Richard Sipley

By David Bukey
Unlike most value investors, Richard Sipley, a portfolio manager at Boston Private Bank, doesn’t devote all of his time to deciphering financial statements and earnings reports.

Instead, Sipley, 43, takes a holistic view of the market, tracking indicators some of his peers might consider unorthodox, including put-call ratios, the weekly Commitments of Traders report, and insider buying and selling. In November, he published Market Indicators: The Best-Kept Secret to More Effective Trading and Investing (Bloomberg, 2009). The book summarizes dozens of indicators that identify money flows, investor sentiment, and how to distinguish between “dumb” and “smart” money.

Although Sipley relies on fundamentals, he doesn’t reject the technical side of the market. The debate between defenders of these two camps is largely irrelevant to Sipley; he analyzes individual stocks and the broader market from both sides.

This balanced perspective stems in part from his tenure in the late 90s as a market-neutral investor for Dempsey & Co., a market-making firm at the Chicago Stock Exchange. At Dempsey, Sipley sought to exploit market inefficiencies a variety of ways: using arbitrage in companies with multiple classes of stock (i.e., voting rights vs. no voting rights), and trading warrants, which are similar to call options, to create low-risk opportunities.

“When I started my career, I had to pay for capital,” he says. “If we entered a position, we were charged for it. That experience has colored the way I look at the markets. If an investment isn’t that interesting, I’m more cautious than others.”

Like many traders of his generation, Sipley sees parallels between the recent market meltdown and the 1998 collapse of Long-Term Capital Management (LTCM), a hedge fund managed by Ivy League Ph.D.s. The LTCM crisis was a rite of passage of sorts for Sipley, an example of how markets can go haywire when traders are under pressure to liquidate their positions.

But LTCM’s pain also became Sipley’s gain as he profitably took the other side of the beleaguered firm’s trades. For example, Sipley entered a spread in September 1998 in Unilever stock that traded in two countries: the Netherlands and the UK. “Usually the spread trades within a predictable band, but that band got blown way out [as LTCM unwound their trades],” he says.

Although Sipley has a solid background in finance, his first job out of college in 1988 was as a technology consultant for Hewitt Associates in Chicago. But after befriending a trader at Dempsey in 1995, Sipley joined the firm and earned an MBA from Northwestern two years later. In 2002, brokerage firm E-Trade bought Dempsey and Sipley stayed as a portfolio manager until 2008. At that point, Sipley moved on to his current post at Boston Private Bank.
   
AT: What types of trades did you focus on at the beginning of your career?
RS: The bread-and-butter focus when I started in 1995 was to track every publicly traded company with multiple classes of stock — the most common type being a voting class such as Brown Forman class A, (BF/A) and its non-voting class B (BF/B). We waited for the spread between those share classes to move out of line even though we knew nothing had changed.

We also traded stock-warrant spreads. If a warrant was trading near its strike price, you could buy [it] and short the stock, creating a cheap put. If the stock went down, the warrant would usually decline less, leading to a profit. And you would be protected on the upside. If the stock went though the warrant’s strike price, you could exercise it and deliver the stock against the short position.

Those trades forced me to do the grunt work. I [dug into] the details and also talked to the company’s management. If you’re creating a cheap put, you want to know the fundamentals.

When Long-Term Capital Management blew up in 1998, they were unwinding positions that a lot of people had been copying. The Unilever spread was usually very constant, but this was a traumatic event where people were selling what they could, not what they wanted to.

I learned that if a trade is complicated, it usually doesn’t work out as well as you’d like. If it seems pretty obvious, and you can understand who is on the other side of the trade and why, then you’re in better shape than if you try to out-think the other side. LTCM didn’t know something we didn’t. It helps to wait for those times when you can understand why the other side is selling or buying.

AT: In your book, you describe dozens of indicators that show what investors, fund managers, and insiders are doing. Are some better than others?
RS: I think it varies by what’s happening in the market. I view the indicators in the book as a supplement to what I’m already doing. I’m not a “quant” or programmer, but I can appreciate that approach because you take emotions out of it. A lot of these indicators can identify when investors are getting too emotional.

Now the market is seemingly correlated to the U.S. dollar. If the dollar goes down, the markets go up. If the dollar rallies, the markets go down. It’s very tightly coupled right now. And that can change with nobody announcing it to the world.

I might look at public sentiment on the dollar. Market Vane (a firm that tracks sentiment in different markets) says only 5 percent are bullish on the dollar. Maybe I should be careful about the [stock] market given that everybody so universally hates the dollar. I can understand the reasons why the dollar is weak and will likely get weaker. But when everybody knows something, markets can reverse fairly quickly.

Another example is gold, which seems to be very popular these days. To gauge sentiment, I might look at money flows of Rydex traders.
The Rydex mutual funds are interesting because they are all self-contained. Those traders can move their money from one sector to another — bullish, bearish, leveraged, or inverse. They are either bullish, bearish, or they don’t know and cash will be on the sidelines. The advent of exchange-traded funds clouds the picture a little bit, but Rydex used to be the only game in town.

By comparison, trying to understand overall levels of cash in the marketplace can be difficult. Why is that cash there? Last year, many thought they weren’t going to be able to take out loans, so they tapped their credit lines and just parked cash in money market funds. You might think that’s really bullish for stocks, but [you don’t really know].

I read Ned Davis’ research. He advises clients to wait for an extreme and then wait for it to reverse. My favorite chart from my book is the investment sentiment curve. This cycle plays out time after time. It can be difficult to say investors are euphoric vs. excited, but at least it provides a framework.


For the complete article, see the March 2010 issue of Active Trader magazine. Click here to subscribe.



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