- Commodities, which are a proxy for global reflation are not rallying today. Oil bottomed a few days before the S&P 500 and is refusing to turn upwards with the market.
- Yesterday, I mentioned that the market was oversold on the shortest of time frames. After today's rally that is no longer the case.
- Earnings warnings.
- The possibility of more companies issuing stock to raise cash.
- The first week of April has a weak seasonal tendency.
- This market might have more downside but I don't believe that is today's business. I think this rally will hold.
- The best thing this rally has going for it is that so few people believe in it. One day when the market teaches everyone to be skeptical of all rallies the rally will stick.
- My only purchase yesterday was JFR. It is a closed end mutual fund that holds bank loans. Bank loans have not rallied with the market in the past few weeks. I believe that the end of the quarter was putting pressure on them as banks want to show a clean balance sheet and hedge funds that hold them were facing redemptions. Now that the quarter is over I believe those pressures will abate.
- I did not get nearly get the amount of shares of JFR that I wanted to, nor was I able to get some other merchandise I was looking to buy. In the past year I have been able to wait for the market to come to me. Recently, that has not been working as well.
I have been saying for a while that the biggest danger to this rally is companies selling new shares. Last night American Electric Power, the utility, cut earnings guidance and announced the offering of over 1 billion dollars in new shares in order to pay down debt. Even utility companies are in need of cash. The number of companies out there that would like to raise cash is enormous. As the market rises it will give more companies the opportunity to do so and will be a formidable obstacle for this market.
- I am bidding for some merchandise under the market but am not getting hit on my bids.
- The market is oversold on a very short term basis (not by the indicator I use but on shorter term indicators). The combination of that, the new month and the Rohm and Haas deal closing make me believe that tomorrow could be a good day for the market.
- In order for the stress test to appear legitimate some banks must fail. After all, who would believe a stress test that every bank passes?
- The stress test is a joke and while banks that pass might bounce I believe it will be short lived. The majority of the upside in the financial stocks was short covering and the majority of shorts have already covered.
- Have a good night.
7.5% of FHA loans were seriously delinquent at the end of February. It is a matter of time before FHA needs a bailout. The government will likely continue throwing money down this black hole rather than tighten standards for FHA loans. These loans are billed as low income and are politically untouchable. What's another few billion?
The S&P 500 closed at 823 on Monday. While the signal was starting to look shaky late last week as the S&P 500 continued its climb, heeding the signal would have saved investors from a greater than 4% loss as of this morning.
So what is the overbought/oversold oscillator saying now? As you can see in the chart below the market is still overbought. However, once today's statistics are posted the market will likely be much less so and we should be closer to the red line. This indicator is moving to a more neutral range. However, it will take few more down days before we become oversold.
- Marvin Bolt of Alpha Plus Advisors reminds us that the beginning of April is especially seasonally weak for technology.
- My inclination is to start looking for buys at this point. While I respect the possibility of new bear market lows it would be unusual for such a strong rally to just fade away without another test of the highs at some point.
- The reason I have yet to buy is that sentiment does not seem to be in place for a rally. It would be nice to see the bears get loud again.
- From a time perspective it seems a little early to buy as corrections take time as well as price. We are in day two of this correction.
Here is a sample of an exchange between myself and a reader "anonymous" or former reader judging by his comments.
Best of luck Tsach.
I liked your blog, but you're a day trader in my book and not an investor.
Important distinction that, trading and investing.
You might be good at catching a whiff of the daily animal spirits in the market, but I think an investor thinks more long term, when economic fundamentals actually do apply. In the short term, in this market, the fundamentals have gone out the window, it is all behavior.
All the best
To which I responded
Putting a label on someone is silly. I make my living from the market. In order to do so one must be flexible and open minded. Even if you are correct in your long term assessment profiting on that view requires navigating through the ups and downs.
While I tend to agree that we likely have not seen the end of this bear market, had I been short the recent 25% move up I would be out of business. I used to think like you and learning to be flexible is the best thing that ever happened to me from a P&L perspective.
Also, you should consider the price you pay for something in your argument. At a certain price everything is discounted. I dont believe it is daytrading when I was bullish 25% lower and am less so now. Its common sense.
I am a little less excited about buying into pullbacks as I believe that the strength of last week's rally sucked some demand forward. However, I will likely do some buying when we do see the test as we will likely try to make a run at last week's highs at some point. I am a little under the weather so posts will be sparse today.
I have little doubt that there will be a price to pay for these short term solutions. However, it took many years for the bill to come due for Greenspan's short term solutions. Could we see a weak cyclical recovery that would propel the market higher in the short term as a result of the government efforts?
I would place the odds of a weak cyclical recovery occuring at about 50-50. On one hand there are the gargantuan government efforts and on the other are growing job losses and credit problems that are still spreading.
In the short term I believe the market will have a tough time making progress after a 25% run. While the seasonally strong beginning of the month and the Rohm and Haas deal closing might help the market early in the week, by late in the week there will be few catalysts for the market. I believe the best the bulls can hope for is some backing and filling while the market digests the huge move.
