Back when oil was trading at a record high of $145 a barrel – and was generally expected to go higher – I concluded that the forces at play were speculative, not fundamental – driven by new institutional money looking to diversify away from too many concentrated equity bets. I argued these forces were temporary, and not entrenched, meaning that oil prices were actually headed for a fall.
The "forces" I was referring to are called "capital waves." Capital waves create some of the biggest trading opportunities in the markets today. Investors who are able to spot capital waves and identify their likely impact have a huge advantage over those who don't.
With oil, for instance, pundits were calling for new highs of $200, $250, $300 and even $500 a barrel. But behind the curtain, there was a major capital wave at play: I knew that oil was being pumped out of the ground like mad, and that shipping rates were exploding because oil was being stored in offshore, idled tankers. I knew that as little as $20 billion had been "re-allocated" out of the equity markets and into this new-asset-class investment for pension fund accounts.
As a speculative frenzy seemed to be enveloping the oil market, I called for oil prices to plummet – to more than a few looks of incredulity or outright guffaws.
When the secondary capital waves took hold, the speculative advance in oil prices first stalled – and then oil prices plunged as capital exited in another wave.
Don't feel bad if you missed this opportunity. That's the important thing to remember about capital waves – they're out there if you know where to look and how to interpret them. In fact, as good as this oil play was, I see even better opportunities ahead.
Investors too often focus on specific stock selection and watch their investments get swept away when powerful undercurrents spawn market-moving capital waves.
But finding that needle-in-the-haystack stock isn't as important as picking the right haystack.
At this critical market juncture, the easy money has already been made. Whether investors are able to hang onto recent gains and take advantage of future opportunities will be determined by where – and how quickly – giant capital pools react to financial, economic and political forces.
The new religion in investing doesn't rely on faith. If you know the sea is being parted, you don't have to walk on water.
You instead must understand how to read the ripples and invest in the waves…
Ride These Five Capital Waves
The first step to successful capital-wave investing is to understand the big picture. You can pick a stock with great promise, but if its overall industry group drifts down or is tanked by an exodus of investment capital, you're sunk.
Likewise, if you pick the right industry – and even the right stock – but the overall stock market drops, that's also bad luck.
To maximize your potential for finding winning positions, start by picking the right asset class. But also make sure that you're on the correct side of the underlying trend. If you catch the big wave, you have significantly enhanced your prospect of making money when the wave pushes all boats in front of it towards profitability.
The major asset classes where huge capital waves drive quick-and-robust profits consist of:
- Developed-world equities.
- Emerging-market stocks.
- Fixed-income assets.
Profits on Our Home Shores
To really see the big picture, investors increasingly must understand political events and how they impact investment decisions and huge capital flows. Political decisions around the world affect local markets and global markets when policies impact trade relations, interest rates, currency values, taxes and regulatory matters. There are other factors, but these are the big themes to watch.
Here's what is happening around the world. And here's how to correctly position yourself in the major asset classes.
The United States is still the world's No. 1 economy and what happens here moves markets. President Barack Obama and Congress are grappling with several major political decisions. Healthcare, regulatory reform, economic stimulus and, eventually, taxation, are the major forces that will create capital waves.
The Obama administration, Congress and the U.S. Federal Reserve cannot allow interest rates to rise. They will do whatever they can to keep rates low: Otherwise, the recovery will be choked off.
Inflation is not an immediate problem. In fact, a little inflation would be an excellent tonic, and should help with asset appreciation. Also, don't get hung up on the potential ramifications of the growing U.S. deficit and escalating national debt.
The huge budgetary shortfall will hurt some investments, even as it creates huge opportunities elsewhere. But the true effects of the deficit will take more time to work their way through the U.S. economic system, meaning there are other factors that are right now more critical to consider.
With headline unemployment at almost 10% and consumers retrenching in the face of declining housing values and tight bank-lending standards, the perception of rising inflation will be offset by the need to get America going again.
Bet on low interest rates: As long as interest rates remain low, the stock market can maintain its current upward trend.
Pay careful attention to marketplace undercurrents, particularly those that are politically based. Closely follow anything that points to an end to the stimulus programs, to the market's reaction to the passage or failure of healthcare legislation, and to any real regulatory reforms that are enacted. And given the projected deficits and expected growth in U.S. debt, watch to see if any tax-law changes take place.
