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4 Year Presidential Cycle (FY 2007)
Profiting in the expected stock market storm
Stocks could take a big hit this summer but that may set the stage for a powerful rally. What should your next move be?
By Alexandra Twin, CNNMoney.com senior writer
March 28, 2006: 12:51 PM EST
NEW YORK (CNNMoney.com) - If history is any guide, the stock market's in for a rough ride the next six months -- but then a powerful rally could very well follow.
So what's an investor to do? Bail out now? Stay put and wait for the tough times to pass?
Keeping in mind that every investor's portfolio is different, and that generalizing can be hazardous, stepping back a bit over the next few months probably couldn't hurt, said Harry Clark, founder and CEO of Clark Capital Management Group.
"People may want to lighten up on some stocks that have reached their targets and raise a little more cash, maybe put 20 percent in cash," Clark said. "Then when the market bottoms in the late summer or early fall, they have money to put back to work."
Clark said he is expecting the Dow to pull back around 12 percent, with declines perhaps starting after the Federal Reserve finally does pause in its interest-rate hiking campaign, which most people on Wall Street expect to happen later this year.
Barry Ritholtz, chief investment officer at Ritholtz Capital Partners, said the market drop could be even steeper. But as with all historical indicators, the trend doesn't always hold true.
Here's a look at why the trend may very well prove consistent this year, with a big fall followed by a good buying opportunity near the end of the year.
Bracing for a fall?
Sure, stocks look fine now, but things could get uglier as the year wears on.
The Dow and the S&P 500 are nearing five-year highs, the economy is strengthening after a rough fourth quarter and interest rates, though set to keep rising at least a little while longer, remain historically low.
All of that is fairly supportive for stocks. But it's not as supportive as the extremely upbeat environment three years ago that sparked the current bull market, Ritholtz said.
At that time, in late 2002, "corporate profits were improving, interest rates were declining and oil wasn't the issue it is now," Ritholtz said, noting overall the market looks a lot more risky now.
There's also the issue of the bull getting old and the market perhaps being due for a sell-off.
"In this cyclical bull market that's been in place since October 2002, we haven't had a big pullback," said Sam Stovall, chief investment strategist at Standard & Poor's, noting that the S&P 500 has not seen a decline of more than 10 percent.
"You need to digest some of those gains in order to move higher," Stovall added.
There are also all the seasonal factors to suggest a decline is coming.
As the old Wall Street adage, "sell in May and go away," makes clear, the six months between May and October are typically tough for stocks.
Market historians who think the market follows the four-year cycle of the presidency say year two is typically the weakest. 2006 is year two of President Bush's second term.
Put these two factors together, and you get something of a potential 'worst of the worst' scenario over the next six months, as a recent study from Standard & Poor's made clear. (Full story).
Essentially, the study noted that seasonally, the second and third quarters of 2006 -- and any second year in the presidential cycle -- tend to be worse than any other quarters in the four-year period.
Fall tomorrow, get flush the day after?
Since 1913, the Dow industrials have seen an average decline of 22.2 percent between the high it hit in the first year of the four-year cycle -- in this case 2005 -- and the low hit in the second year, namely 2006, according to the Stock Trader's Almanac.
Right now the Dow is hovering about 3 percent above last year's high, hit in March of 2005, suggesting a big drop may be coming.
But after it bottoms out, the Dow tends to rally substantially through the third year of the presidency -- in this case 2007. On average, since 1914, the Dow has jumped a whopping 50 percent from the bottom it hits in the second year to the top in the third year, the Almanac says.
This bounce ties in with statistics that show the second and third years of the four-year cycle tend to be the best for stock markets as the party in power gears up for the following year's election, and tries to keep investors happy.
Barring unpredictable developments in Iraq or global oil supply, the analysts said, the market could see a similar move, down and then back up, later in 2006 and 2007.
What about years 3 & 4 ? - November 2006 to November 2008
The second part of the presidential cycle is usually the most bullish for the stock market, in the lead up to the next Presidential Election as promises are made and the White House tends to embark on a spending spree to bring about a feel good factor amongst the electorate. The gain from the 2nd year low to the 4th year high has averaged some 35%, which would put the Dow some 2,000 points higher.
http://money.cnn.com/2006/03/28/markets/markets_bearbull/index.htm
Sell In May and Go Away
Worst six months on tap?
A choppy market worried about inflation and interest rates now has another issue: seasonal weakness.
May 2, 2005: 4:32 PM EDT
By Alexandra Twin, CNN/Money Staff Writer
NEW YORK (CNN/Money) - You think the stock market's been troubling lately? Get ready for what's often the worst six months of the year.
The period from May 1 through Oct. 31 is usually not so great for stocks, as the old Wall Street saw "sell in May and go away" tells you.
But followers of the hemline indicator, the Super Bowl indicator and the dreaded Shaq curse will also tell you that these so-called Wall Street indicators are suspect. The trends can sometimes be chalked up to coincidence and they typically analyze too few years to be relevant statistically.
Still, as indicators go "the seasonal tendencies can provide a good backdrop," said Ed Clissold, senior global analyst at Ned Davis Research. "But they have to be taken within the context of whatever else is going on in the market."
And to be sure, many of the issues that are troubling investors are unlikely to just go away anytime soon.
Click here for the earnings scorecard.
Those include the slowdown in economic growth, the commensurate deceleration in corporate earnings growth, the steady rise in short-term interest rates, and -- oh yeah -- soaring prices for oil and other commodities that have pushed up the pace of inflation. (For more on whether "stagflation" is making a comeback, click here.)
The best of times ...
To demonstrate the strength of the November through April period versus May through October, the Stock Trader's Almanac tracks the gains you'd see if you invested $10,000 in the Dow industrials on Nov. 1 of each year and then sold April 30.