Add to that the frustration of having to listen to the nonsense of "pundits" who were bearish 25% lower and are now wildly bullish, and I am happy to see this week coming to an end. While I see the potential for a continuation of this rally into early April, I believe even if we are to go higher that a more serious downside test is looming and that there will be a better entry point. I am heading out early. Have a great weekend.
- Trim Tabs announced that investors pulled over 10 billion dollars from mutual funds in the past week.
- I can't figure out if that is bullish or bearish but its definitely not what I would have expected to see. If it is need based than it is probably bearish but if its a result of market timing than its probably bullish.
- Three more companies issued stock these past few days including AMB, NBTB and NRGY. I can't help but think we will see a tsunami of offerings in the next few weeks.
- Why aren't banks issuing equity now that they have the opportunity? They don't need to as they have a rich uncle named Sam.
If this rally does continue into the middle of next week a short position or two would be very compelling. I am not so comfortable shorting with the market still below fair value but at that point I might take a swing.
While I was expecting that we would see a pick up in share issuance I did not think it would come from the likes of Intel. If Intel needs money than what will lesser companies do? As an aside, I had Intel on my buy list at around $10. But with such a shareholder unfriendly management the price will need to go a lot lower before I buy.
- Most financial stocks are down today (GS, MS, C, BAC, WFC). A few weeks ago when everyone was bearish this would have been pointed out by everybody. Now that everyone is bullish no one cares.
- Has the intrinsic value of all the companies in America changed by 25% in the past three weeks? Can we finally put this efficient market thing to rest?
- AXP is now $15. How high will it need to go before the sell side analysts that downgraded it upgrade it?
- How is Goldman's Super Duper Conviction Sell List doing?
- Party on!
The decision I am facing is whether to take the Genentech money and join the party or to wait this out. I will likely just wait this out for two reasons. I don't believe in this rally and will probably be scared out of my position during the slightest blip. Additionally, momentum is simply not my trading style and I would rather stick to my knitting.
Beneath the surface trouble is brewing. Yesterday's 5 year note auction was one of the weakest in history and a UK gilt auction failed as well. It is no coincidence that this occurred after the US and the UK announced quantitative easing (money printing). Buyers of the asset classes are voting with their feet.
In the short run, all that matters is that there is a lot of anxious money on the sidelines looking to get in. However, don't fool yourself into believing that all is well. Risk is growing and when all the sidelined money is sucked in I believe we will see a trap door.
- Could it be a good thing that China and the US are having a war of words over the dollar in public? I think we all know who is holding the stronger hand.
- Shouldn't China take some of the blame for lending us the money? Isn't China pushing the complete blame on the US like the banks pushing the blame on the subprime borrowers. It takes two to tango.
- Don't forget that its earnings warning season and that large equity issuances are a possibility.
- What do all those born again bulls do now that they are in the hole on their positions?
- Have a good night.
The simplest explanation is to look at the chart below. The higher we are above the red line, the more overbought the market is. The further we are below, the more oversold we are. As you can see we are currently pretty far above the red line, hence I have been referring to the market as overbought.
The obvious question is how do I derive this chart? I take the number of advancing stocks on the New York Stock Exchange and subtract from it the number of declining. For instance, yesterday there were 937 stocks up and 2177 stocks down. Subtracting declining stocks from advancing stocks we get -1,240. That means that yesterday there were 1240 more stocks down than up. That begs the question, why are we currently at 790 (the point I marked off on the graph). This chart is an average of the last 10 days. Since the majority of the last ten days were up we are still overbought, even though yesterday was down.
The basic belief one must have in using this chart is reversion to the mean. If we have an outsized move up there becomes growing danger of a down move. I have seen this chart fail plenty of times but it has helped me far more often than it has hurt me. It is one of many factors I look at when making a timing decision.
- The strongest argument against a pullback is that too many people need the market to come down so they could get in.
- Is today's better than expected data already reflected in a market that has run up 25%? I believe the better data is a convenient excuse to rationalize buying into a market up 25%. In reality what people are doing is giving in to the primal instinct of joining the herd.
- Since Bank Of America bought Merrill Lynch top brokers have been fleeing and now the two top strategists have left. That begs the question why did they buy Merrill Lynch? For the CDO exposure?
- Is Ken Lewis the new Teflon Don?
- The past few weeks have reaffirmed the tenet, "Buy when you can, not when you have to".
- I believe this rally will end in tears but it will suck in a lot of money first.
However, just because something is possible it does not mean its a good investment. A much better risk reward scenario would emerge if we were down or flat for a few days. That would help work off the current overbought reading.
Sentiment is no longer working in the market's favor. Two weeks ago doomsday scenarios were abound. Today, it seems the bear is an endangered species. It would be nice to see the bears get loud again. That was starting to happen Friday but Geithner and Obama nipped that in the bud. While I see the possibility of a continued rally, I won't allow the fear of missing a rally govern my investment decisions.
We have now had a 25% move up. Explaining why you missed a 25% move is one thing but try explaining why you missed a 40% move. This is the irony of the stock market where people buy high and sell low.
