“And Jesus said unto the centurion, Go thy way; and as thou hast believed, so be it done unto thee.” Matthew 8:13
Truth, Decisions and Results
Below two scenarios are described. They show how and why the meaning we attach to words and our beliefs directly impact the outcome of any situation. We can improve the potential result in every circumstance, especially investments. Finally a practical solution offered provides more freedom to choose the winning strategy.
Scenario One - The Subject Matter
A trade magazine published an article about investing in timberland as an ‘Alternative Investment’ and how that investment was also a good ‘hedge’. The article caught my attention for several reasons.
- Timberland was referred to as an alternative investment, yet the author was referring to a timberland stock market sector.
- The word hedge was used. This set up a situation where readers could believe that investment in timberland would offset the risk of a total portfolio.
The article prompted my written response to the author.
First, I’ll define my perception of Universal truth (law). The sun rises every day is a universally true statement. The statement cannot be personalized and distorted by a single perception or refuted. Universal truth is always impersonal. That means it is true for everyone, everywhere all the time.
Because we live in a universe of cause and effect, a correct decision that reflects accurate meaning attached to words and beliefs can ONLY increase the likelihood of a positive outcome. Nothing else is possible. Under this scenario, any decision related to needing the sun to rise tomorrow has increased probability of success. Why only an increased probability? Because physics proves that we live in a universe of probabilities.
The Response
I enjoyed your article about investing in timberland. One must agree that timberland as a market sector may be a viable diversification if RETURNS from any investment within that sector negatively correlate and add value relative to the capital at risk, for a specific portfolio. Naturally we should carefully evaluate all possibilities having equal risk/return parameters. Contrary to popular "belief" the investment matters less than the return it produces. Modern Portfolio Theory (MPT) was originated for application to investments producing predictable returns.
Charles Dow was a trader. He created the DOW Index to time his trades, NOT to use as a benchmark and comparison to other investments. Dow Jones was also the first stock index to be created. Reflect upon the evolution of indices and carefully note the inherent inaccuracies of current applications relative to their original intention.
Think about the negative impact that inaccurate beliefs, therefore applications are having on generations of investors! Millions of people are unknowingly making weak, self limiting decisions. To make matters worse, investment professionals by the hundreds of thousands are also making weak decisions for millions of people.
All because we believe something that is NOT a Universal Truth. Frightening when you think about it!
Finally, I need to discuss your reference to the word hedging. Hedging originated from the futures markets or derivatives well over 150 years ago. The word assumes equal but opposite position in the derivative from the current cash market position. For example: If we grew five thousand bushels of soybeans, we are long the equivalent of one futures contract. To offset a risk of falling prices we can hedge the position by selling one futures contract. The equal but opposite position offsets cash market risk and provides for a stable economic environment.
A complete hedge always has four sides to the transaction. Profitability or success is ONLY considered after calculating the end result of all four sides.
- It is September. We grew 5000 bushels of soybeans at $11,00 a bushel. Current Cash market price is $12.05. Rather than sell our soybeans now, we look to November Futures Price which is $12.45 per bushel.
- On September 10 we sell one November futures contract at $12.40.
- Although we now have limited profit potential, we also removed all risk of loss. If the cash market drops, we lose money on the cash position but we profit more from the short futures contract. If the cash market moves higher, we earn more on the cash position, but we lose more on the short futures.
- As time moves forward we can either use our cash position to deliver against the short futures contract, or buy back the short futures contract and sell our beans in the cash market.
Only when the total transaction is complete, can we evaluate the success of our hedge.
The scenario described above IS and always will be the only universally true meaning of the word hedging. If the word is applied with other meanings, they are open to distortion by individual perception and can easily be refuted. Therefore the meaning we attached to the word may actually be cause for inaccurate decisions causing uninvited misfortune.
Integrity - n 1) Rigid adherence to a code of behavior; probity. 2) The state of being unimpaired; soundness. 3) Completeness; unity
American Heritage Dictionary of the English Language
We all need to take more time to reflect on the meaning we give to words and how our beliefs effect decisions and how those decisions impact our environment. This is true both personally and professionally.
