Epiphany Investing

Searching Out the Optimal Portfolio of “Revelation” Stocks

Secular Trends Portfolio

Objective - The Epiphany Investing Secular Trends Model Portfolio seeks to position itself as the optimal equity-focused investment model for global secular trends.


Ok…So What Are Secular Trends?

Secular Trends are trends that take decades to play out, not just months or years. Cyclical trends, by contrast, are themes that may indeed affect stock prices, but over a shorter time frame. Cyclical trends are most commonly associated with the 3-5 year business cycle that periodically “lifts and lowers” all boats.

For example, when the U.S. economy is just beginning to come out of a recession, certain industries stand to benefit before others. Companies that provide lumber for houses, steel for airplanes, and aluminum for soda cans will tend to see an increase in sales before say, the retail outlet that sells the soda. The company that builds the airplane will first need to pay the suppliers of raw materials before they get to sell the plane. So there gets to be a predicable order of things, and institutional (i.e. big money) investors have spent many years studying and predicting this order of events.

Repeat, Reverse….The Cyclical Story Stays the Same

And each time the economy falls back into recession, the process repeats itself, only in reverse. Now the companies that supply the raw parts see their orders fall off first, and so on. These are cyclical processes that will stay intact as long as the underlying structure of the economy has the same basic parts and types of business.

This is where secular trends come in. Secular trends are the game changers. The paradigm-shifters. The “insert-your favorite-business-cliche’-here” events that literally change the landscape. For example, when railroads first hit the scene nearly 100 years ago, it fundamentally changed the way business could transport goods from one place to another. It changed not only the speed of business, but the type of business that could be done in different parts of the country. Electricity and the light bulb did the same thing…it made any noticeable patterns before its invention completely useless. 25 years ago the computer did a very similar thing, as has the internet.

The Research Process at Epiphany Investing

My research process begins by taking an objective, flexible, and permeating view of the global economy of the future.

From that perspective, my analysis attempts to “reverse engineer” the market landscape most likely to result, and the companies & industries most poised to benefit from the long-term trends most likely to not only exist, but persist.

To that end, I consume information like Pac-Man…science research, cultural research, stock research, economic research….everthing from Chaos Theory to pop culture is fair game. It’s done with the humble understanding that I’m tackling issues that are challenging at best and impossible at worst, so I respect the process. I’m always willing to accept when an ongoing theme has changed, been nullified, or was just flat-out wrong.

Surprisingly this is where most asset managers get it wrong. They feel that if X amount of time has been spent confirming something, it just can’t be wrong. Our near-economic collapse of the past two years should be more than enough evidence of what happens when otherwise brilliant folks get a case of “hubris-itis”

For more on my approach to “perfect practice” investing, read the “About” page here.

The Secular Trends Model Portfolio - Our Mission and Investing Rules

The Secular Trends Model is just that - a model. This isn’t another one of those “I just bought this stock so I’m going to pump the S*%$ out of it in a series of all-sunshine & puppies articles” websites. The internet is littered with them, so if nothing else I’d like to be a small batch of fresh air in an otherwise smog-laden city.

I believe in journalistic and academic integrity above all else. But this my reputation on the lines, folks. Every holding has been meticulously recorded and time-stamped from the date of its addition. All trading activity has its own post dedicated to just that. The ledger is always available from the main page (or here), and below you can click on any of the tickers to get all the coverage and research I’ve ever posted.

On Passing the Smell Test…

Have you ever found yourself reading a website that blasts a headline like “I told readers about stock XYZ last month and it DOUBLED! I am the greatest ever!!”. Yeah, me too. It’s usually followed with “For only $300 per year you can get all my picks sent right to your inbox!”

You ever wonder how the other 35 stocks they recommended last month did? Me too. You’re not likely to ever hear about them. The act of cherry-picking has likely been around as long as the cherry itself. But you’ll never find that here. If anything you’ll read more about my losers than my winners, because that’s where I find I can learn them most. But regardless of whether I’m patting myself on the back or kicking myself in the rear, you’ll always have full access to the Secular Trends Model Portfolio, and every trade that’s ever occurred in it.

