Interview with top stock trader Dan Zanger (continued)

Interview with top stock trader Dan Zanger (continued)
Bull and bear anatomies revealed
Profiting from the money wave
Hunting for the new cycle leaders
Getting real on stock values
Sovereign debt fear and loathing returns...
Annual ChartPattern Seminar in Miami
Riding the Great Reflation rollercoaster

For timely updates see http://tradesystemguru.com/content/blogcategory/54/88/

Dan Zanger interview (part 2)

In part 1 of our interview with record-holding stock trader Dan Zanger last month, we discussed the period from 2000-2010 which marked the worst decade in history for stock market performance. He also began outlining when chart patterns work best and when they don't.

In part 2 of our interview, we continue our discussion and learn what Dan is seeing in markets and what signals he is looking for to identify the next big top and bottom. 

Bull and bear anatomies revealed

DZ – We've been in a financial bubble for much of the decade from 2000 to now, which was attributed more to the economic chaos than anything else.  A powerful secular bull market can last 10 to 15 years or even as long as 18-years; similar to what occurred between 1982 and 2000. During this period chart patterns worked very well. Chart patterns work best in powerful bull markets.

MB – So do you think we're into one of those periods right now? Are we in a powerful bull market that could last months or even years?

DZ – Maybe the rally we are seeing now will peter out in 2010 and maybe it won't. It's a year old now and the average bull market lasts around two to 2 1/2 years.  Some are longer, some are shorter but it depends on the economy, overall confidence and jobs coming back.  As long as the economic numbers keep getting better, the bull market should continue and it could continue into 2011 and beyond. Trying to predict how long it will last isn't as important as knowing which stocks are leading the market. They'll tell me when the rally is over.

MB – Dan, what would your advice be for someone who has been holding stocks since 2000 who are either underwater or have seen no gains in the last ten-years?  If you could give them one piece of advice, what would it be?

DZ – There have been times when the buy & hold has worked well and times when it hasn't worked.  Investors need to have shorter time horizons these days, especially during periods of extreme volatility.  And the best strategy for the average investor is to keep a balanced portfolio.  For example, during the Internet heyday, retail investors and mutual funds got into technology stocks in a big way but when the correction came, they got decimated.  If you're talking about the average investor as opposed to the average trader, having a balanced portfolio is very important.  But every investor should learn some charting.  And in choppy markets they need to use stop-losses and learn to get out if their stocks aren't making money. (This and other strategies for controlling risk are discussed in Dan's 10 Golden Rules at Chartpattern.com. See link in Suggested Reading below).

MB – So how do investors and traders recognize when a bull market is over and a bear market may be beginning so they can get out in time to avoid the worst of the market?

1-GRMN-Jul31-07_parab

Figure 1 – Chart of Garmin Ltd (GRMN) showing potential parabolic move in late July 2007. Stocks making this type of move may be getting ready for a major correction. To read the July 31, 2007 newsletter free, click here. Chart courtesy of Chartpattern.com

DZ – Stocks making $30 and $40 a day and showing parabolic moves are two tell-tale warning signs but to do this properly you need to know how to identify the leaders.  For example, Baidu.com (BIDU) shot from $200 to $460 in about 8 weeks in 2007 and that was a monster, frothy parabolic move.  When it peaked then dropped hard, it confirmed that we'd seen the top in the market (see Figure 2). 

2-BIDU-Jan7-2008

Figure 2 – Chart of Baidu.com (BIDU) from January 7, 2008 showing a significant trend line break. Trend line analysis is one basic tool that investors and neophyte traders can use to get them into and out of a position. To download the January 7, 2008 newsletter free, click here. Chart courtesy of Chartpattern.com

As well in 2007, the transports started breaking down before the Dow and that is typical.  Transports generally tend to front run the market.  We also saw some large head & shoulders [top] patterns.  A few Elliott wave practitioners were early in forecasting a top. Some market historians were comparing the period to 1929 or 1937 and predicting a big move and a mass of waterfall effect in 2007 that could come soon, similar to what happened in 1929. 

