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Last year the Foolish Four portfolio followed a somewhat similar pattern running up to over 30% by May then slumping through the summer and coming back, though not to May's high, by the end of the year. All of that prompted the expected amount of second guessing, recriminations and "shoulda sold in March" comments that so characterize a publicly run portfolio.
I'm a huge supporter of the completely open way we run our portfolios here and equally supportive of the discussion that goes on 24/7 on the message boards. But I do get a bit tired of the endless questioning and second-guessing that goes on. Some apparently feel that the portfolios are supposed to be managed perfectly. Others seem to take every downward trend as proof that the basic approach is flawed.
Most of our readers seem to understand that not only are we not perfect, we are quite conscious of our imperfections. The idea that we make mistakes is something that doesn't surprise us at all, but it seems to surprise some readers. I find that puzzling.
Even more puzzling is the apparent assumption that we don't really mean what we say. The Motley Fool is really truly all about long-term investing (or in the case of mechanical strategies like the Foolish Four, long-term commitment to the strategy).
All stocks, all strategies, have bad periods. Waiting out those periods is the most obvious and natural thing to do if you are truly a committed long-term investor. Right now, the only portfolio doing worse than the Foolish Four is the Rule Breaker. It's down 18% for the year. This isn't the first time it's been down that much on it's way to a 55% average annual return over the last five-plus years.
So I suppose the question is -- does the fact that these portfolios are down mean that their philosophy is flawed or is it merely the normal fluctuations of a volatile portfolio?
The answer is easier when it comes to the Rule Breaker. It is supposed to be a volatile portfolio. The recent drop may not be much fun, but it's par for the course.
The Foolish Four, however, is generally a less volatile strategy. In fact, that's one of the things we like most about it. But being generally less volatile doesn't always translate into smooth sailing. Like returns, volatility is an average and as such, it gives an incomplete picture of what one can expect when actually living through the day-to-day variance of a portfolio.
(For statistics buffs, let me add, that I am not saying that our usual measure of volatility, the standard deviation, is literally an average. But it is based on variance which involves averaging the squared deviations from the mean.)
The average temperature here in northern Virginia is 54.0 degrees Fahrenheit. The average temperature of San Francisco is 55.8 degrees. Does anyone imagine that the climates of the two cities are similar? Hint: The average monthly temperatures in San Francisco range from 49.3 to 61.2, while the range for northern Virginia is from 31.3 to 75.9.
Knowing that the average temperature is around 54-55 degrees really tells us very little about what the weather will be like at any time during the year, but it does tell us that the climate is relatively mild. (By comparison, the average temperature of Manila, The Philippines, is 81.5 and the average temperature in McMurdo Sound (Antarctica) is 1.4.) And even knowing that the climate is relatively mild doesn't tell us much about what the weather is like in July.
A mechanical approach to investing like the Foolish Four is based on past returns that are all averages. Those averages tell us very little about what it's like to experience the day-to-day ups and downs of a portfolio, and even the standard deviation gives us only a general picture of how often we are likely to see major swings in the annual average return. It tells us next to nothing about the day-to-day workings of the portfolio.
That's something we have to learn about by living through it.
Fool on and prosper!