Trading Ideas In A Bear Market

RichardSchwartz — Fri, 16 Jan 2009 14:45:00 GMT

SECTOR VIEW. Biotech, Small Caps, US Treasuries and the US Dollar. Let’s comment on a couple market sectors and asset classes today. First, two stock market sectors which may prove profitable. Ha, you scoff! Profitable? In a bear market? Before you laugh, at least read my reasoning.

1. BIOTECH. The biotech sector was having a nice run up last year leading the stock market before trouble hit. From July 7th to August 14^th, the NASDAQ Biotech Index of 136 stocks jumped +16.2% as not many sectors were participating while the market, looking back, was building a top just before the October panic. Of course when worries about financial concerns, etc. got too heavy, the market, and the biotech sector, fell sharply until the November 21^st bottom. Since then biotech has regained +16%. What I’m saying is I’m seeing more relative strength in biotech than elsewhere. Even on down or mixed days I’m seeing the medical industry and the biotech niche hold up better than most. For example, just look at yesterday. Even after the reversal upward, not everything worked its way into positive territory by the close. Banks and financials ended lower, computers were up only slightly, utilities and large caps were only modestly higher yet the aforementioned NASDAQ Biotech Index gained +2.32% on the day. Plus I noticed a health care fund manager saying two days back on CNBC saying biotech is the particular niche of health care to be in going forward. Based largely on the fact that large pharma needs to restock its pipeline and that generally means takeovers of smaller companies like promising biotech concerns. Schwartz View: The large pharma companies have financial staying power so it’s likely they can build a fuller new drug pipeline by buying up biotech companies. Net, net I would use biotech as a core position in your modest long exposure, the allocation of both depending on whether we hold down here near the trading range’s bottom or not. Disclaimer! I hope modest long biotech positions in the sector rotation portfolios I manage but can and do change positions without notice.

2. SMALL CAPS. Then I’ve also noted some relative strength in small caps recently as well. In fact when I cut back my market exposure, increased some to participate in the last month and a half of modest rally, earlier this week, a little late, darn, I decided to keep my small cap sector fund and dump my large cap one. Then yesterday I see Mark Hulbert, who tracks stock market newsletters like this one, report the January Effect is underway. That’s when small caps outperform near the end of the year and in the beginning of the following new year. Generally works best when there are a lot of losses to take at the end of any calendar year, you know brokers work the phones to get investors to book losses for tax purposes. Anyway, Mr. Hulbert posits that this relative stronger showing by small caps shows investors are starting to embrace more risk. I don’t know about that but let’s hope he’s right. Myself, I’m looking at this relative strength as small caps NOT being exposed, or as exposed, to and hurt by the now strengthening US dollar and also that many small and mid cap companies hold far less debt than most large caps. Schwartz View: Still, Hulbert says this return to small caps outperforming now means investors can go back to analyzing individual companies again rather than worrying about total systemic risk. That would be a step forward if there are actually some winners and winning groups around once more instead of a sinking ship taking everything down with it. Note the online, vocational schools for working adults, like Apollo (symbol APOL) which jumped some +7.8% yesterday as a bit of proof that something’s working normally again. Disclaimer! As in biotech above, I hold small positions in some small and mid cap sector funds but can and do change quickly.

Ok, after two actual buy ideas for you in this Papa Bear market, not bad, let’s discuss briefly two asset classes which in today’s modern investing world, the individual investor can easily participate in through ETFs (exchange traded funds) and sector and inverse sector funds. One is just an update, the other a buy..

· US TREASURIES. Long term Wall Street economist, but not of the mainstream ilk, Dr. A. Gary Shilling just announced that “The 27-year rally in US Treasury bonds is over.” Wow! I know Gary has been 1000% correct on long dated US Treasury paper for a long time, for many years now, especially over the last year as the global “flight to safety” trade pushed long government bond yields lower and lower and lower. Gary long ago predicted rates would go below 3% eventually and they sure have. The plunged below 3% recently until bottoming, at least for now, on December 18^th at 2.074% for the benchmark 10-year Treasury and at 2.546% on the 30-year “long” US Treasury bond. But I don’t see Gary predicting a move up in yields, not yet. Schwartz View: That’s the key question. When to short long US Treasuries? Deciding whether yields will V-upward or go into a long L formation, remaining down here around a 3% yield. Myself, I’ve predicted that this Papa Bear market will include a ratcheting upward of long Treasury yields somewhere in say the second or third years (hopefully we don’t have a 3^rd year to this bear market!) So I’m just watching now and not betting on higher yields, not quite yet. Not with the Fed & Federal Reserve Chairman Ben Bernanke publicly saying that one next step for the Fed in getting credit flowing once again is for the Fed itself to become a buyer of government debt. Most feel he means shorter term US Treasuries, say up to 5 years in duration rather than longer term Treasuries but who knows for sure. So I wait and suggest patience, monitoring and waiting for just that right time to initiate a short ETF or inverse sector fund position inversing tracking long Treasuries. Jim Rogers, the renowned long term investor, is also licking his lips, getting ready to short US Treasuries as he’s stated more than once but I haven’t heard he pulled the trigger yet. Actually Rogers, like myself, previously shorted long Treasuries last year and then had to step in and cover at a small loss. Net, net for now we have to exhibit ultimate patience, desperately needed during any extended bear market like this one, and wait for our opportunity.

· THE US DOLLAR. The greenback has now been rallying since July 15^th so this long length of time, longer than the normal three month maximum time frame normally associated with intermediate term corrections up or down versus primary trends, likely means that a bull market in the buck is underway. But the jury is out right now on which way the primary direction if one just looks at the charts. The US dollar dropped sharply for three weeks in December and while it’s been working on regaining the large amount of ground lost then, it’s still not above its highs posted in late October. Schwartz View: My best gueestimate is that the buck does regain all lost ground and moves above its late November highs and continues on in a bull market. Again, “Mr. Correct,” Dr. Shilling, predicts the dollar will keep rallying this year. Why? Because he sees the stock market again dropping similar to last year, possibly losing another -35% or so. And thus the dollar is the best of a bad lot of global currencies, all trying to devalue to keep their economies moving, net, net meaning that there will remain a flight to safety in the dollar. Schwartz Recommendation: I don’t hold any long, or short, positions in the US dollar today but am considering putting one on as I see and agree with Gary’s logic and myself feel this big bad bear market isn’t going to be able to wind up in just one year. The breakdown being so severe needs time to heal. And if we do have another bad year in the stock market, the US dollar should hold up at least for the foreseeable future.

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Trading Ideas In A Bear Market