Now What Will You Do?

Remember our chart from last Friday, 21 June 2013 - the one that we said wouldn't be sending a "sell signal" until sometime in the next week?

Well, here you go, as we update our chart through Wednesday, 26 June 2013. Now what will you do?

If it helps, what this chart is really saying is that the period of relative order in the market that accompanied the rally that really got underway after 15 November 2012 is over. With the 20-day moving average for stock prices having now moved outside the outer limits of our "normal" target range for this period of order, we can say that the data points falling outside this range aren't just outliers for an existing trend, but are rather evidence that the previous trend itself has broken down.

And yet, the question remains. Now what will you do?

If it helps, let's zoom out and look at the larger scale trend for stock prices. The one that has existed since stock prices stabilized onto an overall upward trajectory following the aftermath of the end of QE 2.0 (our first chart focused on just the region of this chart within the purple rectangle):

Well, that didn't help much, did it? Well, how about this. Our favorite indicator of distress in the stock market, the price-dividend growth ratio (the "G-ratio") appears to have peaked this month. Typically, when that happens, stock prices will go on to hit a significant trough within the next three months, falling from the average level of stock prices for the month in which the peak in the G-ratio occurred.

Now what will you do?

Now Is It Time To Sell?

So much for a boring summer for the stock market - we might actually have to go into the office. In the mean time, let's get straight to the "selling signal" charts we know you want to see after yesterday's stock market carnage.

This chart shows the most recent combination of microtrends that have existed since 15 November 2012 for stock prices with respect to their underlying trailing year dividends per share, which we're treating as if they were all a single trend by exploiting the fractal nature of stock prices. The one thing that should leap straight out at you is that the daily stock price for 20 June 2013 has fallen well below the "normal" range where we would expect stock prices to be if they were behaving, well, normally. And normally, we would take that as a signal to sell.

But as we've shown previously, this may not be as clear a sell signal as we might hope. It might, after all, just be an outlier for the overall trend in stock prices, and stock prices might quickly go back to be within their "normal" range. And if that's the case, we would find ourselves in the situation where we sold far too soon, where if we chose to re-invest, we would have to buy back into the market at a higher price than where we exited it, effectively losing money in not being able to buy the same number of shares we once owned and of course, the transaction costs.

To avoid that potentially costly situation, we'll concern ourselves more with the trajectory of the 20-day moving average for stock prices, which we'll use as our true signal to sell. Here, if we see the 20-day moving average of the S&P 500's daily closing values drop below the normal range where we would expect stock prices to be if the trend were intact, that will be our more conservative signal to sell.

By doing this, we're trading a little bit of additional short term loss for the potential upside that stock prices might turn quickly around and resume following their previous trend. The important thing to remember though is that we might still be saving ourselves quite a bit of loss to the downside if we waited for a sell signal using the macrotrend (the microtrend in our first chart covers the area inside the purple rectangle on the macrotrend chart).

The key thing to remember about this method is that it works under limited circumstances, and applies only when we've had both generally rising stock prices and more importantly, generally rising dividends per share. Its primary purpose is to help minimize losses after an established trend has clearly broken down.

For what it's worth, we don't expect that we'll see the 20-day moving average for the S&P 500 move outside the "normal" range where we should expect it to be until the middle of next week at the earliest. So certain doom isn't imminent, it's just lurking around the corner.

A couple of days ago, we wrote up an analysis of why stock prices are behaving as they are and will, which we'll be sharing here on Monday, 24 June 2013 as events catch up to it. As least there's that to look forward to next week!...

Previously on Political Calculations

• The Ultimate Sell Signal


• Going Fractal with the S&P 500

Decisions, Decisions....

Now that we're on record as thinking that the stock market will be a pretty boring place for the foreseeable future (and yes, that includes days the Dow drops by 300 points or less), we're looking for other, more exciting and potentially high yielding things to consider as investments.

We thought about maybe investing in bonds, but bonds are even more boring and really, in these days of quantitative easing-depressed yields, we don't see much upside at this point. We also thought about buying and flipping houses, but we really don't want to be one of those people....

That's when it hit us! Rather than follow these more traditional investment paths, we decided that we should put our money to work in one of two ways, either to help blow something up or to rob banks.

We just haven't decided which to do yet....

Before we go any further, we should probably explain that what we're considering doing is contributing to one of two different Kickstarter projects.

For those who aren't familiar with Kickstarter, it is a social media site that is devoted to connecting creative people and inventors with people who might contribute funds toward realizing their proposed projects.

Here are the two projects that have caught our attention. The first is inventor Ryan Frayne's Windcatcher project, which features some unique inflator technology.

We think that anyone who has ever blown up a children's pool float or an air mattress will appreciate why this particular project has caught our attention.