I want to beat the snot out of the averages, not because I’m a genius (although I won’t scold anyone for saying such), but because if I do a good job identifying the trends and their beneficiaries, the performance should take care of itself.

Thesis Parameters of the Secular Trends Portfolio

In order to accomplish my high-level goals while maintaining prudent risk tolerance, the following Thesis Parameters have been established:

#1 - Respect - but do not be beholden to - sector representation in broad market benchmarks. In other words, if the S&P 500 (my benchmark) has a 15% weighting in healthcare stocks, I don’t mind being at 18%, but if I’m going to ramp up to 30%, I’d better have a darn good reason.

#2 - Arrive at each holding dually, via top-down and bottom-up analysis; both sets of thought must support thesis. No investor should EVER buy a stock simply because they think it’ll be a winner in 10 years. In order to achieve consistent capital appreciation, each stock must also have a stellar fundamental underpinning. It’s the fundamentals more than anything else that help me determine which companies are most likely to benefit from the secular trends I find the most compelling.

#3 - Hold a concentrated portfolio.  Long-term goal is between 15 and 20 positions. I appreciate the magical ~30 number from a mathematical perspective, but would rather overweight the best than fill in gaps with stocks based on substandard theses. Many mid-cap and larger companies are naturally present in multiple industries or sectors, so there’s a lot of inherent diversification just by investing in some of the bigger names.

#4 - Keep beta below 1 and turnover below 50%; frictional costs will be as Spartan as possible at all times. It is these costs which keep the vast majority of money managers from beating the Vanguard S&P 500 fund and its kin. I record a $25 commission for every trade in order to most faithfully show the cost structure that a retail investor would face if they were replicating the model.

07/21/08 Portfolio Update:

As the model portfolio nears the end of its 3rd quarter since inception, U.S. and global equity markets are stabilizing from the cliff-viewing exercise of last fall and early 2009. Volatility has abated substantially from the initial months, but several holdings continue to see historically high levels of volatility.

As we enter the third week of this all-important earnings season, I’m impressed on several levels. First, companies across all sectors are beating; it’s not just the financials or just the tech stocks. Secondly, the ability of companies to improve margins in the face of falling revenues is nothing short of astonishing. For all the bashing of capitalism in the past year, this earnings period (so far) has solidified the age-old adage…necessity is indeed the mother of invention.

Now to the fun part. The Secular Trends Portfolio has managed about 28 percentage points of alpha since inception. Performance will be updated during the week as time permits, but for now I’m thrilled because for all the outperformance, several stocks still have yet to pop in the way I think they will very soon. But as always, humility breeds success, so I’ll continue doing what I always do - spend 5 hours doing research for every one writing.

Current Portfolio Holdings & Prices

The link below will take you to the portfolio tracker, which is being fed with real-time prices for all 23 positions.

Real Time Positions Link (Google .xls)

Because I’m not quite savvy enough to get all the links into the table itself, below is an outline of the current positions, along with sector performance versus ETF benchmarks (SPDRs used whenever possible & position sizes, data as of 07/21/08):

Technology (21% of holdings; return of 17%, versus XLK return of -13%)

Energy (12% of holdings; return of -4.7% versus XLE return of -25.8%)

Basic Materials (9.7% of holdings; return of -1% versus IYM return of -34%)

Industrials (7.4% of holdings; return of -31% versus XLI return of -35%)

Healthcare (12% of holdings; return of 6% versus XLV return of -18.2%)

Financials (10.4% of holdings; return of 17.6% versus XLF return of -39%)

Services/Telecom (7.5% of holdings; return of -20% versus sector blend (VOX, PEJ) of -16.5%)

Consumer Goods (9.8% of holdings; return of -20% versus IYK return of -23%)

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