From Note 44, Sent 11/26/17

I’ve been pleased to see small caps reenter the competition from their low in August, just about when people had all but forgotten their fabulous performance in last year’s fourth quarter and were ready to abandon them for other asset classes.

This is par for the course. I’ve found from watching investors over the years that “patience” means two quarters. Somewhere during the third quarter of lagging performance, in the eighth month in this case, they start feeling like the current trend has lasted forever and get antsy. This explains why two-year bear markets leave such a deep scar in the emotional make-up of investors. Even the more rational variety, such as ones who run my Signal plans, fairly quickly begin second-guessing what’s known to work. We are emotionally ill-equipped for this business.

At least in this case, few people made moves before the historical strength of small caps reasserted itself. For the year through August 21, [our small-cap ETF] returned -2.4%. Since August 21, it’s returned 13.5%. During the lackluster first half, our 3Sig plan took advantage of the appealing prices to move capital from bonds to small caps, and it’s paying off. Nobody’s tired of small caps anymore.

From Note 37, Sent 10/8/17

One bit of bearish evidence on parade is the VIX reaching a 24-year low.

Off the top of your head, when would have been one of the best years in recent decades to have invested everything you had in the stock market? How about before the tech boom of the 1990s, say, 1993?

That would have put you in with the S&P 500 at about 440, before it took off in 1995 to its peak at around 1,500 in August 2000, for a 241% gain before dividends.

Yet, 1993 was 24 years ago and the last time the market saw a VIX as low as it is now. Why don’t analysts and journalists notice such obvious evidence that the measures they fixate upon are unreliable? The VIX is a sideshow.

From Note 26, Sent 7/9/17

It’s encouraging to see Gluskin-Sheff’s David Rosenberg (bearish and wrong for the past nine years running) remaining stubbornly bearish, warning that he sees rain clouds and asking, “When do you want to make sure you’ve got an umbrella? When rain is in the forecast or after it’s already started pouring?”

Never mind he’s been forecasting a financial downpour throughout one of the best recoveries on record, and that anybody hiding under his umbrella for the past nine years has missed enough sunlight to power Vegas for days, he’s still handing out umbrellas: “I can’t tell you when it is going to happen,” he said last week, “but the economic cycle has not been abolished, and the chances of a recession are rising.”

Sure thing, Dave.

From Note 14, Sent 4/7/17

Pundit warnings of bond-fund trouble in the face of rising interest rates were wrong. According to Morningstar’s first-quarter recap: “Although the Fed hiked rates for only the second time in more than 10 years, all fixed-income Morningstar Categories were in positive territory over the first quarter.” Yes, all.

Low inflation and a low neutral real rate of interest have created a near-zero world. Probably the last thing to worry about is a bond crash due to soaring inflation and interest rates.

From Note 14, Sent 4/7/17

Almost all market movement is clustered around the no-change line. The media and our collective psyche are fixated on famous moments of short, sharp price change, but they are not the norm.

We will experience them again, though, and our plans will manage them as specified. Both 6Sig and 9Sig will do their jobs when run correctly.

The biggest risk to their performance is not from the market or their predefined responses to it. The biggest risk is an emotional mistake, such as abandoning them at the very moment they’re about to deliver their greatest over-performance. When is this? From the bottoms of crashes.

In this video, you’ll see the effectiveness of my Signal system.

Starting with $10,000 in 2001 and making employee contributions to a 401(k) account, The 3% Signal system (3Sig) returned far more than dollar-cost averaging into the S&P 500 (SPY), and dollar-cost averaging into a portfolio of Morningstar medalist actively-managed funds, as follows by year-end 2016 balance:

$332,091 in 3Sig
$263,874 in DCA SPY
$209,070 in DCA Medalists

This shows 3Sig beating both the unmanaged stock market and top-quality managed funds…

November 26 Comment: Stocks rebounded from their two-week decline last week, and are now back at all-time highs as investors revisit their annual excitement about holiday sales and historical winter market trends. Extra strength in technology and small caps powered our portfolio farther ahead of the S&P 500 for the year. … We are pulling nicely ahead of the market, and it’s no longer just 9Sig in Tier 3 doing all the work.