- I have no desire to buy into this market any further before we see a consolidation/correction. If I decide to play phase 3 of this rally it will likely be with an index fund and a stop loss.
- Down for 2 hours of trading does not qualify as a correction in my book.
- We are now in the midst of tax season, where people decide how much to put in retirement accounts and how to allocate the capital. This rally makes it more likely that people will be more aggressive. A mini virtuous cycle.
- The problem is that when all the sidelined cash is back in the market and all the shorts are done covering the fundamentals will still be atrocious.
The chaos in the industry has left opportunities that even a layman can identify. Last week I put all my free cash into Genentech as their was a 1.5% spread on a deal closing in a week with no hurdles from a funding or regulatory perspective. That trade amounted to an 80% annualized yield for as little risk as a trade could have (in my humble opinion).
Today, I took a much smaller position in the Pfizer/Wyeth deal as it is not as attractive as Genentech was. The current spread on the trade is 11% for a deal I expect to close within 6 months (22% annualized return). Pfizer did a 12 billion dollar bond sale last week and likely has enough money to close the deal even if the bridge loan falls through (even though there is no reason to expect the bridge loan to go bad). There is a breakup fee of over 4 billion dollars, so the punishment for not closing the deal is tremendous and ensures Pfizer will do everything in its power to close the deal. There is little overlap in the businesses and regulatory approval should not be a major issue.
There is also a short term catalyst that might help tighten the spread in the next few weeks. Both the Rohm and Hass and Genentech deals are scheduled to close in the next week. There will be a lot of arb money looking for a home at that point and this deal is likely to benefit.
I took a more constructive view a few weeks back as sentiment was extreme and valuations were becoming attractive. However, a rally that is approaching 25% has undone both of those conditions. Even though the S&P 500 is still below fair value, it is harder for me to be optimistic longer term.
The cause of our problems is excess debt. Instead of allowing debt to be destroyed, the solutions being put forth are meant to try to keep the current system and institutions that are the problem in tact. While this could lead to a weak cyclical recovery, the issues at the heart of the problem have not been dealt with. I don't believe the government should stand idly by but I think it should allow debt to be destroyed while counteracting the effect on the economy through stimulus. Under the current system debt will be destroyed, as fighting the market is futile. However, it could take decades.
In another indication that China is growing increasingly concerned about holding huge dollar reserves, the head of its central bank has called for the eventual creation of a new international currency reserve to replace the dollar.
In a paper released Monday, Zhou Xiaochuan, governor of the People’s Bank of China, said a new currency reserve system controlled by the International Monetary Fund could prove more stable and economically viable.
A new system is necessary, he said, because the global economic crisis has revealed the “inherent vulnerabilities and systemic risks in the existing international monetary system.”While few analysts believe that the dollar will be replaced as the world’s dominant foreign exchange reserve anytime soon, the proposal suggests that China is preparing to assume a more influential role in the world. Russia recently made a similar proposal.
He has one of the better services out there and he is right more often than he is wrong.
- The market has broken through resistance and the 50 day moving average. There are no more levels for the shorts to lean against and I believe there is a lot of towel tossing going on.
- This is an upside panic.
- Anyone who has lived through the past few weeks and doesn't believe that psychology drives the market in the short run needs to see a psychologist.
- Were Obama and Geithner targeting quarter end with their antics?
- Haven't we tried these type of solutions before? What do you call someone who tries the same thing but expects a different result?
- Do I believe this bear market is over? No.
- Have a good night.
Under normal circumstance I might take a swipe at the market on the short side but I am holding off. The reason is the closing of the Genentech and Rohm and Haas deals. While there is some time until the deals close, the effect of those deals closing will be tremendous. If the market finds a way to stay up until then I will be forced to cover at a loss.
- On the ISE we are seeing extreme call buying. At the same time we are getting closer to last week's high. The market should have a tougher time making progress from here.
- The market can certainly go higher but I don't view this as a low risk entry point. My wallet stays in my pocket until the market works off its overbought reading.
- Microsoft has been showing some relative strength the past few days. I believe it is because they are a prime beneficiary of the weaker dollar.
- A Chinese official said that the Chinese will continue to buy treasuries. This comes a week after Premier Wen warned Bernanke about devaluing the dollar. Who should we believe?
While these bailouts irk me as a taxpayer they also annoy me professionally. The natural ebb and flow of the markets is disturbed every time we see one of these government actions. As an example, it is very unusual to see such a strong rally reverse course so close to options expiration. However, Bernanke's announcement that he will print money caused a buying panic that brought forward the end of the rally.
Currently, the market is set to open up over 2% on Geithner's plan to buy toxic assets. It was likely that we would have seen some backing and filling early in the week if markets were allowed to operate freely. I allowed a bunch of my positions go late last week as I believed that we were due for a correction. I was being proven correct in my assesment until the government interfered.
The current situation is the hand I was dealt so I must play it. I have no plans to chase this rally as the market is overbought. If the market works off its overbought condition I will rebuild my positions as per plan.