Meanwhile, the second project we're considering is more of an artistic endeavor. Here, London-based designer Ilona Gaynor is planning an "extremely elaborate bank robbery", entitled "Under Black Carpets", which would involve the creation of sculptures, architectural models, technical drawings, films and photography depicting the simulated robbing of five major banks in downtown Los Angeles on a single day. The work is planned to be featured at the Lisbon Architecture Triennale later this year.

In a lot of ways, this project is similar to the various small film and movie projects that have been funded by Kickstarter, and we really like the idea of a museum exhibit dedicated to the execution of a crime, if only a fictional one. But then, we really liked the heist scenes in the remake of "The Thomas Crown Affair", so we might be somewhat biased....

The Danger of Leveraging Returns

Barry Ritholtz' points to an outstanding post by Chris Arnade at Scientific American, with the irresistible title "The Real, and Simple, Equation that Killed Wall Street". Here's a sample, but read the whole thing!:

"If it weren't for those meddling kids!" That was the punch line for every Scooby Doo episode. It also is the overly simple narrative that many in the media have spun about the last financial crisis. Smart meddling kids armed with math hoodwinked us all.

One article, from the March 2009 Wired magazine, even pinpointed an equation and a mathematician. The article "Recipe for Disaster: The Formula That Killed Wall Street," accused the Gaussian Copula Function.

It was not the first piece that made this type of argument, but it was the most aggressive. Since then it has been a common theme in the media that mathematics, especially obscure advanced mathematics, is largely responsible for the catastrophe that doomed the world to the last five years of recession and slow growth.

This theme plays on the fallacy that danger always comes from complexity. It's a fabrication that obscures the real causes, that makes it easier to say, "Hey, it wasn't my fault, I was blinded by science."

The reality is much simpler and less sexy. Wall Street killed itself in a time-honored fashion: Cheap money, excessive borrowing, and greed. And yes, there is an equation one can point to and blame. This equation, however, requires nothing more than middle school algebra to understand and is taught to every new Wall Street employee. It is leveraged return.

[...]

The equation, though simple, reveals one dangerous truth that investors love to exploit. If you can find an asset that returns more than the cost to borrow money then any return is possible with enough leverage.

The simple equation incorporates the following elements to calculate the effective rate of return for an investment made with borrowed money:

• The Nominal Rate of Return - what the rate of return is on the whole amount invested, which is the prospective gain for the investor.


• The Cost of Borrowing - the interest rate charged by the lender.


• The Percentage of Your Down Payment - the percentage of the whole amount made up by money out of the investor's own pocket.

We've built a tool to calculated the leveraged rate of return for an investment that takes these factors into account, but we've added an extra wrinkle - the tax rate that might apply for the return on the investment, which is also something that can greatly affect the investor's choice of investment and can definitely affect their returns!

Leveraged Investment Data
Input Data	Values
Nominal Rate of Return [%]
Cost of Borrowing (Lender's Interest Rate) [%]
Percentage of Money Down (Investor's Own Money in Investment) [%]
Tax Rate on Return [%]

Leveraged Rate of Return
Calculated Results	Values
After Tax Rate of Return [%]

The default numbers in our tool above are taken from Chris Arnade's example in his post, but the 23.8% tax rate we've entered corresponds to the capital gains tax rate that took effect on 1 January 2013 (assuming this were an investment to which this tax rate would apply).

In Arnade's example, which assumed a tax-free nominal rate of return (or an after-tax rate of return), the leveraged rate of return was 15%. Imposing a tax rate of 23.8% as in our example reduces the effective rate of return of the leveraged investment to 6.67%.

But, if the investor didn't leverage the investment, putting 100% of their own money into it, the after tax rate of return would be 5.53%.

So there's still an advantage for an investor seeking to leverage their investment by borrowing a large portion of the total funds they will invest, but the taxes take a large portion of the leveraged gains out of the picture for the investor.

But we can certainly see the huge incentive that an investor would have for leveraging their investment if it were not subject to taxes, much as many municipal bonds are.

Could the same kind of leveraged bubble that led to the collapse of the financial industry in 2008 be at work in the municipal bond market today? ETF Trend's John Spence summarizes the growing concerns:

"Investors are looking for ways that they can pick up yield, especially munis, which have the tax advantage on the income," said Matthew Tucker, head of iShares fixed-income strategy, in the report. [Muni Bond ETF Rally]

Yet the muni bond rally has raised concerns the asset class has "gotten pricey and risky at the same time," reports Jason Zweig at The Wall Street Journal.

If there is indeed a bubble developing in the markets for municipal bonds, that would make the argument for doing away with their tax-exempt status much stronger.