October 8 Comment: We’re back above the S&P 500 for the year. If this year’s fourth quarter goes anything like last year’s, we’ll put a lot more daylight between the benchmark and ourselves by the end of December. Doing so with a quarter of our capital safely in bonds would be impressive.

October 1 Comment: Just a week ago, Tier 1 sat 0.4% below its target for the quarter. Then, out of nowhere, it shot 3.2% higher, grabbing all of its quarterly goal in the final week. … I wrote last Sunday that “[Our growth fund] in Tier 1 has roared back 7.3% to $71.95 from $67.08 on Aug. 21, leaving us with just a $3,230 shortfall for the quarter.” The stats have improved since then. [The fund] is now up 10.6% since Aug. 21. … The resurgence in Tier 1 has helped us reach two impressive milestones this weekend: (1) A balance of more than $1 million in Tier 1 alone ($1,026,505 to be exact), and, (2) A portfolio return now dead even with the S&P 500, both at 14.2% year-to-date.

July 21 Comment: We pulled almost even with the S&P 500’s YTD return last week. All upward momentum is still from the Nasdaq 100 in Tier 3.

June 30 Comment: Even though both Tiers 1 and 2 fell short of their quarterly goals, our portfolio rose $68,088 (3.2%) in the second quarter. We’re less than two percentage points behind the total return of the S&P 500 this year. We’re up 7.4% to its 9.3%, putting us in the running to beat the benchmark in 2017, and are well ahead of it over the past three quarters due to the powerful small- and mid-cap showing in Q4, which is partly what caused this healthy backing and filling in Q1 and Q2.

Kelly Letter Learn More

From Note 42, Sent 11/12/17

Yesterday, the Trans-Pacific Partnership was resurrected without the United States, and would include major US allies such as Japan, Canada, and Mexico, if ratified by each participant.

Japan’s foreign minister said the revamped agreement will “serve as a foundation for building a broader free-trade area” across Asia. Several participants said the absence of the United States provides unprecedented opportunity.

When the Trump administration began the year announcing it would replace regional agreements with bilateral ones, I gave it the benefit of the doubt. The problem some 10 months later is that the regional agreements were blown up without being replaced by significant bilateral ones.

If Asian trade is subsumed by China, it will prove close to impossible to claw back. An economist at the Asian Development Bank worried: “The US has lost its leadership role, and China is quickly replacing it.” The president of the National Foreign Trade Council said: “At some point, the administration may begin to see that this was a strategic mistake and that dropping out of trade is not in the interest of American workers.”

It didn’t need to become a strategic mistake. It could have strengthened America’s hand had the diplomatic team quickly negotiated beneficial bilateral agreements. Trading partners, left off-balance by the disintegrated TPP, would have been willing to attach themselves to bilateral agreements with Washington, tipping advantages in America’s direction.

Instead of an improved presence through tighter agreements targeting areas of particular importance to America, the administration left a void. It won’t remain a void for long. It’s filling as you read this, with advantages for rivals.

I’m afraid too few Americans are paying attention to the tectonic shift taking place in Asia’s trading landscape.

From Note 18, Sent 5/14/17

The low VIX of 1993 and a study by Deutsche Bank remind investors that a low VIX is not a reliable sign of trouble ahead. …

Besides, the recently low VIX will not last and these discussions about the danger of a low VIX will disappear in the rearview mirror, like all the other frets du jour.

Volatility will rise, ranges will break, the market trend will change, and our systems will thrive because they prefer wild lines to smooth ones.

From Note 15, Sent 4/16/17

Lost in the manufactured drama of a little volatility showing up is that one of the very things causing current drama — bond yields at their lowest since the election — is the opposite of what media used to craft drama in December and January.

Back then, they warned about rising interest rates and the end of the bond bull market. Remember that?

If they were worried about rising bond yields in December, and are worried about falling ones now, do you get the idea they can always find something to worry about?

From Note 15, Sent 4/16/17

Our preference for small- and mid-cap stocks is closely tied to Trump’s proposed tax cuts.

