost some momentum. 

There is a mixed picture around the country, with the trend in skilled vacancies in Western Australia bouncing 17.4 per cent higher year-on-year, but South Australia recording a decline. 

What's the real deal with mortgage stress?

Sydney approaches full employment

Greater Sydney leads the way in the wages growth test tube, with its annual average unemployment rate falling to the lowest level since 2008, at just 4½ per cent in April 2018. 

Total employment in Sydney has exploded an ear-splitting +128,600 higher over the past year alone to a record high of 2¾ million.  

Just to put that in some perspective, only three years earlier total employment in Sydney was 2½ million, so the harbour city has been creating jobs at a truly thunderous rate. 

From an unemployment rate perspective Adelaide now takes out the most improved award, although the underlying labour force metrics in the South Australian capital are a tad uninspiring at best. 

In somewhat brighter news for employment hunters, the median duration of job search has improved very steadily over the past year, and that now includes for Greater Perth, after a very lean run.

Finally for today, S&P's Prime SPIN mortgage arrears came in at 1.18 per cent in March 2018, broadly unchanged from 1.16 per cent in February (and from 1.16 per cent a year earlier). 

From a macro perspective, then, nothing meaningful to report in terms of mortgage stress. 

Around the traps, only the figures Western Australia (2.37 per cent) revealed any actual signs of mortgage stress, with arrears either benign or falling in most states and territories. 

Source: S&P Global

Stress at the margin

There's a lot of debate about mortgage stress at the moment, with some people seemingly almost willing the figures to run higher. 

The truth is the picture is quite mixed around the regions.  

For most homeowners that have been in the market for some years, stress is very low with mortgage rates hitting some of the lowest levels in living memory, and this is reflected the unprecedented level of mortgage buffers that we saw in 2017.

But there are some parts of the country, including Perth, Gladstone, and a number of others, where employment opportunities have either been sparse or very sparse. 

Accordingly there have been some marked shifts in internal migration, as workers relocate to cities where employment growth has been stronger, most notably Melbourne in recent times.

In some cases, where households are in negative equity this may not be possible, and in it's in these situations where mortgage stress can become punishing. 

Fortunately there are relatively few pockets of Australia where negative equity is widespread, with many of the underperforming high-rise apartments owned by investors (including non-resident investors). 

Overall, while the picture remains mixed around the country, it has been consistent with a steadily improving labour market.

It's worth watching arrears trends in Western Australia closely, as this has been the state where the economy has been weakest over a period spanning several years. 

Construction boom changes shape

Construction work shifts

Brisbane's apartment construction boom is now fading fast, with total construction work done falling by 33 per cent from the peak and further declines to come as the market rebalances.

Melbourne is keeping residential construction activity at elevated levels due to its sheer growth in headcount. 

Mining cliff been & gone

In positive news, the downdraft from the resources cliff is also now yesterday's news, with engineering construction work done 12 per cent higher than a year earlier in trend terms. 

This is brighter news for Western Australia, where engineering construction has now been trending higher for 6 months.

Queensland took its medicine earlier in this regard, and engineering work has been on the rise for 2 years. 

New South Wales continues to enjoy its infrastructure boom, with engineering work 21 per cent higher than a year earlier, and up by a thumping 45 per cent from the 2015 trough.

This is important stuff for the economy, with construction employment recently breaking record highs, both in absolute terms and as a share of the workforce. 

Soft indicators

Driven round the bend

For something a bit different, here's a look at what's happening in Western Australia with regards to new car financing. 

At the peak of the resources boom there had been a grand surge in new vehicle finance commitments.

I can well remember seeing the same dynamic up in the Northern Territory; it was literally driven by the same factors.

The number of new cars and station wagons financed remains at the lowest level since 2010, reflecting the low level of consumer confidence.

On the other hand, the annual number of used vehicles financed has now been rising for 11 months.

There are quite a number of indicators that have followed this pattern, suggesting that the worst of the downturn is now in the rear view mirror for the WA economy. 

Rise of Airbnb

Short stays

Australia is becoming more and more...and more popular with tourists and short-term visitors to see family and friends. 

The trend is predominantly being driven by Chinese and Asian tourism.

The same trend is also been pushed along by the lower dollar since the peak of the mining boom.

In New South Wales annual short-term visitors are fast closing in on 3.5 million. 

This potentially has some significant implications for the dynamics of the housing market.

Hotels are typically very expensive in cities such as Sydney - certainly in the areas close to the city.

It wouldn't be a surprise to see more landlords turning to Airbnb to maximise rental income, in turn absorbing some of the rental supply through this cycle.

Sydney's estimated resident population is also now growing at faster than 100,000 per annum for the first time.

There are now more than 5.1 million residents in the harbour city. 

The long term fundamentals of Sydney land and dwelling prices are arguably stronger than ever before, at least in the landlocked and more desirable parts of the city.