Stay Patient With GLD and TLT

As long time readers of The Whaley Report know, I draw inspiration from every aspect of life.  Fittingly, “Patience” by Guns N’ Roses began playing as I started writing this week’s commentary. 

I have a very detailed investment philosophy that is the basis by which all parts of my investment process stem from. If I can single out one common theme throughout that philosophy, it would be the idea of being patient and waiting for the fat pitch across the middle of the plate before taking a swing and putting capital at risk.


All It Takes Is Patience

I can promise you that if you can consistently practice patience in the financial markets, that alone can be a huge edge over other investors. The hardest thing for most investors to do is nothing.

In my previous role as an advisor, the hardest thing for me to convince clients was that making a decision to do nothing was just as proactive as making a decision to change something. The fact is that money cannot consistently be made trading every day or every week during a given calendar year.

Profits can only be made when the opportunity is available and not just because they happen to be desired or needed. Read that last sentence again. Recite it into the mirror every morning, memorize it and trade by it.

That statement alone could be used as the cornerstone of an investment philosophy that will outperform most other market participants.

One of the core tenets of my investment philosophy is to think like a fundamentalist but trade like a technician. Simply put, the fundamental gravity of a particular market is an indication of how the market SHOULD BE acting and the quantitative factors of a particular market tell you how the market IS acting.

To outperform year in and year out, you must understand the fundamental gravity of a given market and trade in the direction of those fundamentals once the quantitative and behavioral factors align in the direction of your bias.

This is exactly what I do in my own process. First I develop a bias for the fundamental gravity of a given market and then I look to see if the quantitative and behavioral aspects of that market align with the bias I have for the fundamentals.

If the three are aligned, I will develop a directional overall bias for that market and begin to actively see trade ideas that are skewed heavily in my favor in terms of reward-to-risk.

The reason this type of process is so valuable is because, as I will point out below, markets spend very little time each year ideally situated for trading where the reward-to-risk is skewed in our favor. Having a process in place that tells you how a market should be trading offers you the opportunity to recognize the fat pitch when its headed your way and it also offers you the confidence to swing.


If I Can’t Have You Right Now, I’ll Wait Dear

I’m a big proponent of Pareto’s Principle, or the 80/20 rule. Pareto’s principle states that, for many events, approximately 80% of the effects come from 20% of the causes.

As you’ll see today, that same principle can be used to better understand the price movement of markets. The majority of the price movement in a particular market occurs in just a fraction of the total trading days in a given year.

The rest of the price movement is simply noise within the trading range. This means I can maintain a NEUTRAL bias for long periods of time until the price action begins to align with the underlying fundamentals. That also means there can be long periods of inactivity. This is why patience and discipline is paramount if you want to earn great returns.

This is especially true with the The Whaley Report’s Focus Markets. Given that we're only trading 8 markets, there can be very long periods of time where we aren’t actively initiating trade ideas for a particular market. Since the report’s inception, we’ve averaged just under 1 trade each week.

In addition, there have only been 41 weeks (24% of all 174 weeks) when all 8 Focus Markets have had a directional bias. That means that 76% of the time, at least one Focus Market has a NEUTRAL bias.

Pareto anyone? Let’s now look at Pareto in action with the 2016 price movement of my two favorite markets on the LONG side, long-dated Treasuries (TLT) and gold (GLD).

GLD: +16.7% as of 04/08/2016

December 31, 2015 – January 14, 2016:  +1.0% (9 trading days)

January 14, 2016 – February 11, 2016:  +15.6% (19 trading days)

February 11, 2016 – April 8, 2016:  -0.52% (39 trading days) 

Gold, GLD, is up 16.7% for the year through last Friday’s close. We are currently 67 trading days into this year and GLD has made the majority of its price movement in just 19 of those days. That means that 93% of GLD’s price movement occurred in just 28% of the trading days so far this year.

TLT: +10.1% as of 04/08/2016

December 31, 2015 – January 14, 2016:  +2.6% (9 trading days)

January 14, 2016 – February 9, 2016:  +6.5% (17 trading days)

February 9, 2016 – April 8, 2016:  +0.70% (41 trading days) 

Long-dated Treasuries, TLT, is up 10.1% for the year through last Friday’s close. And as you can see, similar to GLD, 91% of TLT’s return occurred in just 35% of the trading days so far this year.


Sometimes I Get So Tense but I Can’t Speed Up the Time

As you can see from the examples above, markets spend very little time in a directional posture. There is absolute nothing you can do to force a market to be directional and as such, you shouldn’t force trades into range bound markets just because you’re feeling tense and feel the need to take action. 

The two markets I highlighted above have spent approximately 70% of this year trading sideways. And I didn’t cherry pick these markets and this year isn’t special in terms of markets trending or being range bound. Pareto’s principle can be found at work most years and in most markets. Keep in mind that most markets, spend even less time than what I’ve pointed out above aligned with their underlying fundamentals while moving in a directional manner.

It’s critical to have a market bias that is built on the fundamental gravity for the market. This bias allows you to view all price action and behavioral shifts from that perspective. This gives you a huge edge on other participants because each day you know how that market SHOULD BE trading. Once the market begins to trade the way it should, you know it’s time to act and you are in a great position to put Pareto’s principle to work and garner the majority of a market’s total return that occurs in a fraction of time. 

As such, a true investing edge comes from the willingness to do nothing, sit in cash and wait for real opportunities to materialize. If you stick with your process, opportunities skewed in your favor will present themselves and the low risk, high reward returns will follow.

As Axel Rose of Guns N' Roses would sing, “…take it slow and things will be just fine. All we need is just a little patience.”

Practice patience and if you haven’t had a chance to initiate a LONG trade idea in TLT or GLD, it’s not too late. Markets are cyclical and you can be sure that you will get another chance. There is a long way to go in 2016 and you can depend on TWR to alert you when those opportunities present themselves.