As well, a lot of the rising trend lines were broken, and there was a major double top in the S&P 500.  In my May 2007 subscriber seminar, I hammered home that we were could be nearing a major top in the market.  Some major institutions like Bear Stearns we're going out of business.  One day you had the chairman of the SEC saying that Bear Stearns had a book value between $60 and $80 share, then a week later the company was bankrupt.  Lehman followed not long afterward. Leading banking and finance institutions were going bankrupt left and right.  How can anyone who was watching the financial TV networks at the time ever forget President Bush standing on the White House lawn looking pale telling people to remain calm?  You could see how terrified he was.  These were telltale signs for me that it was going to get a lot worse.

MB – So at a market top you tend to see parabolic moves followed by the retracements with stocks hitting support and then breaking down hard though support?

DZ – Yes and you should see breaks in the long term trend lines and support areas on the monthly charts going back years.  When the market broke down at the start of the new millennium, it was a massive break in trend going back 25 years or so from the 1974 lows. That occurred following the Dow peak in 2000. The 2001 break in trend screamed that it was time to sell and go to cash.  This was followed by the rally up for a retest, a double top and then it plunged again in 2007-2008.

In 2002-2004, the Fed was pumping lots of cheap money into the market and pushing interest rates down artificially but that just inflated housing.  Then they re-wrote the Glass-Steagall [Act] allowing banks to participate in more areas with more leverage and giving consumers loans they couldn't pay.  It was such a debacle.

MB – So you see the opposite at a market bottom, you see high volatility...

DZ – You see high volatility, you see panic and fear with everyone selling. It's the J. Paul Getty situation that he described years ago. ‘Buy when there is blood in the streets...' Those stepping in to buy needed to have 'grande huevos.' At that point, the whole world was on the verge of collapse and no one knew quite what to expect.  The Fed had to backstop money market funds, banks and the whole financial system.  Everyone was running to the banks and the banks were running out of cash.

3-CME-Bottoming_Mar20-09

Figure 3 – In March 2009, Dan began to identify market leading stocks that were putting in bottoming patterns. Here he discusses some bullish action on Chicago Mercantile Exchange (CME) on March 22, 2009. To read the full newsletter, click here.  Chart courtesy of Chartpattern.com

Surfing the money wave

MB – Around 18 months ago we saw the Fed step in and greatly increase money in circulation as measured by the Adjusted Monetary Base increasing it 146% [$870 billion to more than $2 trillion].  But based on the Fed's money multiplier [MULT], which dropped below a ratio of one for the first time in history, banks still aren't lending all this money the Fed is circulating (Figure 4).  What do you think will happen to stocks once banks start lending and money starts pumping through the system again?

4-MULT-Mar24-10

Figure 4 – Chart from the Federal Reserve showing steady decline in Money Multiplier from its peak in 1986 and drop below a ratio of 1 in 2009. This statistic shows how efficiently money in circulation is being distributed into the economy. Source – Federal Reserve

DZ – A lot of money was wiped off the books. By printing money, the Fed was working to re-establish the equilibrium in the system. A lot of people were stuffing their mattress with cash and a number of institutions are running on fumes with very little cash on their balance sheets.  A huge amount of money evaporated when the real estate market crashed.  Homes here in Florida that there were selling for $200,000 before the crash have dropped to $60,000.  Many people are not paying their mortgages and are now living in their homes rent free because the banks don't want to foreclose.  They know that if the homes are empty, people will come in and vandalize them. So the money that the Fed is pumping in is to help the banks rebuild their balance sheets so they can start lending again.

MB – But won't that give stocks and the whole economy a real push?

DZ – Yes, and we need it.  The next question facing the Fed will be when can they siphon all this extra money out of the market?  They can't do so until the economy gets going again and jobs start coming back.  When jobs and incomes start to grow, the market should respond positively.

MB – From a macro-market standpoint, you mentioned that transports tend to lead.   So the transports and tech stocks can do pretty well early in the cycle at the start of a new bull market. Can you summarize how you see the market changing as this bull market matures?

DZ – I don't know that the technology stocks and the transports will always be the leaders. Sometimes it's the commodity stocks.  Look what's happening in China?  You need to find the market leaders when the bull market starts and then stay with them for a while.

Hunting for the new cycle leaders

MB - So once you realize that your leading stocks are no longer leading, what do you look for next?

