January 24. 2016 Fixin' A Hole

Risk/Reward Vol. 292

THIS IS NOT INVESTMENT OR TAX ADVICE. IT IS A PERSONAL REFLECTION ON INVESTING. RELY ON NOTHING STATED HEREIN.

“He's a real nowhere man
Sitting in his nowhere land
Making all his nowhere plans for nobody”---lyrics from “Nowhere Man” sung by The Beatles

“I'm a girl watcher
I'm a girl watcher
Watchin' girls go by
My, my, my”---lyrics from “I’m a Girl Watcher” sung by The O’Kayshions

“She sells seashells by the seashore,
The shells she sells are seashells, I'm sure.
So if she sells seashells on the seashore,
Then I'm sure she sells seashore shells.”---lyrics from “She Sells Sea Shells” written by Terry Sullivan

If one looked only at where the stock market started and where it finished the week, one would see very little variance. One could conclude that Mr. Market was “a real nowhere man/Sitting in his nowhere land/Making all his nowhere plans/For nobody.” But that would belie what really happened. From trough to peak, the Dow Jones Industrial Average (DJIA) moved 821 points. At one time on Wednesday, the DJIA was down over 500 points from its Tuesday close. That same day, the VIX which measures volatility was over 30, its highest point since last August. This environment was not conducive to investing.

Why you ask? Could this all be a reaction to oil prices? Surely, not. Well, actually---maybe so. If you chart by the hour this week’s price of crude oil and compare it to the DJIA you will see an almost perfect correlation. If this correlation persists, I do not recommend initiating any new stock positions until the price of crude oil stabilizes. The nearly 20% swing from a $27/bbl low on Wednesday to a $32/bbl close on Friday is simply too much volatility. Add to this the fact that 1/3rd of the 155 oil companies covered by S&P now have junk credit ratings and the fact that Moody’s is initiating a credit review of every major oil company in the world, and you may decide, like I have, to take a pass on any stock purchases for the time being. Make like Popeye. When it comes to Miss Oil or those securities correlated to her, be “a girl watcher/a girl watcher/and just watch that girl go by/My, my, my.”

The above stated, I remain confident that sometime this year fortunes will be made in oil stocks. Among the ones upon which I remain focused is Royal Dutch Shell (RDS/A and RDS/B). With oil’s recovery on Friday, RDS rose nearly 6%, but still was down 3% for the week. It remains down 9% for the month, 24% for the quarter and 34% for the trailing twelve months. The above stock performance notwithstanding, Shell's CEO stated this week that RDS can sustain its $1.88 annual dividend (9% at current prices) through 2016 and beyond, a fact which should buoy its stock price once stability returns to the oil patch. If oil can hold above $30/bbl and if Shell secures approval of its merger with BG in next week’s shareholder vote, I may buy some. If I do and oil prices again plummet, I will “sell Shell at the seashore or elsewhere, I’m sure.”

As I review what has occurred over the past few months, I find comfort in knowing that my decisions to sell have preserved the overall profitability of my portfolio. The older I get, the more important preservation of principle becomes. Reward is less important than avoiding loss. My loss prevention rules remove much of the emotion associated with managing stocks. And let’s face it, my friends, investing involves a huge emotional component. Indeed, the entire money management industry is grounded in ascertaining, and investing consistent with, each client’s emotional tolerance for risk. My sell rules are like “fixin’ a hole where the rain gets in/They keep my mind from wanderin’/ There I will go /And it really doesn't matter if I'm wrong I'm right /Where I belong I'm right /Where I belong.”