Using the F-Score to Detect Accounting Fraud

If you're just an average investor, how can you pick up on whether or not a company is cooking its books?

Craig Newmark recently pointed to one of the neater ways in which someone might be able to determine if the numbers they're examining are following a natural pattern as opposed to an artificially-contrived one using Benford's Law, but unless you have access to reams and reams of internal company data, it's pretty unlikely that you as an individual without that kind of access could find out if something shady might be going on.

But for publicly-traded companies, you can get access to a company's publicly-reported financial statements, such as their annual reports or the 10-K statements they file with the United States Securities and Exchange Commission (SEC). And with that information, you can calculate a company's "fraud score" or "F-Score", which can provide a pretty good indication of whether or not the people inside the company might be manipulating their accounting.

Using math originally developed by Patricia M. DeChow, Weili Ge, Chad R. Larson and Richard G. Sloan in 2007 using data from 1982 through 2002, and updated in 2010 to include all years from 1982 through 2005, we've updated our tool for calculating the F-Score for any publicly-traded company for which you can obtain the indicated data below!

For that, you'll need consecutive years worth of the company's annual data - our tool below provides that using Enron's data for the years 1998 (two years prior), 1999 (one year prior) and 2000 (year of interest).

Income Statement Data
Input Data	Year of Interest	One Year Prior	Two Years Prior
Sales (Revenues)
Net Income Before Extraordinary Items or Cumulative Effect of Accounting Changes
Balance Sheet Statement Data
Input Data	Year of Interest	One Year Prior	Two Years Prior
Cash and Cash Equivalents
Short Term Investments
Receivables (Total)
Inventories (Total)
Property, Plant and Equipment (Total Net)
Total Assets
Preferred Stock (Total)
Total Shareholder's (or Owner's) Equity
Statement of Cash Flows Data
Input Data	Year of Interest	One Year Prior	Two Years Prior
Issuance of Long-Term Debt
Issuance of Common or Preferred Stock

Probability of Accounting Manipulations
Calculated Results	Values
F-Score

Here, a result greater than a value of 1 indicates a statistically higher than expected likelihood that the numbers the company in question has published have been misstated, which is "accountingese" for suggesting that the company's books may have been cooked! The following guide, developed by the F-score's creators, may be used to interpret the tool's results ("F-Score 1" corresponds to the specific model used in our tool):

We should note that the math is somewhat sensitive - the formula's creators indicate it will produce a high frequency of false positives, which means that an F-Score greater than one should be taken as an indication that an average investor should be much more diligent in reviewing a company's business before making investing decisions related to it.

The tool above provides different results from our original version of the F-Score formula, which was based upon the original 2007 math.

This update to our original tool is the result of a collaborative project with Pasi Havia, who was seeking to implement a Finnish-language version of the tool. We owe our thanks to Pasi for his detective work in finding that the formula for calculating a company's F-score had changed from 2007 and for developing the new and improved code to calculate the F-Score!

If you compare the results between Pasi's version and ours above, you'll find that the results between the two tools are nearly identical - the difference comes down to how the rounding for the value of the mathematical constant e in the formula was done (Pasi rounded it to 8 decimal places for the sake of matching the authors' results in their paper, while we just let it run!)

Related Tools at Political Calculations

Predicting Bankruptcy

How likely is it that a publicly traded company will declare bankruptcy in the next year? Our tool for calculating the company's Altman Z-Score can answer! It predicted General Motors failure years before the company failed!

Liquidity

Does that publicly-traded company have enough money flowing through its veins to keep operating?

How Much Does It Cost to Own an ETF?

If you're an investor looking to possibly put your money into an Exchange Traded Fund (ETF), how much can you expect that will that cost you?

ETFs are a lot like mutual funds, in that they are made up of a number of individual stock or bond holdings and have operating expenses that will be charged against your account, but they're not exactly. Unlike mutual funds, which are only allowed to change hands at the end of a business day, you can actively trade an ETF - placing market orders to buy and sell at any time when the market is open, just like the shares of stock or bonds you might own.

Combined, those characteristics make an ETF something of a hybrid between mutual funds and regular stocks. Which means that figuring out how much it costs you to own an ETF is a little more involved than looking at the fund's Operating Expense Ratio.

If you're shopping for an ETF, and you're looking to minimize your costs as a way to help maximize your return on your investment, you'll also need to consider the funds Bid-Ask Spread, the value of any trading commission you might have to pay, as well as how long you plan to keep your money in the ETF and also how much money you'll keep in the ETF.

Fortunately, our newest tool is here to do the job for you! Based on math presented by Michael Iachini in the Winter 2011 edition of Charles Schwab's On Investing magazine (the link will work once the print edition is published online), our latest tool can help you find out how much it owning an ETF will really cost you!

