Pardon me if I start this week’s commentary with a little baseball talk. It’s been well over a decade since I’ve been excited about a pennant race, but yesterday, the Orioles tied the Yankees for first place in the American League East. (They are one game back after last night’s games.) As a lifelong O’s fan—I grew up in northern Virginia—I’m nervously hopeful.

As a kid, Earl Weaver was a constant presence in the dugout. Weaver was known for two things. One, his “discussions” with umpires during games. The second was his systematic approach to baseball.

It didn’t matter what a player’s talent level was, everyone practiced and played the same. If someone was the worst minor league player in the organization or an all-star on the major league roster, the philosophy never changed: pitching, defense and the three-run homer. Weaver emphasized the basics, believing that no player ever became so talented that he could ignore them. Weaver also believed in creating luck, either by limiting scoring opportunities for the opposing team or maximizing scoring opportunities for the Orioles. (Hence, the “three-run homer.”)

Following a disciplined, systematic approach works for investing too. It doesn’t matter how much knowledge about investing you gain, the basics never change. A good business model, rising sales and profits, positive cash flow and a low-to-reasonable valuation are key traits of winning stocks. Sound fundamentals, positive cash flow and a reasonable valuation are also important for selecting bonds. Expenses, a stable management team and good performance relative to peers are important for funds. Proper allocation reduces portfolio risk, increases the odds of being in the right asset at the right time and helps you achieve your financial goals.

What often trips investors (both institutional and individual) up is the failure to stick to a sound, long-term strategy. In fact, not sticking to a good strategy ranks among the most harmful things you can do to your portfolio. You can see this in the long-term funds data provided by the Investment Company Institute, the annual data on investor performance published by DALBAR (which we’ll show in the October AAII Journal) and in books such as Stephen Weiss’ “The Billion Dollar Mistake” (John Wiley & Sons, 2010). You can also see how discipline helps to create profits in Benjamin Graham’s books and Jack Schwager’s texts on “market wizards.”

Obviously, no amount of investment discipline is going to prevent your portfolio from being affected by market volatility. There is always randomness in market and economic events. What you can control, however, is how you react to them. And sticking to a systematic, disciplined approach will make you more successful, both as an investor, and if you so choose, as a baseball player. (Go Orioles!)

More on AAII.com

• Investing for Retirement Requires a Disciplined Approach – T. Rowe Price’s Jerome Clark explains why maintaining an allocation to stocks during both bull and bear markets is important.
• Fund Investors’ Biggest Mistakes and How You Can Avoid Them –The behavioral errors discussed in this 2002 AAII Journal article still occur today; learn how you can avoid them.
• AAII Investor Classroom – Our investor classroom provides great lessons to beginning investors and useful refreshers to advanced investors.
• How do you stay disciplined? – Tell us on the AAII Discussion Boards.
• Don’t forget to take the Sentiment Survey.

The Week Ahead

This Tuesday, you can see me speak at our Houston chapter. On Wednesday, Joe Lan will speak at our Eastern Michigan chapter and I will also speak to our Dallas/Ft. Worth chapter. Visit the AAII Local Chapters page for more information about these meetings or to find a meeting near you.

The only S&P 500 member scheduled to report earnings next week is Pall Corporation (PLL) on Wednesday.

The week’s first economic report will be July international trade, which will be published on Tuesday. Wednesday will feature August import and export prices and July wholesale trade. The August Producer Price Index (PPI) will be published on Thursday. Friday will feature the August Consumer Price Index (CPI), August retail sales, August industrial production and capacity utilization, July business inventories and the preliminary September University of Michigan consumer sentiment survey.

The Federal Open Market Committee will hold a two-day meeting starting on Wednesday. On Thursday, the meeting statement will be released early, at 12:30 p.m. ET. Committee members will release their economic and interest rate forecasts at 2:00 ET that afternoon. Federal Reserve Chairman Ben Bernanke will hold a quarterly press conference at 2:30 ET.

The Treasury Department will auction $32 billion of three-year notes on Tuesday and $21 billion of 10-year notes on Wednesday.

AAII Sentiment Survey

Equal numbers of individual investors described themselves as bullish or bearish about the short-term outlook for stocks in the latest AAII Sentiment Survey.

Bullish sentiment, expectations that stock prices will rise over the next six months, fell 1.7 percentage points to 33.1%. This puts optimism at a five-week low. The historical average is 39%.

Neutral sentiment, expectations that stock prices will stay essentially unchanged over the next six months, rose 1.2 percentage points to 33.9%. This is the sixth consecutive week and the 10th out of the past 12 weeks that neutral sentiment has been above its historical average of 31%.

Bearish sentiment, expectations that stock prices will fall over the next six months, edged up 0.4 percentage points to 33.1%. This puts pessimism at a five-week high. It also puts bearish sentiment above its historical average of 30% for the second consecutive week.

It is unusual to see bullish and bearish sentiment evenly matched. The last time this occurred was on May 13, 2010. The current split reflects the mixed signals and ongoing uncertainty individual investors are seeing. Though domestic economic data is signaling continued growth and stocks are holding onto their summer gains, concerns about slowing global economic growth, Washington politics and the European sovereign debt crisis are not going away.

This week’s special question asked AAII members how their six-to-12-month outlook for U.S. economic growth has changed from last fall. Respondents were split. The largest number of AAII members said their economic outlook has worsened, but this group only slightly outnumbered the groups of individual investors who said their outlook has improved or those who said their outlook remains unchanged. Many members said they were withholding giving an opinion until after the November elections or predicated their answer based on which candidate wins the presidential election.

Here is a sampling of the responses:

• “My outlook is down from bullish to neutral. The fiscal cliff and uncertainty about where the politicians will take us is of serious concern.”
• “I see a slight decline in economic activity due to the uncertainty surrounding the election and the problems in Europe.”
• “Somewhat more positive, but the economy will still grow at a slow pace.”
• “I’m more cautiously optimistic than last fall.”
• “The election will be a major factor.”

AAII Asset Allocation Survey

Cash allocations fell to a 15-month low in August, according to the latest AAII Asset Allocation Survey. Equity allocations reached a four-month high and fixed-income allocations reached a six-month high.

Stock and stock fund allocations rose 0.7 percentage points to 60.5%. This is the most AAII members have allocated to equities since April 2012. The historical average is 60%.

Bond and bond allocations rose 2.0 percentage points to 21.4%. This is the most AAII members have allocated to fixed-income since February 2012. This is the 37th consecutive month that fixed-income allocations are above their historical average of 16%.

Cash allocations fell 2.7 percentage points to 18.1%. This is the smallest amount AAII members have allocated to cash since May 2011. This is the ninth consecutive month that cash allocations are below their historical average of 24%.

Equity allocations increased as short-term sentiment improved during the first three weeks of the month. A rise in interest rates during the first half of August may have prompted some AAII members to shift some of their cash into bond investments. Even with the increases, stock and bond allocations did not significantly change from July. AAII members remain concerned about the pace of U.S. economic growth, the possibility of higher taxes and federal budget cuts in 2013, and the European sovereign debt crisis. They also remain frustrated with the low current yields and worry that interest rates could move higher in the future.

This month’s special question asked AAII members how they are investing their portfolio’s cash allocation. Most said they were using a money market fund. Many members said they also owned certificates of deposits (CDs) and/or use an interest-bearing bank account. A comparatively smaller number held short-term bond funds, Treasury bills or savings bonds.

» Take the Asset Allocation Survey

Wishing you prosperity,

Charles Rotblut, CFA
AAII Journal Editor