At the current juncture the market is overbought, as shown in the chart above. Typically, during the second phase of the rally the overbought reading is worked off. The market should work off the overbought reading by late this week or early in the following week. Please note that the market need not go down in order to work off the overbought reading. Going sideways will achieve the same thing.
There are also some catalysts in the next few weeks that should help propel this market higher once the overbought reading is worked off. Both the Rohm and Haas and Genentech deals are scheduled to close in the next few weeks. The combined deals are worth close to 60 billion dollars in cash. Trim Tabs estimates that a deal closing acts like a market inflow of approximately 50% of the deal value. That means that 30 billion dollars will be coming into the market in the next few weeks.
My plan is to buy into the market as the current overbought condition is worked off. While it is possible that this bear market will eventually see new lows, I believe there is some business on the upside that remains unfinished.
The last few weeks are a great example of why it is important not to let the emotions of the crowd suck you in. Two weeks ago everyone was bearish and selling was the worst thing you could do. Two days ago the same thing happened in reverse. Have a great weekend.
- In light of the huge run up in the past week and a half, this pullback is to be expected.
- Apologies for the lack of posts but I don't have much to add today. Right now option expiration is controlling the market and I was never good at gaming expiration.
- I have been dicussing the likelihood of companies selling stock to pay down debt. Last night Simon Property Group announced the sale of over 600 million dollars in new shares in order to pay down debt.
- Speaking of REITs, General Growth Properties faces a deadline today and may need to declare bankruptcy.
- My favorite trade remains buying Genentech and tendering the shares for a 1.5% gain in less than a week. Why take risk when money is being given away? Its amazing that market players are too shell shocked to take advantage of it.
I am not looking to make money on the short side during the consolidation. I will be looking for clues that the consolidation is nearing an end and start scaling into positions at that point.
We have seen a record loss in the US Dollar since the FOMC meeting when Bernanke announced he was running the printing presses on overdrive. I thought I had a pretty good week in the market but when I look at my account in terms of Euros, Pounds or Canadian Dollars I actually lost money this week. I am also much wealthier in monopoly money. Well done Bernanke.
- Expiration is now firmly in control of this market. That should remain the case until Monday afternoon barring any major news.
- Is printing money the solution? Is there such a thing as a free lunch?
- I hate doing arb trades. Its like watching paint dry with anxiety.
- Today looks like a textbook top in financial stocks. An emotional gap up opening after a long run, followed by a close on the lows.
- When will financial companies start issuing shares?
- Did hedge funds have a good month?
- Have a good night.
- The clues were there that we were putting in a short term top. Yesterday, the buying felt very panicky. Then, this morning I could not log into my brokerage account because traffic was so heavy.
- Alcoa , Johnson Controls and Wynn completed equity offerings this week. I believe we have not seen the end of that.
- Is it a coincidence that China warned the US last week about not devaluing the dollar? Were they given advanced notice of this move?
- If they knew, who else did?
- I still can't believe that I'm being paid 1.5% to hold Genentech for less than a week. That is an 80% annualized return. Two years ago deals shaky deals traded at 7% annualized returns.
I believe this opportunity is available because the deal is so large ($45 billion) and there is simply not enough arb money around to close the spread. Hedge funds are hobbled and scared to commit too much to any deal. Wall Street propietary trading desks have little capital. I will take 1.5% in a week any day.
In the next two weeks both the Genentech and the Rohm and Haas deals are expected to close. These two deals are worth a combined 60 billion dollars in cash. Trim Tabs estimates that when a deal closes it is the equivalent of a market inflow of half the deal price. That means the market will see the equivalent of an inflow of 30 billion dollars in the next two weeks.
As a result I have no intention of trying to short this market. I would even consider buying a pullback early next week as the Genentech deal is expected to close late next week.
- I am a little surprised that the Fed decided to buy treasuries with printed money a week after China warned the US about protecting the value of China's investments.
- The ball is now in China's court. They have to be nuts to continue buying treasuries.
- There seems to be new found trust in Ben Bernanke. He was the biggest advocate of lowering rates to 1% in 2002 and keeping them there. He was responsible for overseeing the banks and was asleep at the wheel. Don't forget that he got us into this mess just because the market is up for a week.
- I have closed out my American Express position. I will revisit the position if we get a pullback.
- We have rallied over 20% in a little over a week. I believe the last of the bears are throwing in the towel now.
- Why am I not shorting if I believe a short term top is in? Options expiration.
- Have a good night.
It is important not to get too caught up in the emotions of the day. The truth is that the Fed has already been printing money in order to buy agency securities. They are just expanding the purchases to treasuries. I'm not saying the implications are not big but this is not something that happened overnight.
The distinction between this being a bear market rally or a new bull market is not so important to me at this point in time. I am remaining open minded. If I had to hazard a guess I would say this is a bear market rally. However, since everyone is familiar with the bear case I wanted to put a bull case forward. This would be the virtuous cycle that is possible and should be given some consideration.
Step 1. Market rallies.
Step 2. Deeply indebted companies use the rally to sell more stock and pay off debt.
Step 3. Bond market improves as a result of debt being paid down and toxic paper becomes less toxic.
Step 4. Financial institutions around the world start showing improving earnings.
