Most investors have a very short time frame—a year, or even less. Buy and sell decisions are made on what is expected to happen in the next couple of months. The average holding time for a stock on the NYSE is now less than a year, for example. The short time frame gives disproportionate influence to that short-term data, and you can see that in pricing. This, after all, is why investors follow quarterly earnings numbers so closely.
What if, instead, you focused on longer-term metrics? A number of simple but successful strategies do just that. The Dogs of the Dow strategy, for example, simply takes the five stocks from the Dow with the highest dividend yields, buys an equal amount, and then waits a year before doing the same thing. Note that the information used, the dividend yield, is not particularly timely; dividends come out on a quarterly basis, and the trading is annual. By looking at data that is longer term, there appears to be a real and actionable information asymmetry. This strategy is not an anomaly, as there are many strategies like this.
Other, more macro indicators include market valuation levels (which provide useful information about likely future returns) and longer-term market pricing trends (the 200-day moving average). It is not an accident that these are included in our Monthly Market Risk Update. Longer-term data is often more useful in constructing longer-term returns and risk management than is shorter-term data. And this is exactly why we use it.
What’s Missing?
The missing piece here is how I incorporate all of this information into my own investment management. There is a place for both active and passive. There is also a place for information asymmetry at the macro level. We will take a look at that tomorrow.
Brad McMillan is the chief investment officer at Commonwealth Financial Network, the nation’s largest privately held independent broker/dealer-RIA. He is the primary spokesperson for Commonwealth’s investment divisions. This post originally appeared on The Independent Market Observer, a daily blog authored by Brad McMillan.