On Being Neutral: A Bird At Hand Is Better Than Two In The Bush

``Everybody knows that you need more prevention than treatment, but few reward acts of prevention. We glorify those who left their names in history books at the expense of those contributors about whom our books are silent. We are not just a superficial race (this may be curable to some extent); we are a very unfair one.”-Nassim Nicolas Taleb, Black Swan: The Impact of the Highly Improbable

Our call for neutrality drew some reactions last week. One concerns with how to deal with one’s portfolio. The other reflected on the perception of our “assailing” of the prevailing optimistic convictions.

Extrapolating on the signals of the markets, the mixed messages produced by two important pillars; the lethargic US dollar, as measured by its trade weighted index, in contrast to the emerging indications of the softening by the US markets, have prompted us to this outlook.

In our industry, securities are traditionally rated by the following calls; buy, sell or a hold.

Our neutral stance essentially expresses indecision or ambiguity towards the interim direction of the market, hence is equivalent to a HOLD. And since such incertitude bespeaks of possible signs of emerging risks, then it would do us no harm to take some money off the table until we see better or clearer times ahead. Learning from one of the morals of Aesop’s fables, ``A bird at hand is better than two in the bush”. Having the proverbial “bird at hand” is equivalent to capital preservation.

Since we are not in the practice of financial markets astrology, given our understanding of the present cycle, we manage our portfolio in times of turbulence by raising our cash levels relative to our total holdings. We do not sell ALL until we are faced up with the following conditions; envisage the end of the secular cycle or foresee of deep reversal within the present cycle or react to an unfolding crisis.

Unfortunately for us, our local market is so crude as not to offer alternative instruments which could enable us to benefit from a declining market or take insurance or hedge positions. In developed markets one can short an issue or buy funds that short select issues or industries or market indices, or take advantage of put or call options (basic derivatives) against your positions as a form of insurance.

The assumption of abandoning our position in the marketplace by going all cash presumes great market timing abilities, something that is in practice NOT consistently feasible. Investing decisions based on single minded chart reading is predicated on the trajectories of past performance, which does not always work. Remember Wall Street’s ubiquitous warning, PAST PERFORMANCE DOES NOT GUARANTEE FUTURE RETURNS? And so it is.