Step 5. Improving earnings suck money off the sidelines.
Step 6. Return to Step 1
- An IBM cash purchase of Sun Microsystems would be a positive as it reduces the supply of stock on the market. Continued M&A would make this rally more sustainable.
- The higher this market goes the greater the chance that all the cash on the sidelines gets sucked back in. It is a great irony of the stock market that people like to buy high.
- The best thing the bulls have going for them is that this week is options expiration. Strong trends don't tend to reverse the closer one gets to expiration.
- The wild card is the Fed meeting and possible earnings warnings.
- The real action today will come after the Fed announcement.
IBM has a large financing unit and a large contracting business. Those two businesses lend themselves to creative accounting as does merger accounting. Admittedly, I have no evidence that IBM is taking advantage of its accounting flexibility but call me suspicious. I have seen this movie too many times before.
I have been suspicious of IBM for many years and wrong. I have not taken a short position because suspicion is not a good reason to take action. That said, I have no desire to invest in an acquisitive conglomerate with a large financing unit and accounting flexibility.
I spoke about the three phases of a bear market rally yesterday. I believe we are very close to the end of the first phase, which is the initial powerful rally. The second phase is the corrective phase. I will look to do some buying during the corrective phase because phase three is the culminating rally.
As an aside, it is interesting to note that almost everyone believes this is a bear market rally, including those who are participating in it. As long as the rally sucks people in I am not sure the distinction matters but it is interesting to note none the less.
The credit market has not participated in the recent stock rally even though higher stock prices benefit the credit market. Higher stock prices allow companies with heavy debt loads to raise some cash. I believe the reason credit markets have not benefited is that hedge funds are selling credit products in order to meet redemptions. That process should be over by the end of next week.
In addition, the market has rallied another 2% so far today. I am no longer interested in adding to positions at this point.
- I noted the weakness in technology yesterday, and commented that I believed it was set to outperform. Today technology is far outpacing the market as other areas of the market take a break. I believe it will continue its outperformance.
- As quarter end looms, please remember that we are entering earnings warning season.
- Hedge funds are facing redemptions and need to raise money for quarter end. I suspect that the credit markets will feel the effect of this more than the stock market as hedge funds as a group have little equity exposure.
- As quarter end comes closer I might look to pick up some credit exposure. Why? After quarter end the hedge fund selling will likely stop.
One anecdotal reason I believe this rally is not over is that more people are focused on figuring out when this rally will end than are trying to participate in it. That is not the type of sentiment typically seen at tops. The caveat is that the economy remains terrible and headline risk looms.
This data has no effect on my thesis about American Express. One day these credit losses will come to an end. It might be a year from now or it might be five years from now. When that happens the income American Express earns from charging vendors 2%-3% every time the card gets swiped will still be there. That income amounts to over $2 a share. At that point the shares will likely be north of $30. After selling calls on the shares I own, my cost basis is now $9.65.
The biggest risk to my thesis is that American Express will need to do a dilutive equity offering at some point. However, the fee income that American Express earns should be enough to fund any credit losses and makes that scenario less likely.
While there is certainly downside risk, especially with all of Wall Street so focused on the coming quarter, the upside is much more compelling.
I believe we are still in the first phase of this rally, but that the bulk of the point gain for this first phase has already been seen. It is likely that the market will have a tough time surpassing the 800 level on the S&P 500 during this first phase as many major technical levels reside there and the market is starting to look a little tired.
Last night we received news that Alcoa is looking to sell new stock and this morning rumors are circulating that Goldman Sachs and Morgan Stanley want to issue new shares as well. While it would be a long term positive to have Goldman and Morgan better capitalized in the short term it is a clear negative. The stock market works on the laws of supply and demand. Supply of new stocks is a negative for the market in the short term. This is one issue that I believe could derail this rally.
- I believe we are setting up for a short term whack and am holding off on any further purchases. That said, I have zero interest in trying to short this market.
- Why wouldn't I short this market? Read the Weekly Strategy.
- Technology continues to lag. It had become too much of a hiding spot and has not benefited from short covering. If this rally continues I believe it will eventually join the upside party. If the rally does not continue, I believe it has less downside. I am warming up to technology.
- I will be at meetings most of the today so posts will be sparse. I will return to my normal schedule tomorrow.
In case you missed it here is part 1 of the interview. Parts 2 and 3 can be found on Comedy Central's website.
It is a possibility that the market heads straight down from here now that the oversold condition has been worked off, but I believe that is unlikely. The rally last week was very powerful. In my experience those type of rallies don't typically just suddenly disappear and take a longer time to play out.
As one can see on the chart below, on a longer term basis we are still deeply oversold. I circled the three previous tops to bear market rallies.
I am certainly less bullish than I was a week ago now that we rallied close to 15%. It is a little discomforting how quickly many have latched on to this rally. However, most are still under invested and this rally does have skeptics. Additionally, the pickup in M&A is also a good sign. While I am far from wildly bullish here I am still trading with a bullish bias.
- Was that little midday dip the correction?