He’s discussed reducing the corporate rate to 20% from 35% in conjunction with the GOP-dominated Congress. Smaller companies would benefit more than larger ones because they lack the resources to reduce tax rates in other ways, such as parking profit in overseas locations.

The difference in reaction among small-cap stocks and larger-cap ones is evident in the returns of our IJR in Tier 1 and the S&P 500 via SPY.

End Notes

Life Reflections From The Letter

  • September 24
  • If you’re looking for somewhere different to visit, consider the Kingdom of Bhutan, “Land of the Thunder Dragon.” Situated along the ancient Silk Road between India and Tibet, the tiny country has maintained its independence for centuries. Nobody ever colonized it. More…
  • September 17
  • I wrote last month that Japanese people have learned to ignore the antics of their Nork neighbors, but this year’s many tests finally pushed the government to ratchet up its responses over the past few weeks. The most noticeable way has been sounding wartime alarms in two cases where a Nork missile flew over Japan’s northern area into the sea. More…
  • September 10
  • I get a laugh out of food descriptions in fancy restaurants. There seems to be a formula for making anything sound more sophisticated, which goes something like this:
    glowing adjective + origin + cooking technique + “with” + exotic ingredient + odd form. More…
  • August 20
  • I recently rented a car for a road trip. As we conducted the walk-through to check for damage before I signed the agreement, the agent said, “Oh, one thing. This car is on empty. We can go fill it up for you and then you can return it to us on full, as usual, or you can take it on empty and return it on empty.” I was in a hurry, so opted for the latter, and stopped for my own fill-up around the corner before continuing. More…
  • August 13
  • Walking home from a summer festival, I happened upon two parents with their teenage daughter on the outskirts of a park. She was obviously sulking, with her head down and shoulders slumped. The mother looked beside herself, a couple of paces away as the father spoke angrily to the daughter. More…
  • August 6
  • I attended an event at one of Tokyo’s massive hospital complexes last week. It has many entrances to several parking lots, all surrounded by a maze of streets and six-way intersections topped by complicated traffic signals. More…
  • July 30
  • I went to college with a smart, beautiful woman who liked being outdoors. She enjoyed horseback riding with me in the Rockies. Later, she and her husband moved to Hawaii where every photo of them looked like a calendar shot. There they were beaming on paddle boards. There she was playing polo on her horse. There they posed in front of Christmas cookies with their dog. More…
  • July 23
  • It’s breeding season for white-cheeked starlings. Every year at this time, they travel in swarms of wings and beaks in what could have been an inspiration for Alfred Hitchcock’s film “The Birds,” except that I’ve never seen starlings cause trouble. More…
  • July 16
  • The Science Channel began televising a nature documentary called “Monster Bug Wars” in 2011. It also shows on Australia’s Special Broadcasting Service. Each episode pits two kinds of bugs against each other in combat. The fights are introduced by a narrator, and feature running commentary by entomologists informing viewers of each bug’s strengths and weaknesses. More…
  • July 9
  • I love summer evening bicycle rides. There’s a path near my home along a river through fields below a mountain range. The mountains provide steep routes for strenuous exercise, which I often do, but I’ve recently preferred flat, gentle rides beside the river. More…
  • July 2
  • It’s summer barbecue season! I have three tips for you, learned at the grill of my deck in the mountains.

    My grill uses propane tanks. Because I rent the place out for vacations and the grill must endure high winds when I’m away, it’s a no-frills unit. There is no gas tank gauge telling me how much propane is left. Is there a way to know how much is in a tank? More…

  • Jun 25
  • Whenever possible, I help contractors I’ve hired to work on my properties. It’s good for me in a few ways.