DZ – Look for the next group of stocks that rotate up.  In the turn off the March 2009 bottom, we saw a lot of technology and energy stocks come back.  And they remained strong. Financials have petered out but technology stocks continued to move.

MB – What other sectors do you see gaining strength?

DZ – As the dollar strengthened, commodity stocks cooled in March 2010.  If we see the dollar weaken again, we should see commodity stocks come back and the market lift.  That will help stocks like oil, copper, steel, and they in turn will help lift the S&P.  Rotation is constant.  When the market panics, investors buy the dollar.  And when the market strengthens they sell dollars. 

You can almost see what's going to be happening in the stock market by following the dollar.  In 2008 when the market really started to cave, the dollar gained strength very fast and it was a precursor to the market collapse. I think you really have to follow the big trends in the dollar against the Euro.  It seems to foretell which way the market is going.

5-USD-CAD-Wkly-May5-10

Figure 5 – Daily chart showing the growing inverse correlation between the US dollar-Canadian dollar currency pair (lower subgraph) and the S&P500 Index (upper subgraph). As the USD has dropped against the CAD, US stocks have rallied. Beware, strength in the USD relative to commodity based currencies like the CAD and AUD (Australian dollar) has a 95% chance of being bearish for stocks. Chart courtesy of GenesisFT.com

MB – But do you also see a similar pattern in gold, when the dollar is strengthening gold weakens and vice versa?

DZ – Yes, and gold also has strong seasonality.  It is generally weak from mid-December to the middle of the summer and then strong into the end of the year driven in large part by the jewelry cycle as people start buying for Christmas and the other holidays celebrated around the world at that time.

MB – And when we are getting close to a top in this market cycle, what should we be looking for? What sectors generally are strong later in the cycle?

DZ – Commodities generally strengthen later in the cycle.  In this cycle we might see housing coming on at some point.  Housing is getting scarcer as the population continues to grow. Housing stocks could come on strong and that would signal that jobs are coming back which in turn would signal that interest rates will be going up.

MB – So basically Dan you are saying that every cycle is different and you have to key on the market leaders.  You can't be fixated on a certain outcome.  You have to be ready to jump on the stocks that are moving to take the lead.

DZ – Yes. In early October 1997, oil stocks topped and that foretold of the brutal market break of October 1997.  The energy sector topped first and it was followed by crushing move down in all stocks late in October 1997.  Then technology stocks moved up coming out of this 1997 break in the first part of 1998 and then biotech stocks moved in late 1999. It was a huge bubble then of course, but you had to see which stocks were leading the move up then and be on them. If you were in like I was, you made a fabulous sum of money. Every move out of a breakout seems far different than that last move and new leaders come up and you have to be on them. You have to be on your toes at all times and never leave the monitors.

As I said before, no two tops or bottoms are ever identical but they are often similar. Learning to identify the market leaders is extremely important if investors and traders want to be in the market at the best times and get out when stocks are getting set to drop hard.

MB – Thanks for sharing your market insights and observations with us Dan.

DZ – Thank you.

Getting real on stock values

Like most traders, Dan prefers bull markets for one overwhelming reason. A stock can soar many times its value in a strong rally. In Dan's case, his portfolio grew an amazing 164,000% during the Internet bubble. But in a bear market, the most a trader can expect to make is 100% and that is only if the stock or stocks he has shorted drop to zero.

Looking at the larger picture, continuous quantitative easing efforts in the creation of money by the Federal Reserve and US Treasury to try to fix each breaking bubble has had a serious impact on real stock values as Figure 6 clearly shows. It is stark evidence of the questionable approach to inflate our way out of recessionary periods and in the process seriously erode real stock values. 

6-SPX-Gold-May-10

Figure 6 – Our updated monthly chart of the S&P500 and the price of the S&P500 priced in gold (lower subgraph). At the peak of the bull market in August 2000, the SPX price was 5.4 times the price of gold. At the next peak in October 2007, the SPX had dropped to 1.9 times the price of gold. Now, this ratio of the SPX to gold is a meagre one. This represents an overall drop in US stock values in real terms of 81.5% in less than 10 years! Chart courtesy of GenesisFT.com

For this reason many market pundits have been  recommending buying (and holding) gold. But the problem is that in a volatile market like we are in today, that strategy can be not only expensive but frustrating as well. Dan's solution to this problem is simple – buy gold when it is going up and get out when it's going down. Based on the chart in Figure 7, especially given the seasonality Dan discussed above, now looks to be as good as time any to consider protecting real value by owning gold! But this is only a good idea as long as the gold chart pattern looks bullish.