If you'd done that every year since 1950, you'd have earned $492,060 on a $10,000 investment, according to the Almanac. But if you'd reversed the whole process, and invested the compounded $10,000 during the May-October period, after 54 years you would have ended up with a $318 loss.
For the S&P, the gains would be $349,165 over the 54 years during the "best" six months and gains of $7,102 during the "worst" six months.
Of course, it seems perfectly logical that if the last six months weren't so great for the market, the next six might not be so bad. But does that mean a pickup is ahead for stocks?
The current strong months for the market, measured by the "Sell in May" indicator, ended Friday, with a whopping 0.4 percent gain for the Dow, and a 1 percent rise in the S&P 500.
But seasonal factors are always going to be in play to some extent, since that's a function of the "habitual behavior of society, which extends to stocks," said Jeffrey Hirsch, president and editor of the Hirsch organization, which publishes the Stock Trader's Almanac.
... and the worst of times
The second quarter, which starts in April, tends to be weaker, as the positive effects of holiday bonuses and the holiday retail sales period fade out, and a "spring cleaning" mentality kicks in, Hirsch said.
As summer rolls around, people would rather be spending less time in the office and more time enjoying the weather. That change in psychology often extends to the market as well, Hirsch said, with lower trading volume and more rangebound markets.
When the fall creeps in, the psychology switches to getting back to school and back to work and, from a stock standpoint, to cleaning house. To that end, September is traditionally the biggest loser on a percentage basis for the Dow, S&P 500 and Nasdaq.
October, which starts the fourth quarter, can be tough at the beginning but usually turns around by month end, and the quarter as a whole tends to be more upbeat, especially once work bonuses and the holiday sales period kick in.
Bulls destined to be beached?
So will this year be any different? The Fed is expected to keep raising short-term rates when the central bank's policy-makers meet Tuesday, due to the pressures from higher energy prices and other inflationary trends.
Meanwhile, as the recent weak retail sales and slide in first-quarter GDP growth make clear, fears about an economic slowdown are not unfounded.
But some market pros said stocks are more likely to churn over this period, rather than fall much.
And some are looking for something a little better.
As the months wear on, and "investors realize that the economic growth will slow, but not halt, and that the consumer is not tapped out, stocks may be able to move a bit higher," said Jon Brorson, head of growth equities at Neuberger Berman.
http://money.cnn.com/2005/04/29/markets/worstsixmonths/index.htm
The Psychology Behind Common Investor Mistakes
in Psychology/Sentiment
From R. Douglas Van Eaton, CFA, professor of finance in the College of Business Administration at the University of North Texas, discusses common investor errors:
Overconfidence
Fear of regret/pain of regret
Cognitive dissonance
Anchoring
Representativeness
Myopic risk aversion
Van Eaton notes "A better understanding of the psychology of investor mistakes can reduce their effects on investment decisions. Here is a list of the most common psychological effects, and how you can reduce their impact and incorporate them into your own investment decisions."
The full piece is below.
Source:
The Psychology Behind Common Investor Mistakes
R. Douglas Van Eaton
AAII Journal
http://www.aaii.com/promo/evergreen/basics/jrnl200004p02.cfm
Complete piece:
"Behavioral finance, a relatively new area of financial research, has been receiving more and more attention from both individual and institutional investors. Behavioral finance combines results from psychological studies of decision-making with the more conventional decision-making models of standard finance theory.
By combining psychology and finance, researchers hope to better explain certain features of securities markets and investor behavior that appear irrational. Standard finance models assume that investors are unbiased and quite well informed. Investors are assumed to behave like Mr. Spock from Star Trek, taking in information, calculating probabilities and making the logically "correct" decision, given their preferences for risk and return. Behavioral finance introduces the possibility of less-than-perfectly-rational behavior caused by common psychological traits and mental mistakes.
Six common errors of perception and judgment, as identified by psychologists, are examined in this article. Each has implications for investment decision-making and investor behavior. An understanding of the psychological basis for these errors may help you avoid them and improve investment results. And in some cases, market-wide errors in perception or judgment can lead to pricing errors that individuals can exploit. Understanding the psychological basis for the success of momentum and contrarian strategies can help investors fine-tune these strategies to better exploit the opportunities that collective mental mistakes create.
Overconfidence
A good starting point for a list of psychological factors that affect decision-making is overconfidence. One form is overconfidence in our own abilities. A great number of psychological studies have demonstrated that test subjects regularly overestimate their abilities, especially relative to others. Studies also show that people tend to overestimate the accuracy of information. With respect to factual information, research subjects consistently overestimated the probability that their answer to a question was correct.
You might expect that professional stock analysts are less prone to psychological biases than non-professional investors and the general public. With regard to overconfidence, however, this is not the case. A leading researcher found that when analysts are 80% certain that a stock is going to go up, they are right about 40% of the time.
How does overconfidence affect investment behavior?
Models of financial markets with overconfident investors predict that trading will be excessive. One recent study used a creative approach to see if overconfidence is related to high levels of trading. Many psychological studies have shown that men are more prone to overconfidence than women. If overconfidence causes overtrading, then men should exhibit their greater tendency toward overconfidence by trading more. The results of the study show exactly that-for a large sample of households, men traded 45% more than women, and single men traded 67% more than single women over the period of the study.
Is the active trading that overconfidence leads to actually 'excessive,' causing lower performance? A study of the trading activity and returns for a large national discount brokerage suggests that it is. For all of the households, returns averaged 16.4% over the period. However, those that traded the most averaged 11.4% in annual returns, significantly less than for an account with average turnover. Over the same period, the S&P 500 returned 17.9% on average.
What, if anything, can investors do about the general tendency toward overconfidence?
You can profit from this research only by heeding its message: Trade less. This is perhaps more easily said than done. Placing too much confidence in an analyst's buy/sell recommendation or earnings projection may lead to excessive trading even without any illusions about your own stock-picking abilities.
