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'Distance' From Stocks, Focus on Negative Headlines Led Advisors to Miss the Rally


By outsourcing the investment process to ETF and mutual funds, your advisor may have missed bargains.

Hundreds of billions of client dollars have been pulled from domestic equity mutual funds since the Dow Jones Industrial Average (INDEXDJX:.DJI) bottomed in March 2009, meaning thousands of Wall Street's clients have not participated in the equity market's rebound. Many of them are only now being encouraged by their accountants and financial advisors to put money back into the stock market, as the DJIA hits all-time highs. How does this happen?

One example might be the shifting trends in the advisor-client relationship. In a recent article in Financial Planning, John Bowen notes that financial advisors have largely shifted their focus from investing, towards client relationship building. In 2001, 86% of his clients surveyed said they spent more time "maximizing investment returns" than on client relationships. A decade later that has flipped, with almost 90% of advisors spending less time on investing, and more time on client relationships. A better client relationship means a "stickier" client relationship, one that will be around longer, and make the advisor more money. It is wise from an advisor's revenue standpoint, but I'll point out how this shift in priorities can be damaging for the client.

As advisors outsource the investing portion of their daily work to ETFs and actively-managed mutual funds, they put further "distance" between the advisor and the actual stocks that are owned on the client's behalf in outsourced mutual funds or ETFs. Advisors that outsource the investment portion of their business spend little time reading annual reports, speaking to company managements, and other research efforts critical to evaluating stocks on a company-specific basis, and especially critical to knowing which companies are well-managed enough to own and buy during periods of economic stress. In times of market turmoil like spring 2009, the advisor doesn't know the underlying securities well enough to make a decision to buy or sell – he relies on frightening headlines such as the unemployment rate, worries about Fed actions, and Congressional gridlock, rather than noticing that the companies he owns are selling at "generational low" prices, to quote Doug Kass at the time. This "distance" between the advisor and the actual stocks that create wealth for the client is a major problem, and one that the client ought to be aware of. An advisor outsources the stock-picking process because either (a) he is not very good at it, or (b) he wants more time to go after new clients. Neither scenario is beneficial to you, the client.

Missed the Rally? Blame the Fed.

Opinions abound for the move in the DJIA to all-time highs. ES Browning wrote in the Wall Street Journal:

More than any other time in history, this bull market owes its strength to the Fed.

Or for a more "colorful" take, here's a quote from Jonathan Trugman's piece in the New York Post titled "A bull(sh#t) market":

Truth is, the stock market is setting new highs daily, extending what is now the sixth-largest bull market move since the Great Depression, only because of master matador Ben Bernanke.

I won't disagree that Bernanke has made it a goal of his to boost the stock market, though that is a goal that is not specifically part of his duties as Fed Chief. What I'll point out though, is that the DJIA's gain since March 2009 has more to do with the profitability of the underlying stocks than it does with Bernanke activities such as asset purchases and the fed funds rate. The reason I point out the difference between a Fed-driven rally and an earnings-driven rally, is that the former is a favorite excuse of financial professionals who have not done their job in the past four years, and are responsible for inexcusable pain for their clients. A favorite excuse of theirs is that the markets separated from reality when the Fed got involved with quantitative easing, so all bets were off! A perfect example is David Rosenberg, who commented in Barron's on March 6:

Based on our analysis, the Fed's repeated actions since QE1 have been responsible for roughly 300-500 points of expansion (not trivial) in the [Standard & Poor's] 500 index...

I wonder where that math accounts for S&P 500 (INDEXSP:.INX) component Apple's (NASDAQ:AAPL) 456% rise in share price over this period, and the of hundreds of other stocks that rose not because the Fed is buying bonds, but because they sold more product.
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