- If the S&P 500 reaches levels of valuation seen in the worst bear markets the downside potential is between 450-500. While I still believe this rally has more to go, do not fool yourself into believing that there is no downside risk.
- The market is no longer deeply oversold. The market has now done the minimum and going forward the game is a lot trickier.
- In a vacuum Premier Wen's statement is bullish for the longer term value of treasuries. He is speaking up for the owners of the asset class. That said, I still have no interest in owning treasuries at these prices.
- Technology has been a laggard in the past week's rally. I believe the reason is that short sellers were not targeting technology shares, hence they are not benefiting much from short covering.
- I have a busy weekend so the Weekly Strategy might not be up until Monday. Have a great weekend.
What do I want to see in order to add my positions? I would love to see a pullback below the 740 support level. That should give a good scare to the Johnny come lately bulls and shake out some weak holders.
We had two major rallies during this bear market. The first followed the Bear Stearns bankruptcy and lasted close to 3 months. The second was this November and lasted a little over six weeks.
In the shorter term the market will not be maximum overbought until after options expiration. While we will likely have a down day or two before then I would not expect much more before that. As an aside, the market is gapping up today and I would be weary of chasing it as we could see one of those one day corrections coming soon.
For a while now lower level Chinese officials have been making similar statements. The significance of this statement is that it came from the Premier. In my opinion this marginally lowers the odds of an inflationary outcome as the US needs China to continue buying treasuries.
“We have lent a huge amount of money to the United States,” Wen said at a press briefing in Beijing today after the annual meeting of the legislature. “I request the U.S. to maintain its good credit, to honor its promises and to guarantee the safety of China’s assets.”
...“Of course we are concerned about the safety of our assets,” said Wen. “To be honest, I am a little bit worried.”
I am letting my positions ride but will consider adding exposure on pullbacks. Even if this is the bottom it will not be a straight up affair. It is simply not my style to chase the market. I never cease to be amazed by the market. On Monday nobody wanted to buy, but now that we are more than 10% higher people are tripping over each other to get in. The greatest show on Earth. Have a good night.
- The put buying that has so far been absent, has shown up in the very early going. Despite that the market has turned positive. This augurs well for the rest of the day.
- American Express received its third downgrade in a week today. Citigroup sees 2011 earnings of $2 yet puts a $9 price target on the stock.
- I remain long American Express. I don't like their lending business but they earn 2%-3% on each transaction. That is a risk free business that earns $2 a share a year. The lending business is being given a high negative value even though there is a 9 billion dollar balance sheet that should be more than enough to absorb any losses.
- Will someone downgrade American Express to their "Super Duper This Time We Really Mean It Conviction Sell List"?
At the same time there is a healthy distrust of this market as investors don't want to get fooled again. I don't know if this is a relief rally or the start of a new bull market. The oversold condition of the market must get worked off first and hopefully we will have more clues to decide at that point.
- In an oped piece in yesterday's Wall Street Journal Alan Greenspan wiped his hands clean of any blame for our current mess. He even patted himself on the back. The man has some nerve.
- A few boring days would be the best outcome for the market. The public and the media need to stop focusing on the stock market for the vicious cycle to stop.
- In most large multi-week rallies the script is a big up day, followed by a sideways day followed by an up day. So far, so good.
- Truth be told, I would prefer the market go down again at some point. I was not able to get fully invested as the S&P 500 never reached my target of 600.
The case he laid out was that Wells Fargo and the rest of the banks are borrowing at extremely low rates, about 1.5%. They are lending at much higher rates so profitability on their new business is excellent. Much of the writeoffs have already been taken so the future looks bright.
I do not invest in bank stocks because the balance sheets are hard to analyze and I don't have the expertise required. I don't have a strong opinion on the subject but it was interesting to hear the bull case on the banks as all I have heard recently is Armageddon scenarios.
While a few people might be talking about a bottom it seems to me that few are acting on it. Hedge funds performance over the first two months of the year was flattish. The market was down big during that period. That tells me that hedge funds have little to no stock market exposure. Additionally, we have seen heavy outflows from mutual funds in recent weeks. So who exactly is bullish? How many people do you know that are fully invested?
The put/call ratio has been showing optimism lately despite the heavy selling. That would usually be a bearish omen. However, when seeing that every sentiment survey is showing extreme levels of bearishness and every where you look you read about The Great Depression one needs to question the validity of the put/call readings. I have seen every indicator fail at one point or another and the put/call ratio is no exception. I still use the put/call ratio and the VIX but I don't defer to them. There is no holy grail in investing.
This continues to be the problem with Wall Street research. This morning Goldman Sachs downgraded American Express to Conviction Sell with a $7.50 price target. The reason being that they expect credit losses to be more severe for 2009 and 2010. They are assuming credit losses as high as 12%, which is much higher than anyone out there is estimating. Even under those assumptions they still expect American Express to earn $0.50 in 2009, $0.70 in 2010 and $1.80 in 2011.
