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Guilty Pleasures

There are two types of investors in this world; Those that look at technical analysis, and those that lie about looking at technical analysis. We are the latter. Many of the self-proclaimed, and often industry acclaimed, "smart" investors consider technical analysis to be more witchcraft than science. It’s a bit too low brow for academics. They point out that since technical analysis can’t be proved to be statistically significant, “real” investors don’t place any value on using technical analysis. After all, anyone can perform technical analysis, even if they know nothing about econometrics and capital markets. Here’s why we shamefully peek at the technicals; Many “non-real” investors have made very “real” fortunes using technical analysis. So, while technical analysis certainly isn’t the cornerstone of our process, we are not above acknowledging technical patterns. Technical analysis doesn’t care why a market moves up or down. It focuses strictly on what a specific market movement typically means for the market’s next movement. Technical analysts come up with patterns such as “head and shoulders,” “double tops’, and “cup with handle” to forecast market movements. Needless to say, it can be a bit subjective. Why then do we sheepishly admit to peeking at the technical charts hidden under our mattress every now and then? Sometimes they work! The reason it works is simple. If enough investors believe there is information in a pattern, the pattern becomes a self-fulfilling prophecy when those investors trade that pattern. In today’s world of program trading and rapid exchange of information, short-term trading movements are becoming more consistent. So, while we don’t formally use technical analysis in our investment process, occasionally we like to point out a technical pattern. We stay clear of the crazier stuff and stick to the basics. One of the basics is called a “selling climax” We think we saw a selling climax last week. Often short term sell-offs end when there is a selling climax. This year we have had two major selloffs of about 10%. The sell-off that began January 29th and ended February 8th saw a 10.2% decline in stock prices. This decline ended when the market dropped sharply, volume spiked, and then markets rebounded sharply. The argument is this pattern highlights when the market is oversold. The spike in volume are short-sellers getting “squeezed” and needing to cover their shorts against a rising market. After this episode markets went on to make a new high on September 20th. Then from October 3rd to October 29th markets dropped 9.8%. The sharp drop on 10/29 was accompanied by high volume and then a strong rebound. We believe that was another selling climax. Currently the market is 6.3% above its 10/29 sell-off low and up about 7% on the year.

One of the pitfalls of technical analysis is investors tend to see what they want to see. We’ve been very consistent with our thinking this year regarding U.S. Stocks. We think we are still in a bull market that started in 2009. We don’t think this bull will die of old age. We think it will end when economic expansion ends, and earnings falter. In our 2018 outlook, we predicted high single digit returns for stocks. Here is our 2018 executive summary; 2018 Outlook: Despite persistent worries, or perhaps because of them, we think the growth in equity returns is likely to continue, in part because of strong consumer sentiment. Although consumer indicators are elevated, we don’t believe they currently indicate unrealistic optimism. The currently high P/E ratios don’t bother us because interest rates and inflation are so low. When inflation is low, the value of future earnings is less likely to be eroded by rising prices. Therefore, paying more for earnings today is okay. We think inflation is likely to stay low because globalization and technology have eliminated the main driver for increased inflation – the labor market. When companies can easily employ workers in developing countries, low unemployment in the US does not drive up labor costs. Lastly, we expect that the Fed will increase interest rates, as they have been forecasting. Although these rate increases are designed to moderate growth, we believe that the recent increase in GDP growth, strong consumer sentiment, and low inflation will continue to spur the economy in the near term. We will continue to monitor the indicators closely so that we are ready to make protective moves if necessary. Despite the high volatility, we are still on track for that number. This year's volatility has tested the nerves of all investors. Hopefully we are not falling victim to seeing what we want to see in the technicals. We continue to expect markets to move modestly higher over the remainder of the year. Next stop Thanksgiving, The GreenPort Team

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