Other aspects of overconfidence are more subtle. People prefer to bet on the flip of a coin if it has not already been tossed. Psychologists relate this to a tendency for people to believe that they either have some ability to foretell the future or some control over the outcomes of future events.
Another behavior that is related to overconfidence in our abilities is the tendency to treat historical information as irrelevant and to place much more importance on current circumstances as a determinant of future outcomes. The psychological basis for such a tendency is called "historical determinism," the belief that historical events could or should have been predictable given the circumstances of the past. For investors, this translates to a belief that market events, such as the 1929 crash, could not have developed any other way. Only if we determine that current circumstances mirror those of some past time period will we be inclined to give history its due. Our collective social memory may tend to emphasize things that are seen as directly causing past events, and exclude circumstances that suggest a different outcome. The cry of "this time it's different" has a special place in investment lore. It is perilous to ignore stock market history based on a belief that present circumstances make historical market performance irrelevant to current decisions.
Fear of Regret
A second mental error that can affect decision-making is an excessive focus on the potential feelings of regret at having made a poor decision (or a 'good' decision that turns out poorly). This type of error is rooted in most individuals' (sometimes extreme) dislike for admitting they are wrong. The tendency to feel distress at having made a mistake that is out of proportion to the size and nature of the error is what psychologists label the "pain of regret." The fear of regret manifests itself when the potential regret from making an error has an influence on our decision-making that is out of proportion to the actual penalty an error would impose. Some behavioral models are constructed around the idea that people make decisions so as to minimize the potential regret that may result.
The fear of regret influences behavior when individuals procrastinate in making decisions. Studies have shown that people will postpone a decision, claiming that they are awaiting an upcoming information release, even when the new information will not change their decision (called the disjunction effect by psychologists).
The fear of regret can play an important role in our investment decision-making in other ways as well. In stock transactions, acting so as to avoid the pain of regret can lead to holding losing stocks too long and selling winners too soon. When stocks go down in value, investors seem to delay the selling of those stocks, even though they likely have not met expectations. Selling the position would finalize the error and the pain of regret is delayed by not accepting the purchase as an error. Winning stocks, on the other hand, contain the seeds of regret. The sale of appreciated shares removes the possibility that those shares will fall in value along with the potential for regret should this occur before the shares are sold. Besides avoiding poor decisions from too much focus on the fear of regret, you may also be able to improve performance by exploiting pricing patterns that result from behavior rooted in the fear of regret. A general tendency among investors to hold on to losers too long will slow the price declines, since less shares are offered for sale. Similarly, a tendency to sell winners too soon will increase the number of shares for sale and slow price increases. Both of these effects can enhance opportunities for investors.
Strategies based on price momentum and earnings momentum seek to exploit the fact that price changes occur slowly, over a sometimes prolonged period of time. Studies show that stocks that have performed the best (or worst) over six months to a year are likely to remain good (or poor) performers over the next year. There has been considerable research over the years showing that firms that announce surprisingly good (or poor) quarterly earnings tend to outperform (or underperform) for up to a year after the earnings announcement.
While the success of momentum strategies may also be a result of other psychologically driven behaviors, a tendency to sell winners too soon and losers too late will, in general, make price adjustments to a new equilibrium level a more drawn-out process than it would otherwise be. Investors can purchase stocks of firms that are in an established uptrend, with both earnings and price momentum, and hold them until the trend has reversed. For stocks that show a negative trend in earnings and price, the message here is: Get out. The deterioration will likely be longer and more severe than you think. Such discipline should reduce the tendency to sell winners too soon and hold losers too long, and improve investment results.
Cognitive Dissonance
A psychological characteristic that is related to the fear of regret is the desire to avoid cognitive dissonance. This psychological trait is one you might remember from Psychology 101. Without the jargon, the reference is to a desire to avoid believing two conflicting things. If one of the beliefs is supported by emotional involvement or attachment, the brain will attempt to avoid or discount a conflicting belief and seek out support for the preferred belief.
In the classic study of this characteristic, researchers found that once a person had made a decision and purchased a particular automobile, they would avoid ads for competing models and seek out ads for the model purchased. Avoiding the pain of regret may be the basis for this behavior. One way to avoid regretting the purchase decision is to (irrationally) filter the information received (or believed) after the decision has been made. Alternatively, people can minimize the importance of subsequent information that would call their original decision into question, if the truth can't be avoided or denied. Beliefs that we wish to maintain are defended by many mechanisms, even if the strong desire to maintain existing beliefs has a less-than-rational basis.
How can you adjust for the tendency to avoid or deny new, conflicting information? As in other areas, investment discipline can help. By writing down the reasons for purchasing a stock and re-evaluating their validity over time as dispassionately as possible, investors can force themselves to maintain a selling discipline. If the reasons for purchase no longer hold and the share price indicates deteriorating fundamentals, admitting a mistake may often be the prudent thing to do. Another disciplined approach is to set a time limit for a newly purchased stock to perform as expected. If, for example, the earnings and/or price expectations have not been met after three months, then the stock must go. While this is not necessarily a good rule for value investors (since that approach often requires longer holding periods before expectations are met), it can help those who pursue a growth strategy to avoid holding losing positions over a prolonged period of price deterioration.
Anchoring
The three psychological characteristics discussed so far are all based, to some extent, on feelings and emotions. But some decision-making errors result from mental shortcuts that are a normal part of the way we think. The brain uses mental shortcuts to simplify the very complex tasks of information processing and decision-making. Anchoring is the psychologists' term for one shortcut the brain uses. The brain approaches complex problems by selecting an initial reference point (the anchor) and making small changes as additional information is received and processed. This reduces a complex problem, evaluating all information as a whole as new information is received, to the simpler task of revising conclusions as each new bit of information is received.