7-GLD_May5-10

Figure 7 – Chart of the SPDR Gold Trust ETF from the May 5, 2010 issue of The Zanger Report.

To read the complete issue of this newsletter free, click here.

Sovereign debt fear & loathing returns...

As I was wrapping up this newsletter up on May 6, the Dow dropped an incredible 900+ points mid-day on growing fears that the Greece debt contagion will spread. Although it recovered somewhat by the close thanks to investors buying the dip and even with the late-day bounce, the S&P500 Index had erased all gains made in 2010. Who knows what's next?

Based on the chart patterns Zanger is seeing, including bearish megaphone tops, bearish rising wedges and rising channel patterns as well as his comments in the May 4th Barron's interview, caution is the order of the day. At times like these, cash is king, queen and ace.

For those who truly understand our situation, it must seem perplexing that investors are rushing to the perceived safety of US bonds and other fixed income assets. Given the eroding value of the greenback, how wise can it be? It is also interesting to note that in spite of all the down drafts in stocks and commodities, gold closed up more than $20 an ounce on May 6th alone.  

Riding the Great Reflation Rollercoaster

Given the recent events and their longer-term implications, we thought it worthwhile to close with some prescient big-picture insights from the May 4th Boeckh Investment Newsletter by Tony Boeckh. Tony is also the co-author of a new book called The Great Reflation. He explains the problems and implications that successive quantitative easing efforts have created. 

"To rescue the economy and financial system from near total meltdown, the government created an unprecedented package of bailouts, stimulus, free money and massive fiscal deficits. It succeeded and a 1930s style debt deflation and depression were aborted. Liquidity, on a vast scale was unleashed into the financial system, demonstrating, once again, the power of such flows to drive up prices of stocks, commodities and other risky assets... However, just because the system was saved, doesn't mean it has been fixed."

"Why do we say that the system isn't fixed? The major theme running through [the book] is that we have been living through a multi-decade period of money and credit inflation that started back in the 1960s when the post World War II global monetary system (Bretton Woods) began... Wilted Flowere continue to live in an age of money and credit inflation and a monetary system that is unanchored and has no brakes. Until it is fixed, monetary inflation and instability will be a way of life."

Boeckh goes on to explain that since the 1960s, the continual series of bubbles and crashes has led to a seductively dangerous monetary habit by successive governments of inflating their way out of each period of contraction/recession which in turn created the next, even bigger asset bubble. Hence we now find ourselves entrenched in the twilight-zone fallout of the most recent and most ambitious multi-trillion dollar reflation experiment by the central banks and government, not only in the U.S. but around the world. 

"This sequence of events has an ominous overtone. The great reflation effort has clearly given the economy a big boost, just as the preceding one did but it is very artificial, based on free money and unprecedented fiscal deficits and subsidies to spending."

Boeckh proffers the following rather sobering outlook.

"The great reflation, if left unchecked, will run into a brick wall in the next few years, and another credit implosion and deep recession will occur. The result will be even bigger deficits and lower economic growth. Logic says that if the recent crisis was caused by excessive money and credit inflation [is there any other credible possibility?] even more of the same should cause an even bigger crisis. The ultimate end point to this trend is worrisome, to say the least."

We couldn't have said it better ourselves!

Update on the Annual ChartPattern Seminar in Miami

As I mentioned last month, I attended Dan's annual ChartPattern.com seminar in Miami April 24. A sold out event with more than 100 attendees, who as well as listening to his concern about the bearish patterns he was seeing in markets, learned some of his favorite trading tricks, strategies and methods for making money in this volatile market.

I recorded parts of the seminar slides with Dan's comments and will be putting together a series of articles with charts. I also conducted some interviews with traders in attendance to find out what they were seeing in markets, what stocks were their favorite trading candidates and what they took away from the seminar.

Needless to say with more than eight hours of material plus interviews, there is a lot to cover. For those of you who are Working Money subscribers, Dan and I recently wrote an article that will also be published in Technical Analysis of Stocks & Commodities magazine. I include the link for subscribers below.

