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Last Updated: April 16, 2008 Investment Approach Overview The approach to investing offered here is, at first glance, pretty simple - buy and hold commodities, shares in natural resource companies, and some foreign currencies for the duration of the commodities bull market, making relatively minor adjustments along the way. Why is it only simple at first glance? The words "buy and hold" convey a sort of safe, passive approach to investing with which many people may be familiar, based on experience with their retirement savings accounts. Retirement accounts typically contain mutual funds from large investment companies like Fidelity or Vanguard and, like their peers, people select from the limited options provided in their plan. Everyone picks from the same funds - as you get older, you go heavier on the bonds, and lighter on the stocks. Buy and hold as applied to commodity investments is different from buy and hold in your retirement savings plan in three very meaningful ways:
Many a newcomer have been "shaken out" of the commodities market by violent corrections. When looking at the last ten years as shown in the CRB (Commodity Research Bureau) chart below, the trend is clear, however the day-to-day, month-to-month, even the year-to-year fluctuations are sometimes difficult for new investors to bear. The plunge in commodity prices that occurred in mid-2006 was particularly severe, causing many to question the long-term commodity bull market thesis, but a look at what has happened in mid-2007 shows that prices are once again on the rise.
One of the earliest to note the new bull market in commodities, billionaire Jim Rogers has often said, "everybody has a brother-in-law who lost his shirt in either soybeans, or pork bellies, or something, and that's because he didn't know what he was doing, he hadn't done his homework, and he bought it on very thin margin". Volatility is also sometimes difficult to endure because most people are not invested in commodities - "the crowd" has not yet discovered commodities, but they are catching on ... slowly. As an investor in commodities and related equities, you will largely be alone with both your gains and your losses for some time yet to come - you will have very few sympathetic co-workers when a large correction is underway, and very few people at cocktail parties with whom to celebrate when a new high is reached. For those willing to "go against the crowd", there are huge gains to be made in the coming years. In short, commodities began a secular (long-term) bull market at the turn of the century and for many well documented reasons, this bull market is likely to continue for years to come. With the proper knowledge and mind set, all you have to do is get in and "ride the bull" for the next five, ten, or fifteen years. Subscribers to this service get much needed assistance along the way.
The New Bull Market The commodities bull market is really not new at all. It's been going on for more than half a decade now, but the mainstream financial media continue to give it little attention and often times speak of it in derisive terms. Why? There are many reasons. The most significant reason is that the financial media is largely designed to serve Wall Street, which until very recently has not been set up to sell commodity products. This however is changing and, as more and more commodity related investment products become available, expect to see more and more emphasis on commodities and natural resource companies. It really can't be avoided anymore - the trend is now well established as is clear from looking at how sectors within the broad stock market indices have performed in recent years. Look up any chart of performance by sector, and you'll see that commodities and related companies have handily outperformed all others. Here's one such example showing the S&P500, the HUI unhedged gold miners index, and the XOI oil and gas index.
Does past performance predict future performance? No. However, there are many well established trends indicating that the bull market in commodities has a long way to go. Soaring demand from emerging economies around the world amid tight supplies for energy and raw materials combined with faltering confidence in the U.S. dollar top the list of reasons why commodities will remain a desirable investment class for years to come. The basic supply/demand problems will not be resolved quickly or easily. Governments and the financial industry would prefer the status quo for as long as possible, however, as more commodity investment products become available and as more people seek out these investments, the established trends are only likely to strengthen - not just over the next year or two, but well into the next decade.
The model portfolio available to subscribers consists of 30+ positions of varying size and is intended to be both broad and deep. That is, broad in covering the entire range of commodities, and deep by including a wide range of companies as measured by market capitalization. The model portfolio consists of five major categories:
There are just a few positions in categories 1, 3, and 5, but there are many positions in both equity categories with recommended alternatives for each position in order to help subscribers build a portfolio that best matches the options available to them within their existing investment accounts - everything in the model portfolio can be purchased easily through a standard brokerage account or with a simple phone call. The weightings of the five major categories may vary over time as events unfold and smaller trends develop, profits are taken from time to time (usually after stocks double or triple), and the portfolio is rebalanced when deemed appropriate. The breadth of the portfolio allows for more balanced returns over the long run and regular rebalancing provides continued exposure to sectors that may be out of favor today but that may do well in the months and years ahead. Shown in the chart below is the performance for the five categories, as represented by selected indices, over the last seven years.
