Now what do we do?
Steve Cook on Disciplined Investing

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Economics

   This Week’s Data

    Weekly jobless claims rose 27,000 versus estimates of a decline of 11,000.

    October leading economic indicators declined .8% versus expectations of a decrease of .6% and an increase of .3% in September.

    The November Philadelphia Fed business activity index came in at -39.9 versus forecasts of -38.0 and -37.5 reported in October.   

   Other

Politics

  Domestic

  International War Against Radical Islam

The Market
    
    Technical

    It doesn’t feel like it can get much worse; but it can.  Yesterday the DJIA (7552) pretty much confirmed the violation of its 10/10/08 low (7853), leaving the 10/2002 low as its next visible support level (7146).  On the surface that is not too bad--it’s just one more day’s price action like we had yesterday.  And truth be told, we would probably all settle for 7146 as the ultimate bottom.  The problem is that the S&P (752) which led the DJIA through its 10/10/08 low (839) closed below its 10/2002 low (766) which sets up the same technical dilemma, we were faced with at the Market close on Wednesday, i.e. will the DJIA hold its 10/2002 low and the S&P bounce back or will the DJIA follow the S&P lower?  What makes the resolution of this technical divergence particularly scary is that if the S&P proves to be the leading indicator, then the next visible technical support is at the 1994-1995 double bottom (circa DJIA 3554, S&P 446).    

    I am not trying to lay a doomsday scenario on you; I am simply pointing out that the risk parameter from a technical standpoint has been ratched up significantly.  Having said that, yesterday’s pin action looked and felt like a lot of other investors had suddenly come to that realization and capitulation (this time for real) could be in the offing.  Stocks were taken out behind the barn, beaten like a rented mule and then shot--on volume that was the highest since the 10/10/08 low.  The volatility index spiked, of course, but didn’t reach recent highs and that is not a good sign.  So for the third time in the last 12 months, there are signs that a bottom could be in the making. 

Confusing the situation somewhat is that today is November option expiration and given the premiums remaining in many out of the money put options, we could be in for a nasty day or at least a very rough first couple of hours.  So ladies and gentlemen will you please fasten your seat belts?

    All that said, the bottom line is that we sit back and let the Market tell us whether the 10/02 lows provide sufficient support to mark the bottom or there is more downside to come. 

    Fundamental
   
    On the fundamental side, two things seem to have been in the fore front of investors’ minds yesterday driving stock prices down--(1) the economic viability of Citigroup and (2) the future of the auto industry--both presumably being indicators of the magnitude of the economic malaise that we face.

 There is much debate on Citigroup’s economic viability; though most of the analysts that I have spoken to think that the company is in decent enough financial shape to survive.  Yet the stock is getting crushed and it is taking the rest of the financial stocks down with it.  In my simple mind that means one of two things: (1) I am not talking to the right people or (2) this is simply part of the problem that I have discussed frequently; that is, investor psyche is driving perceptions of the fundamentals and not the other way around. 
http://www.reuters.com/article/newsOne/idUSTRE4AJ45G20081121

    I have vented too much already about the irrationality of the auto industry’s precarious situation; but I think that I will have another go at it.  Yesterday we witnessed another idiotic chapter in this Dr. Seuss melodrama which featured the leaders of our elected representatives standing before the nation and basically saying to the auto companies ‘show us your business plan and we will seriously consider helping you’--which seems perfectly reasonable were it not for the fact they were all sitting in the same room the day before and no one seems to have thought about this solution before hand including the guys sitting at the witness table with tin cups in their hands.

If this industry is staring  the grim reaper in the face (which it says it is), how can the managements’ and boards of directors not already have a business plan for survival beyond whining for their share of taxpayers money? How can that plan not include management change, union benefit cuts, model reductions and dealership rationalization?  Why hasn’t someone in congress or among the various and sundry executives and board members taken the lead in determining exactly what sacrifices the companies have to make in order to get an infusion of capital? 
http://www.american.com/archive/2008/november-11-08/dont-bail-out-the-big-three


OK, that’s enough for today.  However, the point here is that if the collapse of the auto industry will have a material affect on the depth and length of this downturn, why are these guys fiddling while Rome burns? 

    Does that make you feel confident about the Market today?
   
    So much for idle chatter, what do we do today with Our Money?  As I see it, there are two basic scenarios (with variants): (1) a bottom is being made [yes, I know, I have said that before; but I mean it this time, I hope] or (2) it isn’t.

    If stocks are in a bottoming process then either yesterday was the selling climax or it will likely come today or on Monday, depending on how option expiration unwinds. If it does occur today or Monday, then stocks could be on another roller coaster ride with gut wrenching implications.  But in the end, by the Market close on Monday at the latest, stock prices will be higher than they are at the open this morning and the big question will be, does the 10/2002 support level mark the low or will stocks rally sufficiently to reset the 10/10/08 low as the bottom end of a trading range.

For the long term investor (if there are any of those left) that means patience through the next two days; and once we know where the bottom is, we can resume the trading strategy which was so rudely interrupted on Wednesday.  For traders, if the sell off continues, you might want to risk putting some cash to work recognizing that scenario (2) above could be the operative model.  Today I will likely follow the long term strategy in the Dividend Growth and High Yield Portfolios and trade the Aggressive Growth Portfolio.  I will be in touch via Subscriber Alert.

If the DJIA follows the S&P and breaks through its 10/2002 low, I think that we have to consider that the strong likelihood of stock prices falling to their 1994-95 lows (in essence this solves the conundrum that I have posed--is investor negativity driving perceptions about the economy or visa versa).  If the indices come into sync below their 10/2002 lows, then our investment strategy changes big time.  Our Portfolios will go to 50-75% cash, re-build their gold position (if we are going to have an major recession/depression, then globally countries will be selling their dollar reserves in order to stimulate their own economies), establish a position in an inverse Market ETF, like the double negative SDS and own only stocks that provide a yield well over long Treasury rates and whose underlying company has little to no debt, is best of breed in their industry and make things that will be needed no matter what the economic circumstance (food, toilet paper, electricity).  We will know soon enough if this is the operative scenario.
http://www.capitalspectator.com/archives/2008/11/the_decline_and_1.html#more


     Subscriber Alert

    After the last two days pin action virtually every stock on our Buy Lists has traded below the lower boundary of its Buy Value Ranges.  I have three choices; (1) take them all off and have nothing on the List when, as and if the Market ever turns, (2) because stocks are at extreme valuations, put every stock in our Universe on the Buy List or (3) focus on those stocks that offer the ‘best’ relative value even though they are below the lower boundary of their respective Buy Value Ranges.  I am opting for #3; so don’t be confused when viewing the Buy Lists and the current stock price is below the lower boundary of its Buy Value Range.
 





Posted 11-21-2008 8:26 AM by Steve Cook

Comments

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undymorex wrote re: Now what do we do?
on 06-16-2010 1:34 AM

I am amazed that the above response got me a thumbs down from someone.

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