The trend is your friend, and right now the market trend is up. But it's a good time to be nimble, and to take profits and cut losses to give yourself the opportunity to better gauge the future direction of U.S. stocks as these major political currents play themselves out.
If you opt to remain invested in winning positions, make sure to employ protective stop-loss orders.
Ride the Tides to Global Investing Profits
The rest of the developed world is a mixed bag. Bet on Australia: As overseas economies go, it was hurt the least by the credit crisis and housing bust and has been the first to emerge. In fact, Australia is so strong that it was the first country to raise interest rates, which it never would have done if its recovery were threatened.
Canada is another strong bet. Get exposure there.
Europe is a mixed bag. The big European companies who are leaders in their respective businesses around the world are going to continue to expand and grow revenue. The governments of their home countries support and coddle the giant corporations that employ thousands and generate billions tax revenue. At this juncture, invest in the multinational leaders that are headquartered in Europe. But don't try to play any particular country.
Europe's growth prospects are inexorably tied to the euro. From a political standpoint, the European Union (EU) wants to see the euro to fall relative to the dollar and other world currencies. Why? Because, like everyone else, EU-member countries want to export their way out of recession. And a cheaper euro makes their goods and services less expensive to the rest of the world.
There's a danger, however: Europe could get too much of what it seeks.
In the face of mounting economic woes – not to mention debt that's soaring in relation to gross domestic product (GDP) – watch out for a big spike in fears that the EU could become unglued. That could cause the euro to drop too far.
This is how capital waves lead to investment opportunities. Watch the momentum of the euro: If it breaks recent support levels, it will make a great short. Put that in your currency asset-class file as a potential home-run trade.
Emerging equity markets are humming along. You should be invested internationally – in Brazil, India, Korea, and especially in China. There are political ramifications to China's stated policy to rein-in its overheated economy, just as there will be to the shifting political agendas of some of the other emerging-market countries.
The one problem with all the emerging economies is that they are all export driven. Sure, China has been investing internally. But politically speaking, Beijing knows that the domestic demand needed to fuel internal growth will need more time to reach a perpetuating critical mass. However, watch the country carefully: If domestic demand outpaces exports revenue, buy the country!
China is the engine of Asia. If China cools down, it will affect the entire region, as well as global commodities prices and, indeed, the entire world market.
There's a new nexus driving the world. The global confluence of politics and economics brokered the engagement of the United States and China. But who actually ends up wearing the pants in this marriage will determine where there are opportunities, and where there are struggles, all across the globe. Huge pools of capital will be shifted.
There are no bigger, faster or more profitable capital waves coming than these.
Low-Tide Interest Rates Yield Maximum Market Profits
The fixed-income asset class is arguably the most important asset class for investors. While there are plenty of bond and fixed-income securities and instruments to invest in, this asset class is crucial to watch because it is a window through which we can see the direction of interest rates. Nothing creates giant capital waves quite like interest-rate moves. If you want an early warning system to safeguard your investments, or if you're looking for new investment opportunities, become a master reader of the bond market and diviner of the direction of interest rates.
Since the stock market rally began last March, investors who bet that an increased risk appetite would mean an exodus from a massive build up in U.S. Treasury holdings got burned. If you understood the big picture and knew that the Fed and the Obama administration intended to keep interest rates at ultra-low levels at all costs, you would have participated in – and profited from – the rally in bonds.
Eventually, interest rates will start to rise. Getting the timing right could make you staggeringly wealthy – while those who don't have their eyes on the prize take it on the chin.
Movement in interest rates directly affects the biggest asset class of all – currencies.
Currencies and Commodities: The Best Waves to Ride
Investors who aren't playing the currency markets are missing out on the last great venue where one can start with a little money and, if managed properly, leverage it into double, triple or quadruple gains that just aren't attainable anywhere else.
Macro political decisions affect interest rates and currency relationships. Therefore, to catch the big movements in currencies, keep an eye on government-trade, spending, tax and regulatory policies. Watch what's happening between political factions in Europe. The biggest plays will be in the dollar, the euro and British pound. Right now the trades are: Long, short and double-short, respectively .
The last big asset class that investors can make a killing in is commodities. You don't have to watch them all. Watch the commodities that most affect your life. The ones to watch include oil, gasoline, natural gas, agricultural products and, of course, precious metals such as gold and silver.