In the case of bargaining, a salesman may begin with a high price to bias upward the final price. Research shows that the listing prices for homes influence estimates of their values. The listing price apparently serves as an anchor, even though it does not necessarily contain relevant information about the home's value. Recent prices or recent earnings performance may serve as a similar psychological anchor for investors, and may have predictable effects on subsequent returns.
Understanding the role of anchoring in the decision-making process can help you avoid some investment pitfalls. "Bottom fishing," the practice of buying stocks that have fallen considerably in hopes of getting them cheaply, can be quite hazardous to your wealth. The motivation behind this strategy is similar to the concept of anchoring. A higher recent price is taken as evidence of value, so that the new price seems cheap.
The old pros say, "Don't bottom fish," but they also say "Buy on weakness." What's the difference? If you have evaluated a stock and determined that you would like to accumulate a position, then you can and should time your buys to take advantage of the ebbs and flows in the market and price weakness in the stock when it goes below your buy price. If, on the other hand, a sharp price decline lies behind the decision to buy and a recent higher price looms large in the stock's initial attraction, beware—the odds are against you.
One effect of anchoring on investment decisions is similar to that of the fear of regret; losing positions will be held too long and improving stocks will be sold too soon. In each case the effect of a recent price as a psychological anchor in the complex process of stock valuation will slow the revision of valuation estimates. Losers will appear cheap and winners will seem to have gotten ahead of themselves. As with the fear of regret, anchoring can slow the process of revaluation and contribute to the gains from momentum strategies. In general, the less clear the underpinnings of a stock's value, the greater the importance of an anchor in the process of establishing value. The valuations of highly speculative stocks, such as Internet high flyers without visible earnings, will likely be more influenced by recent prices, than those of stocks with visible and predictable earnings.
Representativeness
Another shortcut that the brain uses to reduce the complexity of thought is called representativeness by psychologists. This is an assumption the brain makes that things that share similar qualities are quite alike. Classifications are made based on a limited number of shared qualities.
One example of representativeness in our thinking is the tendency to classify people as either "good" or "bad" based on some short list of qualities. When we do this, we gain in simplicity and speed, but at the expense of ignoring the much more complex reality of the situation.
The effect of representativeness in investment decisions can be seen when certain shared qualities are used to classify stocks. Two companies that report poor results may both be classified as poor companies, with bad management and unexciting prospects. This may not be true, however. A tendency to label stocks as either bad-to-own or good-to-own based on a limited number of characteristics will lead to errors when other relevant characteristics are not considered.
Representativeness may also be related to the tendency of stock prices to reach extremes of valuation. If poor earnings and share price performance has a stock branded as "bad," representativeness will tend to delay the reclassification of the stock as one investors would like to own. On the other hand, "good" stocks may continue to be classified as such by investors well after the firm's prospects for either earnings or price appreciation have diminished significantly.
Contrarian or value strategies seek to exploit just such erroneous classifications. If a firm has been classified by most investors as a bad one and the stock as a loser, initial changes in the company's outlook may leave the classification in investors' minds essentially unchanged. This collective classification can lead to stocks being unloved and underpriced. A value investor seeks to buy the stocks others classify as "bad," ideally at the time when the greatest majority holds this view. When fundamentals have started to deteriorate but the majority of investors have not yet reclassified the stock in their minds, it is often an ideal time to sell.
Myopic Risk Aversion
The term "myopic risk aversion" refers to the tendency of decision makers to be shortsighted in their choices about gambles and other activities that involve potential losses. Much research has examined what types of gambles people will accept, the effects of how the possible outcomes of the gamble are presented, and whether people make consistent choices.
As an example of how these results can apply to investment decision-making, consider an investor saving for retirement. Each year's investment in equities rather than a lower-risk alternative can be viewed as a single gamble. Unlike casino gambling, however, the expected payoff is positive, and the investor has the opportunity to invest in equities over a period of many years.
Two leading researchers in behavioral finance have concluded that investors in this situation tend to hold less than the optimal amount of equities because they place too much emphasis on the potential loss from a single year's investment in equities. They term this shortsightedness myopic risk aversion.
In one study, investors in a company retirement plan chose larger equity allocations after they were shown the actual results of investing in equities over many different 20-year periods. The research suggests that if investors focus on the distribution of outcomes for the whole period, they are more likely to make the correct decision."
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Summary
A better understanding of the psychology of investor mistakes can reduce their effects on investment decisions. Here is a list of the most common psychological effects, and how you can reduce their impact and incorporate them into your own investment decisions:
Overconfidence: Trade less, especially in taxable accounts. In terms of probabilities, you are not as good at investment decisions as you think you are. Discount the opinions of analysts, who tend to go to extremes, either overly confident or overly pessimistic.
Fear of regret/pain of regret: Don't let the prospect of regret at making a decision that turns out poorly have disproportionate weight in your decisions. Convince yourself that unrealized losses are equivalent to realized losses.
Cognitive dissonance: Seek out contrary opinion. Research doesn't stop when a purchase is made. Strive to identify your mistakes as early as possible and take pride in the ability to do so.
Anchoring: Be aware of how recent prices, earnings and growth rates can serve as psychological anchors in thought processes. Avoid price-driven "bottom fishing."
Representativeness: Step back and look at the whole picture on a stock. Don't place too much emphasis on a few qualities that good stocks or loser stocks share. Winners turn into losers and vice versa, so be open to their changing nature.
Myopic risk aversion: Long-term investors should make asset allocation decisions based on possible multi-year outcomes and not focus on single-period return possibilities.
R. Douglas Van Eaton, CFA, is a professor of finance in the College of Business Administration at the University of North Texas in Denton, Texas.
22 Rules of trading pilfered from an article
1. Never, under any circumstance add to a losing position.... ever! Nothing more need be said; to do otherwise will eventually and absolutely lead to ruin!
2. Trade like a mercenary guerrilla. We must fight on the winning side and be willing to change sides readily when one side has gained the upper hand.
