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PASSIVE INVESTING
Karl Arnold Belser
26 July 2017




I do not own any Exchange Traded Funds (ETFs) because I like shares with a low price to earnings ratio (PE) a good dividend (over 3 %) and a company with a good name and earnings track record. I consider this method as following first principles.

I agree that index funds are better than mutual funds per the pod cast The Stupidest Thing you Can Do With Your Money. The mutual fund management fees are simply a waste of money. However, I research and purchase my own shares using Value Line as my guide. I do have to pay several hundred dollars a year for the Value Line subscription, which  one might say is a waste of money. However, I want to manage my money to survive in the worst case, namely a true Black Swan. So I am overly conservative and I avoid mutual funds.

The article Howard Marks Sounds the Alarm on ETFs and Passive Investing Again clearly describes the risks for ETFs.  ETF are baskets of stocks like that containing the shares of the S&P500 weighted by the market cap of each issue. No analysis is done about the riskiness of each issue, and the largest capitalization shares will drive the ETF value higher even if smaller cap companies are doing poorly. Further when one buys the ETF a lot of money is put into the largest cap shares which in turn drives those shares higher. This rise is NOT due to fundamentals.

So far the EFTs have performed pretty well. Hens people are loading up On ETFs. The result in my opinion is high values for large cap companies. But what happens if there is a stock market down turn? People may start to sell their ETFs.. Instead of the tide raising all ships, the tide will sink all ships. This may result in good low cap companies being undervalued when the large cap stocks return to a reasonable value. In other words the ETFs prevent the market from discovering the values of each companies shares.

I am pretty nervous about the high valuations of shares in general and I try to own companies with sensible valuations. I also have a pretty large cash reserve to take advantage of any undervaluation of companies due to large market swings. Further I  make enough money in dividends and capital gains to support my life style. I don't need to be greedy.

Note: The original memo that Howard Marks wrote to his Oak Tree clients is There They Go Again . . . Again. It is very long but covers many aspects of the current financial condition of the world. In short the sand pile is very high and waiting for the grain that will cause an avalanche, which is the Black Swan I am worried about. The only question is WHEN.
 
Last updated July 28, 2017
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