It is not even a point of contention that American Express made some horrible loans and that there will be losses related to those loans. But even under these horrible conditions American Express will still earn money in the next two years and bounce back to earnings of $1.80 in 2011, with its credit woes behind it. How is a company that will earn $1.80 in 2011 only worth $7.50? That is four times earnings. Last year Goldman had American Express as a buy with a $70 target? This is coming from the same group of people who gave you 100 times earnings price targets on tech stocks. The more things change, the more they stay the same.
On a side note, I still own American Express. I decided to hold on as I believe this rally has more to go. Then it got with this downgrade this morning. Shit happens. The good news is that there are few analysts that can downgrade the company as most have them as a sell. I have a sell rating on Wall Street research.
There are a lot of issues to look at in figuring out if this is "The Bottom". In this article I will look at time and valuation.
On average bear markets tend to last about 14 months, with the most severe lasting as long as two and a half years. I believe time matters in that it takes a certain amount of time for the cleansing process to occur and for everyone to give up. Since human nature does not change, the length of bear markets throughout history has remained pretty consistent.
I count the beginning of the bear market as July 2007. While the S&P 500 made a slightly higher high in October, many of the broader averages did not. Additionally, the internal high was also in July. Regardless of where you count the beginning of the bear market we are past the average length. If this bear market lasts as long as the longest ones in history, that suggests that the end of this year would be the maximum length.
When looking at valuation the picture is very much the same. We did reach levels of valuation that were better than the end of most bear markets, yet we did not reach levels consistent with the most extreme bear markets.
Unfortunately, we get the same result when we look at valuation and time. From a time and valuation perspective we are at levels consistent with the end of a Bear Market. However, some would argue that since this is one of the worst crisis in history we should be closer to the most extreme readings. The question I am grappling with is, if I am getting excellent prices, does it make sense to hold out for even more extreme prices? Either way its probably an excellent long term entry point and there is no guarantee that the most extreme prices will come.
- The Dow Chemical merger with Rohm and Haas will be closing in the next month. In the longer term this might not be a positive, as DOW will be saddled with debt. However, in the short term the closing of a 15 billion dollar cash deal is a major positive.
- Roche is offering 45 billion dollars for the portion of Genentech that it does not already own. Roche has already raised most of the money in a bond offering.
- Merck and Schering Plough will merge in a cash and stock deal. Companies are finding value in the stock market and putting their money where their mouth is.
- Warren Buffet advocated reinstating the uptick rule in his CNBC interview yesterday. He has the ear of the president. There was an op-ed piece recently advocating the same. This would help stop the self feeding aspect of this downturn.
Even though I respect the possibility of further downside, I would be a buyer into that downside. The valuations I am seeing on the market and on individual stocks in particular are compelling. I am not belittling the problems we are facing but the best buying opportunities in history are a who's who of the worst financial times in history as well.
- The Put/Call ratio is showing extreme levels of investor enthusiasm. I find that very hard to believe. This has been my favorite indicator over the years but I simply don't trust its message right now.
- I don't want to speak too soon but its nice to have a quiet day. I believe that a few quiet to up days will go a long way in breaking the selling fever that retail investors have caught.
- Maybe then the mainstream media can focus on more important issues, like Brittney Spears.
- Is anyone positioned for a rally?
- The SKF accounted for 35% of JPM's trading volume on Friday. Aren't stocks supposed to move the indexes?
Mutual funds that invest in equities have seen $34.6 billion in outflows this year, with most of that selling taking place in the last 2 to 3 weeks, according to Vincent Deluard, an analyst at TrimTabs Investment Research in Sausalito, California.This selling by retail investors lines up closely with the record bearish reading from the AAII survey. In times when there is heavy mutual fund liquidation most market indicators cease to function. The key to figuring out when this decline will end is figuring out when retail investors will exhaust themselves. While retail investors are not known as the best market timers this market will not lift until the mutual fund selling stops.
- Roche made a 45 billion dollar cash bid to buy the 40% of Genentech it does not already own.
- As I mentioned earlier in the week Intuitive Surgical is buying back up to 10% of its outstanding shares. The shares have responded positively despite the lower market. Hopefully, other Nasdaq companies will be moved to do something with their giant cash hoardes.
- Consumer credit and retail sales for February surprised to the upside. The rate of deterioration in the consumer is slowing.
- I always like to glance at the Insider Transactions table in Barron's. It seems that few insiders are selling shares right now.
This chart plots starting PE ratio versus ten year real returns. The points to the left are the markets with the lowest valuation. As you can see the points to the left of the chart tend to be higher up. That means ten year real returns tended to be higher when the market started from a low valuation. In 1999 market valuation was literally off this chart and it is no wonder that returns have been horrendous. Who could have known Mr. Greenspan?
It is ironic that this chart was used ten years ago to predict a decade of losses, but few were interested in listening back then. Ten years later the same chart can be used to predict very satisfactory ten year returns, but even fewer people care.
Today's market valuation is among the lowest in history. There have been cases where the market has traded lower but longer term returns from current valuation levels have been very satisfactory. I have been scaling into the market with the intent of becoming fully invested if the S&P 500 reaches 600, which would be very close to the most extreme valuations.
