Maximum Midcap Does It Again

The Kelly Letter’s permanent portfolios are doing what they’re supposed to do, which has come as a surprise to many subscribers, particularly newcomers who are not used to the volatility.

It’s easy to get sidetracked by the market’s daily noise generated by media that benefit when people think disaster is at hand. This latest issue du jour, the credit crisis, has been so mild that the media straining to turn it into Doomsday has been a comedy show to anybody who’s been around a while.

For a look at how badly the media has guided investors in the past, see my article from last Thursday.

Bill Miller was right to call out people who said that this one was different, and wouldn’t be over quickly like the dot com bubble burst. Over quickly? Hello! The dot com bubble burst and ensuing Nasdaq deflation lasted more than two and a half years. Not weeks, not months, not quarters, not front half and back half. More than two long, awful, harrowing, hopeless years during which the Nasdaq lost 78% of its value.

Anybody who lived through that chuckles at the comparisons between it and this year’s first quarter decline of only 17% on the Nasdaq, 13% on the S&P; 500, and 10% on the Dow.

Yet, the media is very good at brewing an emotional stew and it gets to even the most level-headed among us at times. So, when Maximum Midcap reached its low in March and had declined 26% from the beginning of the year, doubters appeared by the bushel.

Whenever they do, it’s always with the same complaint: this strategy works great in a rising market but is terrible in a falling market.

Well, yeah, that’s by design. It’s a leveraged long strategy that moves twice as far in both directions. By definition, it does very well in a rising market and terribly in a falling market. The reason we keep buying every month is that the wide fluctuations enable us to get cheap prices during bad times that turn into handsome profits in the eventual recovery.

The key is this: it always recovers. It always recovers. In case anybody missed that: it always recovers.

Don’t you think knowing that inspires confidence? I do, but it doesn’t work that way for many people. Whenever the market hits a rough spot, as it does one-third of the time, people change the rule to: “It has always recovered until now. This time it won’t.”

Ah, ah, ah. Don’t play with the language. It always recovers.

Even if we go back to the great heart attack of the Nasdaq bubble burst, Maximum Midcap pulled through. I use that example in “What To Expect” on pages 123-126 of The Neatest Little Guide to Stock Market Investing, which traces what would have happened to an investor who bought Max Midcap at the worst possible moment, its highest price before the crash. Here’s the conclusion:

…a person investing at the height of the fund’s price before its great crash recouped their principal in just five years. A year and a half after that, the strategy was up 21% overall, while the Dow was up just 11% and [Bill Miller’s] Legg Mason Value Trust was up just 2%.

Five years may seem long, but the excerpt follows a reminder that it took 25 years for a person investing in September 1929 to recover their principal after the Great Depression.

Turn now to the powder puff derby known as this year’s credit crisis. Hard on certain companies? You bet — Bear Stearns leaps to mind. Hard on the economy? Somewhat, but nothing like what we’ve seen in times past, and we’re not talking ancient history, we’re talking five years ago.

All of which is to lead up to this weekend’s announcement that Maximum Midcap has already managed to claw its way back to positive territory for the year. That’s right, from being down 26% in March, last week it broke through the zero line to end Friday at +3.4% year-to-date.

The mainstream media is noticing what we’ve been onto for years: medium-sized companies are the market’s sweet spot. Kopin Tan wrote in this weekend’s Barron’s: “Since the mid-March low, in fact, the S&P; 400 Mid-Cap index has outpaced both its small- and large-cap counterparts.”

Money invested in our Maximum Midcap strategy at the March low has already gained 39%. Money invested on our automated schedule at the ends of January, February, March, and April has performed as follows:

+18% from January 31
+24% from February 29
+30% from March 31
+11% from April 30

If you step back from the headlines and stare at those figures a moment, it’s hard to recall what the problem was. It always is.

If you can bottle this epiphany and set it on a shelf in your mind and uncork it at a doubtful moment in the future, it will help you muster the courage to profit while others panic.

To those who stuck with the plan alongside the letter, hats off. Have a drink on Max Midcap, your old pal.

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