We also need clear language and application parameters for specific investment practices relative to their original intention and the current environment. WHY? Much of what is applied is inaccurate, taken out of context and causes loss.
Maybe as a writer, you can create a series bringing truth in meaning and right application to people's attention. I'll be more than happy to contribute what I can.
The Conclusion
Assume you actually believed that timberland was a real hedge and allowed yourself to be talked into ‘hedging’ your stock market risk by buying more stock, in the timberland sector. The stock market drops by 5000 points. All your stocks lose money, but by different degrees.
Who is responsible for the excessive loss?
You are because you allowed yourself to believe something that was NOT universally true, without using your own intelligence as a filter. You caused your own loss, nobody did it to you! Look at the glory of that statement! WHY? Because if you have the power to cause your own loss, you have power to cause your own gains! Just turn the energy around!
The Conclusion
Everything we learn is based on someone else’s perception of truth. Remember when people believed the earth was flat and discovered it was round? Your investment decisions are based on ‘a belief’ that it has value. Or decisions are more probably based on fear of loss. What is the cost associated with the fear? Or the opposite may be true. You believe what you learn because it came from your advisors, whose decisions are also based on inaccurate beliefs.
To reduce the risk of poor choices or NOT choosing, reflect on your beliefs. Speaking with hundreds of people 80% of them fear managed futures. They blindly avoid them without considering the truth, facts or positive potential. We can produce facts aligned with universal truth until we turn blue.
It can be a challenge to re evaluate a belief system.
We are designed as powerful creatures and should really be more careful. Our strength can unknowingly work for or against us!
Caution is Usually Required
Some people in the managed futures industry may unknowingly misrepresent investment potential. Two possibilities are comparing a strategy to an index or by using standard deviation as the only measure of risk.
Example One: Someone is trying to sell a fund. They compare past performance of the trader (or traders) used for the fund to the Barclay CTA Index. Superficially the math shows that the investment easily out performs the index.
Consider what is NOT said: Why should your investment need an industry index as a comparison? There is no relevance. Something more useful might be a benchmark you decide is useful. Ask the investment sponsor to show you potential performance relative to something you now have. Create your own benchmark. Let them meet your standard and correlate something that enhances what you are already doing NET of all costs. If you can correctly evaluate the probabilities of future performance, the scenario has value.
Example Two: Standard deviation is a popular measure of investment volatility. Investment volatility is not necessarily a measure of real investment risk only volatility of past returns. Volatility is easily manipulated by adjusting the account size.
What would happen if you discovered that an investment has low capital at risk relative to net returns, and high volatility, or returns were unpredictable? Assume a trader only commits 3% of account equity to margin and only risks the margin requirement on each trade. 60% of the trades are profitable, yet monthly returns are erratic. The standard deviation will be high. The trader really has less risk than an investment having a low standard deviation.
We just expanded our knowledge and altered a perception.
Look at all the money we just made!
The Solution
We are not suggesting that everyone get on a managed futures band wagon. We are suggesting that people start evaluating their belief system and meaning they give to words. Also pay attention to the context in which words are used in and the intention. Take responsibility for giving the best you can to yourself and those around you.
My 'belief' system says that volatility and high leverage is a gift! I get positive emotional reactions thinking about what we do! I Love it! Your 'belief' system says that same volatility and leverage should be feared! You probably get negative emotional reactions when thinking about getting involved.
Notice that the belief causes the reaction. It has nothing to do with material reality! Be aware of the power that meaning we attach to words has and remember to create positive spirals in your life!
Physical results (returns) are determined by our knowledge and approach to the marketplace. As with any experience, when fear is removed truth reveals itself.
Without volatility there would be no opportunity to take money from the markets. Depending upon the strategy used relative to current market conditions managed futures offer opportunity to integrate a yield curve effect of returns into any combination of investments available. We can lower the risk of any investment combination you can produce, under any market condition.
You can make me prove it – but don’t bet against me!