3. Capital comes in two varieties: Mental and that which is in your pocket or account. Of the two types of capital, the mental is the more important and expensive of the two. Holding to losing positions costs measurable sums of actual capital, but it costs immeasurable sums of mental capital.
4. The objective is not to buy low and sell high, but to buy high and to sell higher. We can never know what price is "low." Nor can we know what price is "high." Always remember that sugar once fell from $1.25/lb to 2 cent/lb and seemed "cheap" many times along the way.
5. In bull markets we can only be long or neutral, and in bear markets we can only be short or neutral. That may seem self-evident; it is not, and it is a lesson learned too late by far too many.
6. "Markets can remain illogical longer than you or I can remain solvent," according to our good friend, Dr. A. Gary Shilling. Illogic often reigns and markets are enormously inefficient despite what the academics believe.
7. Sell markets that show the greatest weakness, and buy those that show the greatest strength. Metaphorically, when bearish, throw your rocks into the wettest paper sack, for they break most readily. In bull markets, we need to ride upon the strongest winds... they shall carry us higher than shall lesser ones.
8. Try to trade the first day of a gap, for gaps usually indicate violent new action. We have come to respect "gaps" in our nearly thirty years of watching markets; when they happen (especially in stocks) they are usually very important.
9. Trading runs in cycles: some good; most bad. Trade large and aggressively when trading well; trade small and modestly when trading poorly. In "good times," even errors are profitable; in "bad times" even the most well researched trades go awry. This is the nature of trading; accept it.
10. To trade successfully, think like a fundamentalist; trade like a technician. It is imperative that we understand the fundamentals driving a trade, but also that we understand the market's technicals. When we do, then, and only then, can we or should we, trade.
11. Respect "outside reversals" after extended bull or bear runs. Reversal days on the charts signal the final exhaustion of the bullish or bearish forces that drove the market previously. Respect them, and respect even more "weekly" and "monthly," reversals.
12. Keep your technical systems simple. Complicated systems breed confusion; simplicity breeds elegance.
13. Respect and embrace the very normal 50-62% retracements that take prices back to major trends. If a trade is missed, wait patiently for the market to retrace. Far more often than not, retracements happen... just as we are about to give up hope that they shall not.
14. An understanding of mass psychology is often more important than an understanding of economics. Markets are driven by human beings making human errors and also making super-human insights.
15. Establish initial positions on strength in bull markets and on weakness in bear markets. The first "addition" should also be added on strength as the market shows the trend to be working. Henceforth, subsequent additions are to be added on retracements.
16. Bear markets are more violent than are bull markets and so also are their retracements.
17. Be patient with winning trades; be enormously impatient with losing trades. Remember it is quite possible to make large sums trading/investing if we are "right" only 30% of the time, as long as our losses are small and our profits are large.
18. The market is the sum total of the wisdom ... and the ignorance...of all of those who deal in it; and we dare not argue with the market's wisdom. If we learn nothing more than this we've learned much indeed.
19. Do more of that which is working and less of that which is not: If a market is strong, buy more; if a market is weak, sell more. New highs are to be bought; new lows sold.
20. The hard trade is the right trade: If it is easy to sell, don't; and if it is easy to buy, don't. Do the trade that is hard to do and that which the crowd finds objectionable. Peter Steidelmeyer taught us this twenty five years ago and it holds truer now than then.
21. There is never one cockroach! This is the "winning" new rule submitted by our friend, Tom Powell.
22. All rules are meant to be broken: The trick is knowing when... and how infrequently this rule may be invoked!
Jesse Livermore
http://www.trading-naked.com/library/jesse_livermore.pdf
AN INVESTMENT STRATEGY FOR UNCERTAIN TIMES
The U.S. financial system truly is out of control today. Corporations and individuals now carry the greatest debt burdens in U.S. history. The world, including the U.S. , is drowning in production overcapacity for everything from A to Z, so that competitive price cutting, product dumping, and currency devaluations to make a country's products more competitive in international trade are becoming rampant. The 14-year old recession in Japan (or is it de pression) is now being replicated all over the globe - where for the first time since the 1930s, we have global recessions and a global bear market in securities.
Even as the U.S. economy sinks into recession, job layoffs proliferate, corporate earnings tumble, commercial paper and junk bonds defaults multiply, - energy and other prices are beginning to rise.
Then there is Wall Street, where the pro-stock market hype (disinformation) would make Hitler's propaganda minister Goebbels blush with envy; where speculative leverage is piled high on more speculative leverage, and still more; where naïve, unsuspecting investors are shorn every day like so many millions of sheep; where the Wall Street "red light district" will do any-thing, say anything, sell anything to separate the public from their money and ring its own cash registers.
In recent years, we have seen the Fed, the GSE's and Wall Street create the biggest speculative financial bubble in world history, literally out of thin air - via trillions of dollars of artificial liquidity, with the highly revered Alan Greenspan as the maestro of this financial orgy. And we have seen that bubble begin to collapse with the collapse of the Internet/tech bubble (i.e., a bubble within a larger bubble) with $5 trillion in wealth extinguished in the stock market alone in about 12 months. The gargantuan multi-trillion dollar real estate and derivatives bubbles are next in line for major trouble.
Where do we go from here? In spite of the present interest rate induced rally in the stock market (which could last another month or so) we are still in a long-term bear market. The investing public remains bullish and for the most part will not sell, so millions of Americans will ultimately ride the market all the way to the bottom and lose their life savings over the next few years.
Financial insiders around the world know that Green-span is trying to rescue his friends on Wall Street, which is hemorrhaging red ink because of their massive bond holdings. The world now knows that the Fed has chosen inflation over recession, depression or financial collapse. Greenspan and the Fed (with the help of the GSEs) will create trillions more in financial liquidity if necessary in order to try to avert a collapse. The world has just been given the biggest inflation "red alert" since the 1970s.
