December 12th, 2008

Back to Basics

I’ve tried several times over the past 24 hours to sit down at the keyboard and write something interesting, elucidating, informative or provocative but have remained unable. This market is bizarre. I must have been bored to death (or seeking just one moment of levity), and tuned in to Jim Cramer last night. He was again throwing his name in to be Obama’s appointment as SEC Chairman [heaven help us!] when he went on a rant about how the market’s fixed. He said the following:

“Everyday investors are losing faith in the market….Big money managers are pushing stocks up and down on a whim without regard for the underlying companies’ fundamentals…..It is this total disconnect between the market and basic investing principles that has made it hard for the little guy to trust stocks….The Securities and Exchange Commission under the chairmanship of Christopher Cox has done away with virtually any and all regulation that democratized the market and leveled the playing field. Only a complete reversal will restore trust.”

Both last night and on several previous shows he blamed ETFs, especially the double and triple shorts and longs, as financial innovations that add to the volatility (I first wrote about the correlation between market volatility and the growth of Proshares Ultra- ETFs on November 20). Cramer’s solution is to buy “consistent dividend payers with strong balance sheets”. But I could show you a ton of those on which you would have lost 20 years worth of dividend payments in capital losses due to price collapses.

I’ve been whipsawed like everyone else but my losses, although still stinging, have been relatively small since my investments have been a small percentage of my portfolio – we’re still primarily in money markets. The answer to keeping your sanity and surviving this volatility is to go stick to basics:

  1. Know which life cycle phase the market is in – Accumulation, Mark-up, Distribution or Mark-down – and the best strategy to use in each. There is no question that 2008, the Credit Crises Bear Market Crash, was the Mark-down phase. The big question is whether the market has already put in a bottom and begun transitioning into the Accumulation phase or is still in a Mark-down Bear Market phase (see my October 17 discussion).
  2. Know the direction of the market’s trend within the phase. Although volatility is greater on a daily basis (see chart on Bespoke Investment Group’s blog) you want to know the market’s trend direction for beyond the next hour or the remainder of the day. To firm up your assessment as to whether the bottom has been put in, look for multi-week and multi-month trends upward.
  3. Finally, find and follow current industry and company themes. For the past several week’s the market has been nearly in a mirror image of what happened to precious metals, commodities, and foreign exchange in July. Back then, it was as if someone “turned out the lights” and everything came crashing down. As we later learned, much of the collapse resulted from hedge funds needing to liquidate to prepare for later redemptions and because of their inability to continue securing adequate leverage financing. The trend seems to be reversing now: the dollar is falling and prices for hard commodities are rising as a result. No one can say with certainty how long this will continue but you have to stick with the trend.

I was diverted over the past several days and reverted back to a stock-picker’s mentality. I saw the S&P 500 and its 60-day moving average beginning to converge and the excitement of it all overtook rationality. We’re still in a Bear Market and that “all-clear” MTI signal is months and 35 percentage points away. It’s just too early to start straying from a strategy that’s kept us relatively safe from all this devastation.

By the way, I happened across “The Dow at 7,200?“, something I wrote this past July 20 when the Dow was at 11496 while doing some research. I can’t believe how prescient a piece it was. To find out what Martin Weiss and his crew are saying now, click here?

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