Just enter the relevant data below, and we'll do the rest!

ETF and Investment Information
Input Data	Values
ETF Operating Expense Ratio [%]
ETF Bid-Ask Spread [%]
Commission per Trade [$]
Time You Plan to Hold the ETF [years]
Amount You Plan to Invest in the ETF [$]

Annual Cost of Owning an ETF
Calculated Results	Values
Your Annual Cost of Ownership [%]
Your Annual Cost of Ownership [$]

Using the default values in the tool, we find that the approximate annual ownership cost for investing $10,000 for half a year in an ETF with an Operating Expense Ratio of 0.10%, a Bid-Ask Spread of 0.15% and a per-trade commission of $8.95 is 0.76%, or $75.80.

Different ETFs and different brokers however will have very different numbers. Using our tool will help give you a good way to compare the relative costs of owning those ETFs when it matters most: before you choose to invest in them!

Image Credit: The Digerati Life

How Owning Stocks is Like Having a Moody Girlfriend

They both hold the promise of great returns.

Both can take you to great highs and terrible lows.

At times, you can be fooled into thinking they are predictable.

When they are good, they are good; when they are bad, they are very bad.

There are times when you can’t take your eyes off them, so tantalizing are their movements.

They can make your heart race with excitement and at other times with fear and consternation.

In both, you may often find resistance.

Neither may be reliable when it comes to support.

With both, there may be periods of elation, but they are matched by times that will disappoint.

They can both lull you into a false sense of security. 

They can both be foul in the morning, and turn around completely by the end of the day.

Conversely, they can be most agreeable in the early hours, and utterly wrathful in the later ones.

You may try to understand their behavior, and when you think you do, they will act differently!

They may at times offer you a steady climb upwards, and at others a period of prolonged descent.

When their fundamentals are sound, you should try to endure the temporary disappointments, which are inevitable.

Sometimes, you will want to ditch them; sometimes you should.

Both require you to act with discipline.

Both can lead you to drink.

Both can cost you your life savings.

The Principle That Changed My Life

I finally get it.

Life is about choices. We reap the harvests of the seeds we've sown - of the choices we've made. This is all of life. Paul reminds in Galatians 6:7 that we reap what we sow...always. Therefore, we must sow wherever we want a harvest - and in proportion to the size of harvest we desire (2 Corinthians 9:6).

“While the earth remains,
Seedtime and harvest,
Cold and heat,
Winter and summer,
And day and night
Shall not cease.” Genesis 8:22

God promises in his word that the laws of sowing and reaping, or seedtime and harvest, will be in effect as long as there is an Earth. In fact, just as certain as we are there will be a tomorrow, we should be just as certain we will receive a harvest on the seeds that we have sown.

Think about that for a moment. Think about how sure we are that tomorrow will come. When people are going through their most difficult times, they console themselves with statements that tomorrow will be a new day. There are even songs written about it... ”the sun will come out tomorrow! Tomorrow! Bet your bottom dollar that tomorrow...”

Think about how sure you are there will be a tomorrow and transfer your certainty to your thinking about seedtime and harvest. God tells us they go along together, so we must never doubt this fact of life.

People always say "you reap what you sow" as a negative - like we're due the punishments coming to us. True. Sometimes God gives us grace to lessen the sting, but it's still true. But here's the other side of the coin: WE REAP WHAT WE SOW! We can sow towards good, super, abundant harvests, too!

The laws of sowing and reaping apply to all areas of our lives: our money, our businesses, our health, our relationships. Everywhere. Solomon even says you have to show yourself friendly if you want to have friends. We see even having healthy relationships require us to sow into them.

Each of us has to sow towards any harvest we want. If we want better health, we sow towards it better habits. If we want a loving spouse, we sow compliments and affection. If a Believer wants financial prosperity, I believe he or she must sow seed into the kingdom of God. If a business needs more customers, it must sow advertising into the market.

This is my key area of focus right now. I MUST, MUST, MUST make sure I'm sowing seeds towards the harvests that I desire. For me that includes my health, my money, my relationships, my business and my ministry above all! I'm stepping up and sowing seeds to bring my money and businesses to a new level!

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Mark Anthony McCray is the Founder of "Live BIG, Die Empty" a movement designed to help people live life more abundantly and walk in the purposes for which they were created. Write me at markanthonymccray@gmail.com for more information or call 832-566-2001. Follow Mark on Twitter at http://www.twitter.com/MARKMCCRAY and http://www.twitter.com/LiveBigDieEmpty

If you're interested in learning more about Mark Anthony McCray and having him speak to your group, here's a complete bio: MEET MARK ANTHONY McCRAY!