Tuesday, March 08, 2011

Evolution of Equity Portfolio Selections

I recently had the opportunity to focus on how my quantitatively-driven portfolio selection process has captured current trends in business.

It began when I noticed a former business partner using selections from a prior month for which he had not compensated me. Without going into the details of the situation, suffice to say he continued to buy equities and options, in January, based upon two-month old portfolio selections.

With his old portfolios, and using only some of the prior selections, for comparison, I have noted how the February and March portfolio selections have, in just those several months, begun to shift into new areas.

For example, one new holding is a cloud computing firm. Another is in solar energy.

Since its inception in 1997, the selection process has included various energy firms- Royal Dutch Shell at the outset, and, over time, natural gas, oil exploration and service firms. Now, reflecting the economy and government subsidies to alternative energy production, a solar-related firm has performed well enough to become part of the portfolio.

Similarly, my very first portfolio included Intel and Microsoft. Over time, the selection process moved to PC manufacturers, other software providers, security firms, network gear providers, then online-oriented firms. Now, with so much content stored off-site and so many programs which are net-based, a cloud computing firm has demonstrated sufficient strength on the necessary attributes to be included in the latest portfolio.

I don't think I could ever make such changes subjectively. Just the other morning, on CNBC, I listened to a portfolio manager bemoan having owned Microsoft, instead of Apple, for several years. I suspect that when one subjectively analyzes forecasts, it becomes very difficult to reshuffle one's portfolio. So much of the decisions become based on quality of estimates or forecasts, or simply emotions concerning old favorites.

Along the lines of that last point, I found it hard to believe a conversation I heard last Friday on CNBC regarding Wal-Mart.

The hapless Maria Bartiromo was asking a guest- either a portfolio manager or buy-side analyst- why Wal-Mart's size and market shares didn't guarantee that it exhibit excellent equity price performance.

I don't really recall the guest's reply. I know what he didn't say. What Bartiromo, with all her presumed experience covering financial markets didn't already understand.

Simply put, Wal-Mart has lost its potential to surprise investors and markets.

Firms like Apple which design and manufacture products can develop radically new, innovative items- then enhance them. But retailers must typically on just store growth. Perhaps occasionally the addition of a new product line or fighting brand. But, for the most part, once they gain lots of attention, are followed by a hundred analysts, and saturate their primary markets, it's hard for them to surprise with results on a consistent basis.

Wal-Mart reach that point about a decade ago, as the nearby price chart indicates. After several decades of torrid total returns which massively outpaced the index, it has settled into maturity. Probably never to regain the performance characteristics of its earlier days. That's why the firm hasn't been among my portfolio selections for over a decade.

How is it that this fairly common phenomenon escaped the understanding of the veteran CNBC anchor and her presumably experienced guest?

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