5 Thoughts: Dollar Holler and the Deconstruction of Dogma

In this week’s column, I’d like to look at the dogma and mystery surrounding the correlation between a cheaper US Dollar and a higher US equity market… which will lead me to hammer once again on the fact that stocks are currently cheap… which will lead me to talk about investing lessons and specific thoughts on 2 companies: Fusion-IO (FIO) and Facebook (FB), the latter of which is turning into my weekly obsession!

Thanks for reading and you can always catch more of my random thoughts on my twitter log @Alex__Salomon

1) Don’t let dogma affect your performance… While the stock market has steadily been toying with S&P 1400 and maybe looking at touching year highs around 1425 or 1450, the relationship between the Euro and the US Dollar has been holding steady — with the US Dollar remaining stronger than the battered Euro. This set of equations (higher S&P 500, firm US Dollar), ladies and gentlemen of the jury, is contrary to all the dogma I was taught over the years: “we need a lower dollar to get higher US equity prices.” So, all week long, I knew I would have to look at this axiom of US investing: can the stock market go higher while the dollar firms (or even strengthens)? And what is the magic behind the axiom?

While I understand the reasoning behind the axiom (a cheaper US dollar means higher denomination of assets, easier exports, “cheaper” commodities which reflects to corresponding equities), here are the facts:
– March 28, 2012 S&P 1405 with EURUSD 1.3315
– August 10, 2012 S&P 1405 with EURUSD 1.2290 so 8.3% cheaper and yet… magic, the S&P 500 is at the same level
– Then I looked at PowerShares US Dollar Index Fund (UUP) – this index reflects the US Dollar vs a basket of major currencies not only the Euro, albeit the Euro represents about 50% of that basket)
– March 28, 2012 UUP $21.95
– August 10, 2012 UUP $22.68 so 9.6% higher, meaning the US Dollar is 9.6% stronger than major currencies, with the S&P 500 at the same heights…

What’s going on? I ended up looking at S&P 500 highs in 2011, 2010, 2009, 2008, 2007 and 2006, first against the UUP (back to 2008) and then the EURUSD (back to 2006).

UUP has actually (and pretty stunningly) been relatively flat over each of the past 5 years: 2008 +5.11%; 2009 -7.38%; 2010 -0.92%; 2011 -1.79%; 2012 YTD +1.8% and the swings within a given year are mostly held within a 10% range.

My take on all of the above?
(A) Don’t let dogma get in the way of your performance!!… Remove the blinders and while a lower US Dollar helps, if you see patterns and reasons to engage in good setups, then act on them!!
(B) Past performance cannot blindly be taken as a means for future returns;
(C) Currency relationships are very useful, but only form a part of the puzzle and thereby, should not be dogmatic.

2) Constant fear forces companies to be stronger…  Deconstructing natural forces of dogma segways nicely into my second thought of the week: “stocks are cheap on business metrics that matter!.” Yes, I am repeating a previous week’s thought and I am beating it to a pulp. Here again: “stocks are cheap on business metrics that matter.” Yet, you rarely hear about these metrics in conventional media, on TV, in analysis and columns. Few commentators and traditional media sites focus on the “historically cheap business metrics,” yet companies keep on reporting better DSOs, stronger moats, less debt loads, better cash flow, more free cash flow.

Since the 2008-2009 crisis, the US consumer has reduced its personal debt load and streamlined its budget. The same is true for companies: there are more and more “duopolies” per industries and fewer satellite players, more consolidated activities with stronger moats, improved debt loads, shorter sales cycles, better cash flow, and better cash metrics.

I don’t fully understand the reasons why “business metrics that matter” are not more widely covered and hammered by traditional media (rather stuck on P/Es and such) but recent quarterly reports bring us the same news:

(A) The world has not ended yet and there is business to be had;
(B) Parasite companies have disappeared and stronger leaders are emerging and are prepared should optimism return;
(C) Inventories, DSOs, and cash cycles have strengthened; reserves are improving;
(D) Constant fear has been an incredible catalyst for companies to be better prepared and stronger!!

3) How to re-load an investment position… Keeping with my progression (don’t let dogma or fear affect your performance), what can investors do in the face of stocks with failed set ups and what are the possibilities for re-loading and re-investing in a company that created a loss in your portfolio?

I am addressing this thought of the week because my portfolio column covered 2 stocks (LF and TDG) that looked really strong yet failed and created mixed returns or losses (stops, yes!)… yet both companies are reporting strong numbers, strong earnings and positioning themselves for a potential reload. So, what can investors do?

(A) The easy solution is to “feel burned” and to forget the company, move on and never look back … it is OK; it is easier on emotions and psyche;
(B) The tricky, pernicious solution is to become afraid of the stock, of the mechanisms that led to selecting it, and start doubting your style … with fear creeping in (not a good thing!);
(C) The courageous solution is to be agnostic, to accept the earlier loss, to re-examine the new set ups against your rules and to consider whether your objective rules can look at the stock as a brand-new situation, (forgetting out the past).

4) Fusion-IO and data retention vs. transient data… Speaking of “re-loading,” Fusion-IO (FIO) has been a difficult, yet rewarding, stock to trade (very volatile, offering long and short set ups, ultimately yielding a blow out performance on Friday August 9th after announcing very solid results). My thought of the week on FIO comes from something that was said on the earnings conference call; I thought I would share as it was one of the most interesting technology ideas of my week.

This “thought” is not mine, I am just re-printing, but it has created a brainstorm in my mind.

David Flynn, CEO, Fusion-IO:
“So Facebook has a very different culture than Google, especially in the leveraging of outside specialists in different areas. The founding culture within Facebook has been to show that it’s somewhat folly for Google to go and reinvent everything that’s not part of their core business value. […] There’s a fundamental difference too in the type of business that they are both in. Google holds transient data. It doesn’t matter if the search result is wrong or lost. You don’t notice and it gets refreshed by the next day anyway. With Facebook, it’s actually the data matters, storing that stuff. People have their life’s interaction with their friends on there, and that — were it to be lost would kind of really hurt. So it’s the difference between having people actually care about their data, in which case they’re going to potentially use experts in the field more than where it doesn’t matter.”

I just found this business and technology concept fascinating and thus it made my list… An investing thought stemming from it? FIO must be attacking Twitter and Pinterest from all angles right now, considering that they too rely on data retention.

5) Facebook is still on my mind… I have been writing a lot about Facebook (the company rather than the stock) and I would like to share another “idea of the week that is not mine.” So props to Sean Udall for planting this seed in my head: “what if Facebook actually finds a way to transform doubters into users?” After all, 15 years ago, Apple was on the brink of bankruptcy! What if Facebook creates an “iPod effect”? What if Facebook found a way to get men to use it as much as women already do? What if Facebook found a way to get me using it? (instead of writing about it … and rarely using it!).

This thought is pretty brash and pretty courageous. With $10B in the bank (or more), Facebook has a lot of firepower to create an “iPod effect” and get non-users to become users.  Have a great rest of your week.