As I look around, I see stocks that have the potential to double and triple in value. American Express shares trade at five times the earnings of just their transaction processing business. Microsoft trades at six times free cash flow. Boeing trades at six times earnings. These stocks will almost surely double in value when this bear market finally ends. I wonder if I am not being penny wise and pound foolish by holding out for even more extreme valuations.
Currently, we are stuck in a cycle where lower prices are leading more people to liquidate and short sellers to become more brazen, which leads to yet lower prices. There are numerous clues that suggest we are very close to the end of this. While we might need a final capitulatory move lower from here, I believe those losses would quickly be recouped if they occurred.
I don't know when this will stop but I am confident that when it does I will be able to sell my merchandise at higher prices. I continue to buy straw hats in Winter. Have a great weekend.
Fast forward to today. Mom and pop spent too much money and have little tucked away for retirement. In the meantime what little they have left is shrinking by the day. Sure these pieces of paper are now throwing off nice dividends, but they are going down much faster than the dividends are getting paid. They read the newspapers and turn on the news. The man says everything is bad and that the market will go down more. So they sell. This makes the market go down even more and the next day more mom and pops sell ...
- I would have preferred to see an ugly unemployment number and some capitulation. These bounces when we are on the verge of panic only help the bears get better entry points.
- The ISE and CBOE are painting completely different pictures so it is hard to get an early read from the options ratios.
- Every financial is up except for the one I own, American Express.
- I am going to the dentist, which should be slightly less painful than watching my screen. Posts will be sparse today.
- The American Association of Individual Investors survey is showing the largest number of bears in the 25 year history of the survey (over 70%).
- The stock market is on the front page of every major newspaper and is the lead in on the nightly news.
- High quality stocks are paying twice the dividend yield of 10 year treasuries.
- Some clown got on CNBC yesterday and said that shorting was a no risk strategy.
I continue to be of the belief that this market decline should be bought into. However, it is important to buy into high quality companies with solid balance sheets. I am coming to the realization that this decline might need to end with a bang. While I am not looking forward to it, I am ready for it. While one would have had to be in a fallout shelter for the past year to be surprised by the unemployment report, it just might serve as that catalyst.
There will be losses due to the credit orgy of the past few years but American Express is reigning in credit lines, allowing them to focus on their fee business. There are no CDOs or other toxic assets on their balance sheet. In other words I believe American Express will be one of the survivors in the financial wasteland.
A similar argument could have been made for a long time but there are a few reasons I decided to pull the trigger today.
- We are seeing sheer panic in financial stocks today. Times of panic often mark the best buying points.
- The valuation and upside has become too compelling for me to ignore anymore. I am catching a falling knife so I will likely lose money on this trade at first, but you have to be willing to lose money to make money. There is no such thing as reward without risk. If you want that speak to Bernie Madoff.
- I have been hearing that stock loan departments can't lend shares of financial companies to hedge funds fast enough. American Express is simply being shorted because it is a financial stock.
- Once again the market is squashing the hope from yesterday's rally and teaching all a lesson. When the real rally does arrive, everyone will have learned their lesson and there will be few believers.
- The day started with way too much call buying given the lower open but the call buyers have now backed off.
- The only positive is that GE is managing to hold on to slim gains.
- There are rumors making the rounds of hedge fund liquidations. I don't doubt it.
- Retail sales for the most part are coming in better than expected for the month of February. Sales are still negative, but better than feared.
- Intuitive Surgical announced a $300 million buyback. The company has 900 million dollars in cash and investments. Ex-cash they trade at ten times next year's estimates. As an aside, cash rich companies like this are the reason the Nasdaq 100 is the only index not to make a new low.
- GE seems to have a bid in the pre-market. If GE could amputate GE Capital the shares must be worth somewhere north of the current price. However, nobody seems to be able to answer my question regarding the plausibility of that.
- The question that keeps coming to my mind is does this downturn need to end with a bang or can it end with a whimper?
In past weeks the market has staged a few one day rallies that somewhat alleviated the oversold condition of the market, only to pave the way for more downside. However, unlike previous rallies yesterday's rally was met by skepticism and might not give way as quickly as its predecessors.
Yesterday, a friend said to me, "with all the high quality companies paying 5% or 6% dividends you are no longer a shareholder, you are an actual partner in the business". If investor's looked at stocks like partnerships in a business they would have shunned stocks in 2000 as the dividend yield of stocks was barely above 1% and would be buying now. But, instead they view stocks as pieces of paper that they buy in order to sell to someone else at a higher price. When the price is rising they assume it will keep rising and vice versa.
I continue to believe that stocks are reaching levels of value, where I want to be a partner and my plan is to scale into the market with the goal of being fully invested when the S&P 500 hits 600.
- The put call ratio is still the biggest positive for the market. There is put buying in response to a rally. I can't remember the last time we saw that.
- I would prefer to see the financial stocks rallying with the market and it would be nice if GE would stop going down 10% a day.
- Unfortunately for me, Annaly does not want to join the party. I spoke to investor relations to inquire about the drop and they said there was no reason that they knew of for the selloff.
- I stand by the opinion that there is no reason for the stock to trade below book value.
- I believe this rally will hold for the rest of the day.