Note that in 2002, for example, gold stocks soared while oil stocks performed poorly - the exact opposite of 2004 when oil stocks did well and gold stocks performed poorly. Also note that in 2002, the DJ-AIG commodity index rose as oil stocks fell and, in 2004, gold rose while gold stocks fell. While the best potential for gain is in the related equity rather than the underlying commodity, losses are more severe for equities than for the commodities themselves - owning both serves to balance returns over time. From year to year, most categories have performed well, but not all categories. Depth The depth of the portfolio provides for more stable gains and comparatively less volatility from larger, more established companies, while at the same time maintaining exposure to smaller companies where gains (and losses) can be much greater. A good example of how this depth can be important was provided in 2007 when major gold producers gained 20 percent as shown in the chart above, while the junior mining sector was flat or down for the year. The stock selections range from funds holding Exxon Mobil, trading nearly 20 million shares a day, all the way down to junior mining companies based in Canada that are available only as OTC (over the counter) stocks in the U.S. where some days no shares are traded. Performance As for performance, a simple calculation using the data from the chart above is indicative of the returns that could have been achieved in recent years with this approach. Using the indices in the chart to represent equally weighted categories in an investment portfolio, the returns (excluding dividends and interest earned) would have been as shown below versus other stock indexes around the world:
The model portfolio has actually performed much better than that indicated above and its performance is documented in excruciating detail for subscribers - 22 percent in 2005, 25 percent in 2006, and 24 percent in 2007. Naturally past results are no guarantee of future performance, but there is no question that commodities and related shares have been a good investment for the last seven years - with a continuing bull market in commodities, it is reasonable to expect similar returns in the years ahead
Macroeconomics and the Global Picture Global trade, monetary and fiscal policy, as well as international relations all weigh on investment decisions made here. Unfortunately for those of us in North America, a great shift in power and influence away from the U.S. has already begun and will gather pace in coming years. While the U.S. continues its military adventures overseas, China and India forge strategic alliances with countries such as Russia and Iran based on current and future needs for raw materials and energy. Trade between Asian countries and Australia, New Zealand, Canada, and South America continues to increase.
Central bank policies around the world are of interest here as well. As European central bank gold sales ease, other countries such as China, Russia, South Korea, and Argentina have been and will continue to buy gold to be held as reserves. Countries rich in natural resources are already growing tired of holding U.S. dollars and will increasingly opt for other currencies or bullion. Gold and silver bullion, as well as foreign currencies, are an integral part of the model portfolio. As shown in the chart to the right, according to the World Gold Council, Asian central banks have some of the smallest percentages of gold held as reserves in the world. While there is some doubt about the amount of gold reserves actually held in the vaults of U.S. and European banks, there is no doubt that foreign central banks are tiring of accumulating more and more U.S. dollars. As the U.S. attempts to meet its Social Security and Medicare obligations with increased borrowing and money printing in the years ahead, the U.S. dollar will steadily (or possibly abruptly) lose value relative to hard assets and other currencies. This is not the sort of macroeconomics that one is likely to learn in school these days, but this is the sort of macroeconomics that will drive world trade and international relations in the years ahead.
Fundamental Analysis Investment decisions made here are based on fundamental analysis, not technical analysis. While technical analysis is an interesting field of study, as someone with formal training in engineering who has done extensive data analysis for a variety of systems related both to computer architecture and to economics, I view it as a flawed science which has much more value in influencing impressionable readers than as a predictive tool. While there are certainly some patterns and some relationships that have a high correlation to future events based on past precedent, I have heard so many poor calls made (some of which have cost me money) that I began to look at these predictions with a skeptic's eye. For some time now, I have been in the habit of recording both short-term and long-term predictions based on technical analysis which were then later reviewed to see how the predictions had fared relative to the events that unfolded. The vast majority of these calls based on technical analysis have been, and continue to be, wrong. An important example was the December 2005 call by many within the gold community that gold and gold stocks had reached a peak and should be sold, then purchased again at lower levels. Anyone heeding this advice would have sold when the HUI gold miners index had just breached the 260 mark and gold was around $500 an ounce. These calls have turned out to be disastrously wrong for those who acted on this advice. At the time I remarked to a number of associates that I believed the technical analysis was all wrong, and that the market for gold bullion and mining shares was being driven by a number of fundamental factors that would take the market much higher in the short term, and that current levels may never be seen again. This has proven to be a sound investment call, as was my decision to take profits in April of 2006. While technical analysis does have its merits and can be successfully applied to trading you will find none of that here. What you will find is fundamental analysis to formulate good long-term investment strategy. Conclusion The general outline provided above should give you a good picture as to how investment decisions are made here, what the model portfolio contains, and what to expect as a subscriber. If there are any specific questions that I can answer regarding this investment approach, please feel free to drop me a line at the following address - tim@iaconoresearch.com.
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This volatility can be particularly difficult if you are unfamiliar with the investment where your money has been directed. 
The great question of the next decade or two is how China and much of the rest of Asia, countries poor in natural resources, manage their growth as the emerging manufacturing and service leaders of the world. The competition for commodities to sustain this growth is key to sound investment decisions.  |