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Continued from (Part I) & (Part II).

For a moment there – yeah, go on, admit it – you really did think I’d lost my mind & mutated into some kind of wild-eyed snorting pawing charging bull!? One who’d sold off his entire portfolio, plus the family silver, and blown his entire wad on a titillating smorgasbord of the past year’s hottest large cap stocks & sectors instead?

But only for a moment, I hope, mes frères?!

OK, I may be a charging (?) bull – yup, my negligible cash holdings don’t lie… And I may well believe the market ultimately loses touch with the real world (& enters the floating world). But c’mon, did you really conclude I’d lost touch with reality?

Er, no… Or should I say, hopefully not..?

Obviously, having some kind of (global) macro investment thesis is essential for all investors. Well, it should be obvious – someone who foolishly pontificates it’s all (& only) about the micro (i.e. stock picking) could be, for example, missing out on a potentially lethal big picture. But an investor who focuses exclusively on the macro is being just as foolish. Because, of course, the micro’s where you’re likely to find the best long term multi-bagger opportunities. Don’t even fight it, macro & micro are both equally important…

[OK, I’ve gotta confess, that’s pretty much a bald-faced lie – any number of studies prove asset allocation (i.e. macro) is the dominant contributor to portfolio returns. But I’ll save you from reading ’em – instead, just ask yourself whether stock picking saved your ass in the last bear market?! Er… But hey, what can you do, at least stock picking keeps me off the mean streets! 😉 ]

And the stronger your investment thesis, the greater the discipline, the conviction, and the ultimate success of your investment portfolio & returns. But an investment thesis, whether it’s macro or micro, is not a winning lottery ticket you simply collect on, it’s not a belief or principle you defend to the death, and it’s certainly not some map that’s etched in stone. It’s about making your own luck, where preparation meets opportunity…so never grow too attached to a pet thesis. Instead, consider it an evolving premise that needs to be constantly challenged & updated. Far better to aggressively ask yourself (& the world) each day why your premise might actually be wrong – rather than devoting all your efforts to constructing some tottering edifice of proof to memorialise what might be, in the end, a long-dead thesis.

I’ve been developing this market bubble thesis for a couple of years now. To date, it stands up well to scrutiny & keeps getting stronger…but I’m also very aware it’s a thesis which will continue to evolve & be tested. And I certainly don’t think we’re anywhere close to bubble territory yet – leaving aside some obvious exceptions, investors aren’t exhibiting any of the usual symptoms: Yes, I’m sure you know ’em…a twisted market/valuation logic, a blatant disregard for risk/leverage, and/or a messianic over-confidence in future growth & returns.

In fact, looking back to the financial crisis, I’m encouraged by the fact that investors in most (developed) equity markets have had to climb a pretty painful wall of worry to arrive where we are today. That pattern of two steps forward & one step back (which I expect will continue), coupled with a wall of money that’s still sitting painfully on the sidelines, tells me the market could have a mighty long way to run yet…

So I don’t believe there’s any great rush here, necessarily – and fortunately, my evolving thesis has kept me fully invested along the way. But now I’ve reached a point where I believe a new global Nifty Fifty can & will increasingly dominate – and obviously the stronger my conviction grows, the more I need to execute on it.

And I must admit, if nothing else, I’ve been forced to take a long hard look here & realise my portfolio diversification’s been less than optimal. While I suspect some readers (mistakenly) presume I just run a micro cap portfolio…clearly I haven’t been swimming enough in the other end of pool either! And that’s wrong – regardless of any specific investment thesis (which could well end up wildly off-base, anyway), a fair share of large cap (vs. small cap) stocks in a portfolio adds valuable & essential diversification.

[Seems like value investors are much more guilty of this large cap portfolio omission than growth investors. In fact, it’s often a real point of pride to complain about the appalling dearth of large cap value. But c’mon, that’s a major cop-out…just work harder!]

On the other hand, I’m also conscious some of my biggest & best winners in the past year (or so) have been small & micro cap stocks. [I recently sold the last tranche of a (sadly, undisclosed) micro cap holding…it was an astonishing 9-bagger, from initial purchase to final sale, in little more than 2 years!] Sure, I’m obviously focusing on the stocks/stories which have been working out as planned. But it does suggest a bar-bell strategy might actually prove the most rewarding here – a selection of potential multi-bagger small & micro cap stock picks, nicely balanced out with an array of large cap high quality/growth stocks, could well be the perfect macro vs. micro compromise for an investment portfolio anyway.

As for special situation stocks, which still feature strongly in my portfolio, what’s now required is a far more realistic & cold-blooded evaluation of the likely scale and timing of a potential value-realisation event – investors (& even activists) tend to inevitably over-estimate the former & under-estimate the latter, to their cost (in terms of a decent IRR, or even a gain). There’s obviously still a place in my portfolio for such stocks, but they (& I) will need to try that much harder to earn it…

But I still have to address the real challenge here –  it’s the obvious elephant in the room & it isn’t going away. Of course, I’m talking about current large cap valuations… While I think market valuations can & will escalate ever higher, I’m already struggling with my fair share of individual stock valuations today. Just to re-iterate: I haven’t actually lost my mind, and I can’t quite bring myself to play the greater fool game! So I still need to actually search for & evaluate large cap stocks/companies which present a decent risk/reward proposition, and which are fairly/attractively priced in terms of their historical results & future prospects.

And yes, this does seem like a tall order. And it’s only likely to get worse… Which means two things: i) Lots of hard work – after all, there’s a hell of a lot of brand new stocks & ground out there for me to cover ultimately, and ii) most likely, a GARP approach to investing…bearing in mind, of course, the usual risks this can entail. [Essentially, GARP still needs to be anchored in terms of absolute valuations – rather than relative valuations, which is just another version of the greater fool]. So no, I don’t have any obvious quick fix or revelation here – what I’ve really been writing about/flagging up in this post is the prospective prospecting work that’s ultimately still ahead, over the following weeks, months, and even years…

OK, in my next post, I’ll share a snapshot & some discussion of my current portfolio allocation. And yes, I really must scramble – I’ve been relaxing – it’s also high time I get around to sharing my H1-2015 experience(s) & portfolio performance with you. I’m looking forward to it… 🙂