Investing for the recovery - Highly recommended podcast & paper

Patrick O’Shaughnessy just released a new episode on his podcast “Invest like the best”, entitled “Investing through a crisis”. It’s a Cole’s notes version of Dan Rasmussen’s paper on Crisis Investing, completed fairly recently (before this crash). His team did a deep dive on return characteristics of asset classes in the recovery mode of 8 different crises in last 40+ years. Also looks at typical features of panic crashes, etc.

http://investorfieldguide.com/investingincrisis/

https://mcusercontent.com/6dc62f307511d466ff78a94fe/files/b12058f7-afbd-4078-8604-52c9cbc1b592/Crisis_Investing_Verdad_Advisers_Ebook.01.pdf

Highly recommended. Please take a look, I think this is very helpful information in these uncertain times. It’s a decent read at 77 pages, I’m still getting through it.

Let me know what you think, and for those who invested through these crises, please share your experiences and any parallels (or differences) in this research.

*** spoiler alert: this backs up my bull case for value and small caps after this is over! ***

Cheers,
Ryan

I’m listening to the podcast now. I guess it makes sense that small caps and value gets hammered hard during a crisis, and bounces back the hardest. For me personally, value worked really well after the 2008-2009 crisis, and stopped working in recent years.

Coming out of the March 2003 and March 2009 bottoms, if you invested in the smallest 20% of the S&P 500 by market cap, you made 95% and 266% over the next 12 months.

You did a little better if you bought the smallest 20% of the S&P 400 midcap.

And a little better still if you bought the smallest 20% of the S&P 600 smallcap.

Sounds like you could do a lot worse than run the P123 Core: Value rank against the Prussell 3000 Universe with a screen for quality to avoid bankruptcy candidates (might want to exclude Energy and Transportation altogether).

The coiled spring analogy of value makes sense to me. I’m still sticking with my same multifactor ranks, but I’m thinking about weighting the value factors more heavily going forward and lowering the weights of growth. Stocks were priced with growth expectations that will impossible to meet now with supply chains broken and global demand ground to a halt and I expect the multiples for growth to continue to shrink going forward.

It’s going to be amusing if all those old ranks and DMs we wrote off as overfitted 3 or 4 months ago now suddenly shoot straight up.

I’ve stuck with deep value high quality small and micro caps in my retirement accounts all the way painfully down, but low beta features have kept me (barely) above my bench marks. It’s ripping straight up today. I’m up 8+% on a 30 stock port, and a lot of holdings up double digits (SPY up ~1%, RUT ~4.5% as of this moment).

Might be good news and might not, goodness knows things have been insanely volatile, but if small cap value historically leads the rally it’s worth keeping an eye on if anyone has bailed out of small value. Now that I’ve jinxed myself, it’s obviously going 50% straight down from here, but I’m going to ride it to zero. If small cap value doesn’t lead the next rally, I don’t know why anyone would ever buy it again after a long under-performance streak leading into the drawdown.

I have found that the most important aspects to watch in a bear market and the following recovery is drawdown.

As the markets are dropping, buy stocks with the least amount of drawdown over something like 200 or 500 days.
Right now in the S&P 500 that is stocks like CTXS KR WMT GILD WEC HRL REGN LLY K ED

But the very second the market capitulates and reverses - you want to do the exact opposite. Jump into all the names that have had the biggest 200 or 500 day drawdown. If the market reversed today that would names like NBL HAL ADS APA DXC CPRI FANG DVN NCLH XEC
The one caution I would use is that you may want to balance this out between sectors. Going all in energy stocks might be bad.

The problem is that you still need to time the market somewhat. On the positive side, the out-performance of stocks with massive drawdowns in the following recovery seems to last at least a year. During that time it would probably be good to start including fundamentals again.

Just don’t get caught holding low vol stocks (or worse yet switching out of high vol into low vol after an extended bear market) when it rebounds. That’s when holders of low vol stocks have to pay the price for not getting crushed in the bear market.

A simple formula in the screener such as this should help
highval(500)/close(0)

How can you tell when capitulation is over?

You can’t time it perfectly by any stretch. But if the market is down 40%, you may want to consider switching strategies. And seeing as this often works for the next 9 - 12 months in the recovery stage, don’t hold low vol stocks if you see the market trending up for a few months.

I am a fan of getting in front of the bell curve and taking that extra bit of volatility so you don’t miss out on the upside. Just an opinion but at this point, I wouldn’t be more than 50% defensive and low vol. I would keep transitioning with each down leg of the market.

Thanks Kurtis!

OSAM just released a new paper touching on similar subjects.

Just read the paper, and am interested in trying to replicate something similar. I know this is really basic, but could anyone help with the formulas required to create a universe that only has positive net income and positive cash flow stocks? Im sure this is simple and I’m over thinking it.

Can do something like this in universes…

Can use TTM instead of quarter – but these are all backward looking and won’t tell you who will have FCF>0 or NetIncome>0 this quarter.


Thanks!