Ironically, by cutting short-term interest rates Greenspan hoped to aid Wall Street by reducing the cost-to-carry on their massive bond holdings, especially tech and telecom issues. But the Fed is actually hurting those it is trying to help, because this isn't the '80s or '90s, when bonds rallied on interest rate cuts. This is like the 1970s where interest rate cuts punish the dollar and bonds. Instead of helping the U. S. and global bond market, the Fed's interest rate cuts appear to be hurting it, because, above all, the bond market is terrified of inflation.
Soooo, where do we go from here? The financial system is more unstable than ever. After a bear market rally (perhaps through May) the stock market probably will recommence its bear market decline during the summer. The global recession will not go away. Will it turn into a global deflationary collapse, an inflationary recession (stagflation), an inflationary depression, or will we return to prosperity? Only time will tell, but this writer would bet on global stagflation (i.e., inflationary recession) like the 1970s. Watch the dollar, commodities, and gold for signals as to which way the financial system will move. Also watch the huge global bond markets closely.
And above all, be very conservative with your investments and finances (see recommendations below). Trillions of dollars more in losses are coming for unsuspecting businesses and investors all over the world. It is time for a complete portfolio reevaluation to see if your portfolio lines up with the scenarios discussed in this report. Your most important goal should be preservation of assets over the next two to three years. Keep your powder dry, keep your head down, and watch your back side closely. And choose wisely!
AN INVESTMENT STRATEGY FOR UNCERTAIN TIMES
Tens of millions of Americans have lost 25% to 50% (or more) of their investment or retirement portfolios value over the past 12-18 months. Most of these are in denial, believing (as Wall Street and its media shills have promised) that they will gain it right back and more in the "new bull market." They won't! They will lose even more as the long-term bear market and recession grind down the values of their portfolios even more. They will ride the bear most of the way to the bottom.
Their greed and their gullibility in believing the deceptive propaganda of Wall Street will be their undoing. It is a time for low to no risk; avoidance of losses, and preservation of capital.
A. PRINCIPLES OF SUCCESSFUL INVESTING
The following principles (reprinted from the December 2000 MIA) are worth rereading several times. Are you presently applying them (all of them) to managing your own port-folio or retirement assets. If so, then your assets will do well and be protected in the unfolding bear market, recession and financial crisis. Most of the people presently losing their shirts in the stock market are violating some or most of these principles and those who are will probably die poor.
PRINCIPLE #1: Avoid losses or keep them to a minimum - If you take a 50% loss, you have to have a 100% gain to get even; if you take a 66% loss (which is common in today's markets) you have to have a 300% up move to get even.
PRINCIPLE #2: Learn to manage risk - Never buy a single investment that can jeopardize more than 5-10% of your portfolio. Avoid speculative investments. In a primary bear market, 85% of all stocks will decline. A long-term buy and hold strategy exposes your portfolio to great risk in a long-term bear market.
PRINCIPLE #3: Diversify your portfolio - Don't put all your eggs in one basket, or even several similar baskets. Diversify as to kinds of investments - not just a lot of different stocks, different pieces of real estate, etc.
PRINCIPLE #4: Avoid greed - Avoid investments that promise to make great profits very fast. They usually don't. If they are too good to be true, they usually are not true.
PRINCIPLE #5: Only buy value - That is, investments which are very undervalued and which are probably being totally overlooked by the great majority of investors. This is the cornerstone of Warren Buffet's investment philosophy. Also of Bernard Baruch's "buy straw hats in January…" approach. Value buyers never got burned in the speculative "no earnings" dot.coms, because they avoided them.
PRINCIPLE #6: Avoid buying what everyone else is buying - If there is already mass acceptance of an investment, a group of stocks, etc. then that acceptance has al-ready been priced into the investment (i.e., such as the Internet/high-tech stocks over the past year or two). Re-member, the majority is always wrong!
PRINCIPLE #7: Avoid get rich quick schemes or in-vestments - Most investors who are driven by greed (which is a very powerful emotion) end up losing. Re-member, the tortoise won the race, not the hare and the ant eats better in winter than the grasshopper.
PRINCIPLE #8: Anticipate trends before they are obvious to the crowd - For example, defense stocks will do well in a period where the U.S. must rearm over the next few years. Raw materials will rise with oil prices and Middle East turmoil. Gold and silver will rise as the central banks of the world (led by the Fed) move to re-inflate.
PRINCIPLE #9: Be patient and aim for a reasonable return (i.e., 6-12% per year). A cabbage grows faster than an oak tree - but which one ultimately grows bigger and lasts longer. In a speculative time of quick riches, instant gains, and no-brainer investments, this principle is very unpopular. After a primary bear market, this principle will become very popular.
PRINCIPLE #10: Learn and utilize the principle of compound interest - The biggest buildings in most cities (i.e., the banks and insurance companies) are owned by people who utilize this principle. The wealthiest people on earth understand and apply this principle. It is the investment application of the tortoise and the hare race. (And all the better if you can compound on a tax deferred or tax exempt basis.)
PRINCIPLE #11: Understand the times - If you get your information from the mainline financial press, the financial or mainline media, from brokerage analysts, or from Wall Street, you will not understand the times. You will understand only what they want you to understand to get you to buy more stocks and make Wall Street more money.
PRINCIPLE #12: Learn some history. Learn what great values are, learn what overpriced stocks look like, learn about bull and bear markets. Study some historical charts. You can't run your own business without a knowledge of your industry. And you can't run your own money without a knowledge of how the markets work.
PRINCIPLE #13: Learn to ignore the words and predictions of Wall Street's gurus. Learn to trust the market and only the market. The trouble with most of Wall Street's strategists and gurus is that they don't have the vaguest idea of how markets work. They don't even understand that markets discount the future, that markets move before the economy moves. These guru-strategists are amateurs. They never did their homework. They don't understand what is happening. And for the most part they never will.
