Wednesday, March 28, 2007

Inflection Point

We are at an interesting juncture in the market as it flails about. This is the time where the average investor like myself is perplexed. The market looks fragile, but there are folks that are telling you that we've had the obligatory follow through day after the 28th's mini-crash so we are in a confirmed bull market.

  • From Bill Cara who is also quoting Colin Twiggs: "As I say, until the M&A deals are cleared from the HBB decks, and their prop trading gets a chance to off their dogs, I can see continued strength in US equities. Yesterday, the Nasdaq, Dow Utilities and S&P 500 were all up on the day. Equity futures are soft this morning, but Colin Twiggs is also looking for some strength to follow."
  • Gary Kaltbaum two nights ago, though expressing some concern over the quickness of the follow through stated that: "We are back into a confirmed bull market."
  • Gary K last night: The action today was just horrible. If you are a bull, you cannot be happy with today's market." (A reminder that Gary is almost purely a technician, but he is honest about his observations and I'm very glad to have his radio show).
  • Jeffrey Saut at Raymond James is perpetually cautious as is John Hussman--read them for gravitas (see links under Info Mosaic).
  • George Dagnino writes: "We are witnessing the unfolding of three major crises. I wrote several times here that the market is going to reflect these uncertainties. It looked like a top and walked like a top. It must be a top. I have been talking about it since December 2006 in my service." [if you are not reading George's blog regularly, then I urge you to put it on your regular reading list--see it to the right. Also, if you've not visited his website @ and read about the business cycle--go there. Read ALL of the free stuff--better yet, print it out. It's like having a free book for the price of paper. But get his book, too, if you read not one other thing on the market: Profiting in Bull and Bear Markets.
Granted, Kaltbaum, Dagnino, Sauth, Hussman all want to sell you something, so showcasing their talent is one way to do that. Take advantage of that showcasing, for they still take time to educate you. Bill, well he's not trying to sell you a thing, and he's plainly passionate about peeling back the eyelids and fanning the miasmic smoke away so that we can see clearly the pickpockets!

My point, though, is simply this--you can find an opinion to suit your own bias. That is the single worst danger in managing your own money. You could be dead wrong, and you can easily find many well-qualified people who share your opinion. They'll be dead-wrong too, but such good company you will be keeping. You want to be with people that will tell you when THEY are wrong and a track record to show that they are able to realign their views.

One of the most telling things to read during financial storms is the steady press of good news all the way down to the gates of financial hell. You cannot trust the headlines. If you learn anything as your own personal money manager, it needs to be that. And if you are an amateur, like me, you want a stable of opinions so that you can soundly develop your thoughts and theses about the market and your investment strategy.

For my money (your money might be different), I see very little short term fundamentals that will lift this market much higher without great risk to my capital. So, I'm cautious, and I'm listening to the experts I've come to trust, and I'm making decisions that make sense for me. I might be wrong, as might they. But you have to weigh the risks--perhaps construct a probability table of returns based on your underlying investments. Here I've taken a principal balance of $100K and am setting out a 50% probability that the market will go up 10% (meaning I'm wrong) and a 50% probability that the market will correct by 25%. Now, I understand that the probabilities as well as the % earned or lost are subject to the gauntlet of criticism. Nevertheless, if you have worries and you want to quantify them, you could use a very simple model such as this. Naturally, you want the summation tells you important things about your overall decision.

So, for a 50/50 chance of being right/wrong over the above scenarios, my choice would be to protect capital and avoid the weighted probability of an 8% loss. Despite these lovely probabilities, in real life, the outcome is 100% one way or the other. It gives you a quantitative means of measuring your bias and the cost of your being wrong.


Anonymous said...

Awful action out of the markets today Leisa. I'll be surprised if GaryK says any different. A couple bogus attempts to rally which were quickly sold, including a weak close. Absolutely no conviction in today's market.

The bulls need some headlines help.


Leisa said...

MarkM, I'm surprised the market closed as poorly as it did. I bet it gaps up tomorrow!

moab said...

Excellent post Leisa. Thanks.

I am watching Merrill Lynch, and the action there and in XLF is not reassuring.

What I try to do mentally is read (not listen) to both the bull and bear cases and try to make up my mind impartially, which is very hard considering that I have my own bearish prejudices on the long term. But to me, the bulls are extrapolating the debt induced past to the limitless future, which doesn't make sense to me when credit is tightening.

The way I am playing it short term is a hedge of hard assets long, paper assets short. When overbought spikes occur I sell some longs and add shorts and when the market tests the lows I cover the shorts and add some longs.

KRY jumping today is helping too!

Leisa said...

Moab, thanks. Yes, MER is getting some press about is structure debt. Did you see the article where the BAC analyst was suggesting buying credit default swaps of one against the other (the other being Bear Sterns) and play the gap.

Interesting stuff. I wish I had a better grasp of it.