    First, I get to know the people while working alongside them. I find the ones I like, and trust, and rehire them. The relationship deepens, with quality and value rising commensurately. More…

  • Jun 18
  • I’ve recently been talking with friends who are fathers to adult children, listening to the ups and downs of their family relationships, seeing similarities to my own. More…
  • Jun 11
  • On Tuesday, I drove a Tesla for the first time. More…
  • Jun 4
  • I was recently stuck on a series of United flights. More…
  • May 28
  • Automotive stores display shelves of shampoo, polish, wax, coatings, sponges, rags, towels, brushes, hoses, and other supplies for keeping a car clean. More…
  • May 21
  • From the Best Practices Department, can we circulate a memo to automobile manufacturers that the right way to handle car locks on keys is with a single button? More…
  • May 14
  • Drink coffee all day long? Keep it in an insulated pot. More…
  • April 30
  • Attention nature-lovers: Sometimes pharmaceuticals beat home remedies. More…
  • April 16
  • Leaf-rolling young people on motorbikes are not always what you might assume. More…
  • April 9
  • To survive Saigon on a motorbike: rent a powerful model, don’t show fear, start moving before the light turns green, honk randomly, never let people in, assume they will invade your space, rely on peripheral vision, and use larger vehicles as shields. More…
  • April 2
  • The only difference between your relationship with past and future versions of yourself, and your relationships with other people, is that you’re closer to yourself. Or something like that. More…
  • March 26
  • You can’t read every book. It might be time to learn how to talk about ones you haven’t read. More…

I’m Jason Kelly.

You probably know me through one of my books, such as The Neatest Little Guide to Stock Market Investing or The 3% Signal. I also write The Kelly Letter for delivery to subscribers every Sunday morning. I run an automated portfolio that reacts to stock price changes alone. It beats the market with no stress from indecision.

This page collects story excerpts from recent letters, along with free stories. For more from me, join the free list at the top left of this page. To turn your portfolio into an efficient quarterly machine running my 3Sig, 6Sig, and 9Sig plans, join The Kelly Letter.

In this video, you’ll learn how my signal system works to change the way you see the stock market.

Instead of listening to pundits commit the narrative fallacy of weaving news into a story explaining why the market went where it went or, worse, why they think it will go a certain way in the future, you’ll come to see the market as a meaningless series of changing numbers.

This controls emotion and allows for rational reaction to price changes. You won’t care why the numbers went up or went down, you’ll just react in a predetermined manner to the change by selling fluctuations above a signal line and buying fluctuations below it.

In this manner, you will beat the market with no stress from indecision and no more time wasted listening to pundits make up stories from the news.

From Note 37, Sent 10/8/17

Bears love pointing to market sentiment, usually to warn that retail investors are getting too greedy, setting the market up for a crash. But like all the other metrics they love, this one is an unreliable timing indicator.

Sentiment is an oscillator, fluctuating in a wave pattern between fear and greed through long price cycles. In most time frames, the S&P 500 rises along a line from lower left to upper right on a chart. If you put a sentiment oscillator at the bottom of the chart, you’ll see it going through its waves the whole time, exerting inconsistent influence on the rising price line above.

Zeroing in on CNN’s Fear & Greed Index, we find the following over the past two years, defining greed as a measure of 80 or higher and fear as one of 20 or lower:

2015: Greed > Fear > Almost Greed
2016: Fear > Greed > Fear > Greed
2017: Greed > Almost Fear > Greed > Fear > Greed

Through the emotional turmoil, the S&P 500 rose 24% from 2058 on 12/29/14 to 2549 now.

From Note 15, Sent 4/16/17

The geopolitical issues bothering markets most involve Syria and North Korea.

The American missile strike on Syria’s Shayrat Airbase on April 6 is reverberating. Russia, Syria, and Iran warned against additional attacks. The Russian foreign minister said the strike was a “flagrant violation” of international law.

The US accuses the Syrian government of carrying out a chemical attack on its citizens on April 4. Russia counters that the victims were killed by chemicals released from a rebel arsenal struck by Syrian war planes, and is calling for an independent inquiry.

Even Fed Ignores Uselessness of Valuation as a Timing Indicator
From Note 14, Sent 4/9/17

The Federal Reserve published the minutes of its March 14-15 FOMC meeting, when it increased the fed funds rate by 25 basis points to its current range of 0.75% to 1.00%.

The part that caught the stock market’s attention was this: “Some participants viewed equity prices as quite high relative to standard valuation measures. Some measures of valuations, such as price-to-earnings ratios, rose further above historical norms.”

Quick reminder: Valuation is not a reliable market timing indicator. There are no reliable market timing indicators. For more on the 50/50 odds of this one, see my recent video, “Are Stock Prices Too High?”

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