AN INVESTMENT STRATEGY FOR UNSTABLE TIMES II
1. AVOID THE STOCK MARKET 100% -- including equity mutual funds, common and preferred stocks - except for gold stocks, some defense stocks, and some energy related stocks. Avoid utility stocks. The history of utility stocks in bear markets is not positive. In 1971, the D-J Utility Average hit a high of 128. By late 1974 (toward the end of the bear market, the D-J Utility Average had sunk to 57 (down 55%). This time utilities will have the added pressure of the energy crisis, the California utility debacle, etc.
If you are still in the stock market, ignore the present disinformation from Wall Street and its media shills and get out. The bear market, like the one in the 1930s and the one in Japan today has a lot further to go on the downside. We could see 5,000 on the Dow and 1,000 or less on the Nasdaq before we reach the real bottom. If you have losses, take your lumps now, before they become greater and don't look back. If you have gains, sell and pay your taxes, before you have no gains left to pay taxes on. If you ignored MIA's recommendation to sell your tech stocks over the past 18-24 months, and are now faced with steep losses, sell half of that position now and half on the next (or present) rally. If for some reason, you absolutely cannot sell, then buy LEAP put options. But it is better to sell.
This writer agrees with Richard Russell that when in a primary bear market (which we are in) it is not the time to be "clever" or "brilliant." The idea is not to make money - the idea in a primary bear market is not to lose money - and that could be more difficult than you think. In a long-term primary bear market you should be more interested in the return of your capital than you are in making capital gains.
2. CUT BACK ON REAL ESTATE HOLDINGS - to no more than 25% of your net worth. Reduce or eliminate outstanding debt on your real estate. Real estate (the biggest remaining bubble in the U.S. except for derivatives) will ultimately see prices drop sharply (i.e., 25-50% or more) in the coming recession. California and New York real estate are likely to be the first to implode.
3. REDUCE YOUR DEBT AS RAPIDLY AS POSSIBLE - Excessive debt is killing businesses and will push millions of individuals into bankruptcy in the emerging recession. Leverage may work well in a long-term rising economy or bull market, but in a long-term bear market (which we are in - the recent rally notwithstanding) it is like poison to your finances. Pay off credit card debt monthly or don't use them.
4. MONITOR THE SAFETY OF YOUR BANK, S&L OR INSURANCE COMPANY via a Weiss rating. If you have money on deposit or under management, that institution should have at least a B rating. Very few such institutions have been in trouble in recent years, but many will be over the next year or two - due to cascading debt defaults. To get a rating, call International Collectors Associates at 1-800-525-9556.
5. FORGET HIGH RETURN INVESTMENTS FOR THE FORESEEABLE FUTURE - FOCUS ON PRESERVATION OF ASSETS - Do not enter into any speculative, high risk investments, avoid junk bonds or any fund portfolios containing same; avoid illiquid investments; avoid investments which you cannot understand. Apply the KISS principle to your investments: "keep it simple stupid."
6. AVOID MONEY MARKET FUNDS unless they are T-bill only funds. As described above, they utilize derivatives and invest heavily in commercial paper - some of which is very shaky. Some have very heavy exposure to the mort-gage finance and GSE markets. They are not the conservative money vehicles they are purported to be and could implode if the Fed loses control of the speculative bubble it helped cre-ate. Also avoid federal agency bonds or notes, which do have higher yields than T-bills, but have heavy exposure to the real estate bubble, derivatives, and the massive overleveraged mortgage finance debt pyramid.
7. UTILIZE TREASURY BILLS FOR UP TO ONE-THIRD OF YOUR PORTFOLIO - Why T-bills? Because they are the shortest income vehicles that enjoy the full faith and credit of the U.S. government. Why not longer governments (i.e., T-bonds), which give you a higher return? They have several problems. If the dollar tanks (a strong possibility in coming months) long bonds would be hit hard.
If long interest rates are forced up for any reason (such as the government defending the dollar), the long bonds would be hit hard. If the Fed pursues its premeditated policy of massive re-inflation (and it will) this is very bearish for bonds. (Note the sharp drop in bonds since Greenspan's fourth interest rate cut on 4/18. The world is now on a high inflation alert.)
Short to intermediate term municipal bonds (AA or AAA rated General Obligations only) can be utilized as well as Treasury bill money market funds (only those which utilize no derivatives to boost their yields).
8. MINING SHARES (GOLD, SILVER, OR PLATINUM) - 5-10% of a portfolio. These have begun to rise over the past few months and are a leading indicator for the metals. They are more speculative than the underlying metals but in a metals bull market should rise 5-10 fold if history is any precedent.
9. PRUDENT SAFE HARBOR FUND (5-10% of a portfolio) - Like the mining shares, this fund is also a hedge against the decline in the dollar. It devotes a portion of its assets to non-U.S. debt securities and invests in gold bullion and common stocks of gold mining companies. As, if, and when the dollar weakens or moves into a bear market, this fund should do very well. Its sister fund, the Prudent Bear Fund, was up 52.5% in the year ending 3/31/01 . Among other things, it shorts the stock market. For more information, visit www.prudentbear.com or call 1-888-778-2327. [ED. NOTE: David Tice, CEO of these two funds, is a friend whom this writer holds in very high regard. His web site, www.prudentbear.com; which includes Doug Noland's weekly Credit Bubble Bulletin, is an excellent in-depth source of information on current economic/ financial developments.]
10. GOLD, SILVER AND PLATINUM COINS (SEMI-NUMISMATICS AND BULLION) - 20-33% of a portfolio. Gold and silver (now at 25-year lows) have long been suppressed by powerful central bank and bullion dealer interests who have large financial interests in their bear (shorting) operations. However, as inflation returns and the dollar weakens, it will no longer be in the central banks' interest to suppress gold, and in a rerun of the 1970s, gold, silver, and platinum prices should explode.