What factors most affects commodities? Politics, for one thing. For instance, whether or not Beijing slows China's growth will determine the demand for most major commodities and basic materials. Indeed, whether all the world's economies will try to export their way to economic growth will determine commodity demand. After all, if global growth slows, commodities stockpiles will increase, and prices will plummet.
At the core of each of these scenarios will be series of macro political decisions that set the catalysts in motion.
No matter which way asset prices move, one fact is certain: If you divine the correct capital waves, and time your trades correctly, commodities provide a means of diversifying your investment portfolio and adding rocket fuel to your returns.
Rules for Safe Big-Wave Surfing
It's easy to take positions in macro trends and in different asset classes. There are plenty of great exchange-traded funds (ETFs) to trade if you currently don't wish to invest directly in bonds, currencies or commodities. At some point in your moneymaking career, your view on this point is likely to change, and you will make those investments directly.
As we've seen in the two years, markets go up and they go down – and sometimes very sharply. It's important to remember that, in general, when markets go down the velocity of the move is greater than it is on the way up. The simple reason for this reality is that the emotion of fear is much more powerful than that of greed. All the major asset classes can – and should – be played in both directions. If you're only playing the uptrends, you're missing out on the other half of the action.
And worse, if you're not inclined to see opportunity when markets reverse, there's a better-than-even chance that you will get stuck thinking that your sinking position will magically reverse course and resume its ascent. I call this investor trap "the tyranny of magical thinking." The bottom line is simple. If you take profits and cut your losses you will be out of the market at times. And, that gives you a clear view of trends.
The last 10 years are a wash. And stock-market investors must face the scary reality that buy-and-hold investing has failed. It has failed because the world has changed – but most investors haven't.
As the world has gotten larger, investing opportunities have grown in size, scope and speed. Huge capital flows move in and out of asset classes, markets, industries and stocks at the speed of a mouse click.
And precisely because these giant capital waves happen so often, smart investors tend to be big-wave surfers. They just need to be sure to pick the right waves to ride.
[Editor's Note: Money Morning Contributing Editor R. Shah Gilani has seen it all – which is why his columns and analyses have been read by millions.
A retired hedge-fund manager and gifted analyst, Gilani regularly readers behind Wall Street's "velvet rope" – and into the world he knows so well – exposing the pitfalls that can inoculate investors against ruinous losses even as he highlights profit opportunities that most other experts never even recognize.
With his new advisory service – The Capital Wave Forecast – Gilani shows investors the monster "capital waves" now forming, will demonstrate how to profit from every one, and will make sure to highlight the market pitfalls that all too often sweep investors away.
News and Related Story Links:
- The Capital Wave Forecast:
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The Australian Economy
- Money Morning Special Investment Report:
It's the Best Investment in North America – and It Isn't the United States
- Money Morning Special Report:
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- Money Morning News:
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- Money Morning Special Investment Research Report:
Why Gold Will be the "Greatest Trade Ever"
- Money Morning News Analysis:
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Iron Ore Negotiations Reach an All-Too-Familiar Impasse
About the Author
Shah Gilani boasts a financial pedigree unlike any other. He ran his first hedge fund in 1982 from his seat on the floor of the Chicago Board of Options Exchange. When options on the Standard & Poor's 100 began trading on March 11, 1983, Shah worked in "the pit" as a market maker.
The work he did laid the foundation for what would later become the VIX - to this day one of the most widely used indicators worldwide. After leaving Chicago to run the futures and options division of the British banking giant Lloyd's TSB, Shah moved up to Roosevelt & Cross Inc., an old-line New York boutique firm. There he originated and ran a packaged fixed-income trading desk, and established that company's "listed" and OTC trading desks.
Shah founded a second hedge fund in 1999, which he ran until 2003.
Shah's vast network of contacts includes the biggest players on Wall Street and in international finance. These contacts give him the real story - when others only get what the investment banks want them to see.
Today, as editor of Hyperdrive Portfolio, Shah presents his legion of subscribers with massive profit opportunities that result from paradigm shifts in the way we work, play, and live.
Shah is a frequent guest on CNBC, Forbes, and MarketWatch, and you can catch him every week on Fox Business's Varney & Co.