Be sure to read Michael Kahn's Technically Speaking May 5th column in Barron's entitled It's Time to Get Defensive who talked with Dan about his take on the market. It is especially interesting in light of his forecast for the 10% correction he saw coming, given the huge drop we saw the following day (see link below)!

Stay tuned for the next Macro Market Monitor.

Have a trading question for Dan?

He does not give buy and sell recommendations but would be happy to answer your trading or technical questions. Email them to askdanzanger [at] gmail.com (Remove spaces and substitute @ for [at] ) We'll do our best to get them answered in time for the next MMM.

Want Free Daily updates?

If you're interested in more timely updates and articles, you can follow me on at http://www.twitter.com/matt__blackman (double underscore between first and last name).

If you have a question or comment, please email it to me at the following address:

Investorinsightsmb [at] gmail.com (Please remove the spaces and substitute the @ symbol for [at] )

Useful Resources:

The Zanger Report January 31, 2007 (free)

http://www.chartpattern.com/articles/news07-31-07.cfm

The Zanger Report January 7, 2008 (free)

http://www.chartpattern.com/articles/news01-07-08.cfm

The Zanger Report March 22, 2009 (free)

http://www.chartpattern.com/articles/news03-22-09.cfm

The Zanger Report May 5, 2010 (free)

http://www.chartpattern.com/articles/news05-05-10.cfm

It's Time to Get Defensive – Dan Zanger speaks to Barron's Michael Kahn

http://online.barrons.com/article/SB127300891602986811.html?mod=BOL_hpp_dc

Chart Patterns, Trading and DZ Zanger – Interview by Matt Blackman

https://docs.google.com/viewer?url=http://chartpattern.com/cf/images/new/articles/stocks-comm-2003.pdf

My Stocks are Up 10,000! – Fortune article

http://www.chartpattern.com/news/fortune.html

Dan Zanger's 10 Trading Golden Rules

http://chartpattern.com/10_golden_rules.html

Reference Tutorial on Chart Patterns

http://chartpattern.com/understanding_chart_patterns.html

 

Working Money

http://premium.working-money.com/wm/home.asp

Is Trading That Simple? Dan Zanger and Matt Blackman

http://premium.working-money.com/wm/display.asp?art=787


Disclaimer

The Macro Market Monitor obtains information from sources deemed to be reliable; however, The Macro Market Monitor does not guarantee the accuracy of any of the information provided. The Macro Market Monitor makes no warranties, expressed or implied, as to the fitness of the information for any purpose, or to results obtained by individuals using the information. We may or may not be invested in any investments cited above.

In no event shall The Macro Market Monitor be held liable for direct, indirect, or incidental damages resulting from the use of the information found on or distributed through this website. The Macro Market Monitor shall be indemnified and held harmless from any actions, claims, proceedings, or liabilities with respect to the information and its use.

The Macro Market Monitor does not make specific trading recommendations or provide individualized market advice. All information provided is to be construed as opinions and is intended to be used as an educational information service only. We encourage investors to contact a registered securities representative prior to making any investment or related decisions.

Any and all forecasts and opinions expressed herein are for discussion purposes only and are not intended to constitute investment or trading advice.


Disclaimer

The Macro Market Monitor obtains information from sources deemed to be reliable; however, The Macro Market Monitor does not guarantee the accuracy of any of the information provided. The Macro Market Monitor makes no warranties, expressed or implied, as to the fitness of the information for any purpose, or to results obtained by individuals using the information. We may or may not be invested in any investments cited above.

In no event shall The Macro Market Monitor be held liable for direct, indirect, or incidental damages resulting from the use of the information found on or distributed through this website. The Macro Market Monitor shall be indemnified and held harmless from any actions, claims, proceedings, or liabilities with respect to the information and its use.

The Macro Market Monitor does not make specific trading recommendations or provide individualized market advice. All information provided is to be construed as opinions and is intended to be used as an educational information service only. We encourage investors to contact a registered securities representative prior to making any investment or related decisions.

Any and all forecasts and opinions expressed herein are for discussion purposes only and are not intended to constitute investment or trading advice.




Posted 05-07-2010 9:05 PM by Matt Blackman