All three metals (both coins and bullion) are already in very short supply. So, with any upward movement in the metals, the coins will move up dramatically. Alan Greenspan and the Fed, repeating the mistakes of the 1970s, but with infinitely larger credit (money supply) creation, have inadvertently put the entire world on an inflation alert - the biggest since the 1970s.
They have in effect said that "we are willing to inflate our currency (the dollar) to oblivion to avert (or try to avert) a depression." We are about to move from the day when financial assets were king (i.e., the past 20 years) to the day when real assets are king (i.e., like the decade of the 1970s).
And, as in the '70s, we are likely to see stagflation (i.e., inflationary recession); weak equity markets; a weak dollar; rising commodities prices (including precious metals); rising metals mining stocks; and a far less positive general environment on Wall Street. Ultimately, free market forces (not the Fed) may drive interest rates through the roof as they did in the late 1970s when interest rates, inflation and gold all rose together.
And if your Treasury bills, CDs or other paper assets lose purchasing power in an inflationary environment, it will be more than made up for (offset) by your metals holdings. Frustrated precious metals investors should take heart. Their long patience is about to be rewarded. Already gold mining shares (a leading indicator for the metals) have begun to rise. The day of hard assets is not far away.
Investors should be aggressively acquiring precious metals (including silver and platinum coins) at this writing. Included should be semi-numismatic U.S. and European gold coins; U.S. silver dollars; junk silver and silver bullion (all in short supply at this writing); and platinum coins.
All three should be held in a portfolio , and as the prices move at different rates should have the percentages adjusted (i.e., swaps) to increase the number of ounces held. There is currently (with a gold/silver ratio of about 60 to 1) an excellent swap opportunity from gold to silver bullion or coins - which in time, is likely to increase the ounces of gold when you ultimately switch back into gold from silver.
In addition to acquiring gold and silver coins at what will ultimately be seen as ridiculously low prices; and swapping between gold, silver and platinum when the price is right, there is another strategy which makes a lot of sense to this writer. Namely, that of acquiring a few low mintage, rarer European gold coins each year in a collection which, with or without a rising gold price, or with or without rising inflation, should rise 10, 20, 30-fold or more.
The first of these collectors’ coins is a low mintage (i.e., 4,000 coins) European coin - the Danzig 25 Gulden gold coin, which is integrally linked to the history of World War II. One of these very rare, high grade coins, priced at $2950, could put your child or grandchild through college in 10 to 15 years - if past history is any guide. (Several of these coins have sold at auction in the $8-9,000 range).
Such a collection of coins, accumulated a few at a time over the next 5-10 years, is no substitute for owning gold/silver and platinum bullion or semi-numismatic coins, but is a way to upgrade your metals portfolio and increase its profit potential.
http://www.mcalvany.com/AnInvestmentStrategyforUncertainTimes.asp
August 6, 2006
STG
Looks as though momentum is turning for STG. A/D slightly losing momentum and TRIX is curving. However, 15dma is flattening to signal an end to downturn, or breather until it fully turnsaround. PPS is low and at support, so no use getting out yet. Filing of Q2 2006 expected around middle of August or at latest without extension 8/17/06. Need to see how International division is at Q2 2006 comparative basis after taking out the discontinued operations.
ADTR
Video gaming industry is turning around. Market sentiment is positive for gaming industry. GME and video gaming had good week with analyst being positive for future outlook of gaming industry. Some are worried about the how well PS3 will be received and fact that not all consoles will hit the market. Some are saying that it will need about 1 year or 2 year for full effect of new consoles hitting US and world markets. Need to see how market reacts to Q2 2006 filing. Would they sell into or accumulate more.
General
Consensus in Tuesday FED meet is to stop interest rate, but the sentiment is still neutral as to future. The uncertainty in market needs to be taken out before market can sustain gains. Fear of recession and high oil is dampening the market.
July 21, 2006
STG
Took a beating. down .05 to close at .28. Could be market afraid to hold over the weekend and market consensus of downturn in future. Many are thinking recession, but with rate increases estimated to stop in Aug, how could there be recession, if economy will grow at sustainable pace?
STG sold two companies to companies related to Jason Totah, who is ceo of STG. Conflict of interest and thus the reason for downturn? Not likely.
ADTR
Took a beating, down .03 to close at 0.095. Could be same reason as above, afraid of holding over weekend or afraid of recession. The industry appeared to be turning and SONY PS3 is expected to be releashed earlier than Nov 2006 release date. No idea why it went down today...
July 20, 2006 EOD
STG-
What appeared to be good news in STG of selling 2 units for $18M (SLIS and German divsion) has not been met too well with market. PPS moved about .04 to .37~.38 in the morning session and pushed down by selling pressure. Volume was not impressive considering the news either.
The technicals were improving until today. The PPS is low and there appears to be heavy support at .32 so will have to wait until solid momentum arises. The current market cap is still $14M and even without the 2 units being sold, the company could generate approx. $300M annually. Does not make sense why PPS is currently at .32. Need to look into further. The company debt will be reduced significantly by the sale of the 2 units, so bk is out of the question.
TRANQ is selling off big time. Heavy weakness in transportation sector. Market is discounting the slowing of US and World economy it appears. TRANQ fell below 200 DMA 2528 today. Need to see if it can bounce above in coming weeks and decide what to do with STG. Looks as though 50 dma is crossing down to 200 DMA. Looks very weak in the transport sector.
ADTR-
Still appears to be at heavy consolidation. NITE has been at the ask for about three weeks at .12. What could that be? and Who is NITE representing?
Video gaming industry appears to be improving and similar company GME has been upgraded to a strong buy by Wedbush the other day.
Overall market condition appears to be improving and rate increases of couple of more this year should be end.
Watchlist-
Need to look into SWW (2.87) and CMGI (1.06).
Hello, what happened to IDI Global?