The Market: January 2015

January is the month for predictions and forecasts.

While they are fun to read, the evidence shows that the beginning of the year predictions seldom come true. All facets of life, including the financial markets, are the product of complex systems with many variables that lead to a wide range of outcomes. With a large number of potential results, it is useful when examining predictions to try and put a probability to the events predicted. This too is difficult and fraught with error but it does at least attempt to narrow down a strategy for the coming year.

Research with constant evaluation and adjusting of portfolios as time moves forward

If predictions are practically worthless, what is an investor to do? The answer is research with constant evaluation and adjusting of portfolios as time moves forward. It should be a dynamic process.

Despite everything I just said about the limitations of predictions, I go back to the fun part. So let’s have some fun. I’m devoting this entire issue of the newsletter to my predictions regarding the most topical market subjects that we see today.

What is your prediction for the closing value of the Dow Jones Industrial Average on December 31, 2015

As a test to see if you are reading the newsletter, let’s have a contest. Please send me your prediction for the closing value of the Dow Jones Industrial Average on December 31, 2015. I’ll figure out some prize or way that we can all pay homage to the winner for his/her clairvoyance, luck, or skill.

Looking Back at 2014…

Before we get to 2015, I’d like to take a look back at 2014. I am constantly evaluating client accounts, especially at year-end to see what is working and what is not.

An analysis of 2014 shows that it was a year with a bifurcated market where large company shares significantly outperformed small stocks.

The S&P500 was up about 13.5% while the Russell 2000 (small company index) was up just under 5%. The S&P500 return was itself skewed to the largest of companies within the index. For example, Apple contributed to 9% of the rise in the S&P500.

Similar results were present in the accounts I manage, with the larger holdings performing much better than the smaller positions. The concentrated 2014 rally made it tough for stock-pickers.

I certainly was not happy with my performance but I was comforted somewhat by joining the likes of John Paulson and Leon Cooperman in having a less-than-stellar year. From my perspective, where I got it wrong was that I anticipated a stronger global economy in 2014.

I was correct that the US economy would pick up in the second half of 2014, posting a 5% growth in the 4th quarter.

Where I was wrong was that Japan, Europe, and China did not accelerate. The persisting weakness in these key economies cast a pall on the industrial names where I saw and still see compelling values.

Certainly, 2014 showed that these stocks were cheap for a reason. Where I was right was adding exposure to retail and keeping exposure to leisure stocks. Lower oil prices helped these names.

Please read on for more reflection on 2014 and thoughts for 2015.

— Ian Green, Pendragon Capital Management

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Note: This blog article is intended for general informational purposes only. Nothing in it should be construed as, and may not be used in connection with, an offer to sell, or a solicitation of an offer to buy or hold, an interest in any security or investment product.