Larry Pesavento – Fibonacci Ratios With Pattern Recognition [Traders pdf
Jan 112012
A few regular readers have asked for our list of ‘must read’ books on finance, economics and investing for 2012. The following list includes books I have read (and want to re-read) and books that have been recommended to me by respected colleagues. I intend to read all 12 this year.
If you intend to purchase any of the following, please use the links below. A small fraction of the proceeds will be re-directed to Plan B Economics, helping us keep the analysts well-caffeinated.
1. The End of Growth: Adapting to Our New Economic Reality (Richard Heinberg)
Description:
Economists insist that recovery is at hand, yet unemployment remains high, real estate values continue to sink, and governments stagger under record deficits. The End of Growth proposes a startling diagnosis: humanity has reached a fundamental turning point in its economic history. The expansionary trajectory of industrial civilization is colliding with non-negotiable natural limits.
Richard Heinberg’s latest landmark work goes to the heart of the ongoing financial crisis, explaining how and why it occurred, and what we must do to avert the worst potential outcomes. Written in an engaging, highly readable style, it shows why growth is being blocked by three factors:
- Resource depletion
- Environmental impacts
- Crushing levels of debt
2. Currency Wars: The Making of the Next Global Crisis (Jim Rickards)
Description:
In 1971, President Nixon imposed national price controls and took the United States off the gold standard, an extreme measure intended to end an ongoing currency war that had destroyed faith in the U.S. dollar. Today we are engaged in a new currency war, and this time the consequences will be far worse than those that confronted Nixon.
Currency wars are one of the most destructive and feared outcomes in international economics. At best, they offer the sorry spectacle of countries’ stealing growth from their trading partners. At worst, they degenerate into sequential bouts of inflation, recession, retaliation, and sometimes actual violence. Left unchecked, the next currency war could lead to a crisis worse than the panic of 2008.
3. Extreme Money: Masters of the Universe and the Cult of Risk (Satyajit Das)
Description:
The human race created money and finance: then, our inventions recreated us. In Extreme Money, best-selling author and global finance expert Satyajit Das tells how this happened and what it means. Das reveals the spectacular, dangerous money games that are generating increasingly massive bubbles of fake growth, prosperity, and wealth–while endangering the jobs, possessions, and futures of virtually everyone outside finance.
“…virtually in a category of its own — part history, part book of financial quotations, part cautionary tale, part textbook. It contains some of the clearest charts about risk transfer you will find anywhere. …Others have laid out the dire consequences of financialisation (“the conversion of everything into monetary form”, in Das’s phrase), but few have done it with a wider or more entertaining range of references…[Extreme Money] does… reach an important, if worrying, conclusion: financialisation may be too deep-rooted to be torn out. As Das puts it — characteristically borrowing a line from a movie, Inception — “the hardest virus to kill is an idea”.
-Andrew Hill “Eclectic Guide to the Excesses of the Crisis” Financial Times (August 17, 2011)
Extreme Money named to the longlist for the 2011 FT and Goldman Sachs Business Book of the Year award.
4. This Time Is Different: Eight Centuries of Financial Folly (Carmen Reinhart and Kenneth Rogoff)
Description:
Throughout history, rich and poor countries alike have been lending, borrowing, crashing–and recovering–their way through an extraordinary range of financial crises. Each time, the experts have chimed, “this time is different”–claiming that the old rules of valuation no longer apply and that the new situation bears little similarity to past disasters. With this breakthrough study, leading economists Carmen Reinhart and Kenneth Rogoff definitively prove them wrong. Covering sixty-six countries across five continents, This Time Is Different presents a comprehensive look at the varieties of financial crises, and guides us through eight astonishing centuries of government defaults, banking panics, and inflationary spikes–from medieval currency debasements to today’s subprime catastrophe. Carmen Reinhart and Kenneth Rogoff, leading economists whose work has been influential in the policy debate concerning the current financial crisis, provocatively argue that financial combustions are universal rites of passage for emerging and established market nations. The authors draw important lessons from history to show us how much–or how little–we have learned.
Using clear, sharp analysis and comprehensive data, Reinhart and Rogoff document that financial fallouts occur in clusters and strike with surprisingly consistent frequency, duration, and ferocity. They examine the patterns of currency crashes, high and hyperinflation, and government defaults on international and domestic debts–as well as the cycles in housing and equity prices, capital flows, unemployment, and government revenues around these crises. While countries do weather their financial storms, Reinhart and Rogoff prove that short memories make it all too easy for crises to recur.
An important book that will affect policy discussions for a long time to come, This Time Is Different exposes centuries of financial missteps.
5. When Money Dies: The Nightmare of Deficit Spending, Devaluation, and Hyperinflation in Weimar Germany (Adam Fergusson)
Description:
When Money Dies is the classic history of what happens when a nation’s currency depreciates beyond recovery. In 1923, with its currency effectively worthless (the exchange rate in December of that year was one dollar to 4,200,000,000,000 marks), the German republic was all but reduced to a barter economy. Expensive cigars, artworks, and jewels were routinely exchanged for staples such as bread; a cinema ticket could be bought for a lump of coal; and a bottle of paraffin for a silk shirt. People watched helplessly as their life savings disappeared and their loved ones starved. Germany’s finances descended into chaos, with severe social unrest in its wake.
Money may no longer be physically printed and distributed in the voluminous quantities of 1923. However, “quantitative easing,” that modern euphemism for surreptitious deficit financing in an electronic era, can no less become an assault on monetary discipline. Whatever the reason for a country’s deficit—necessity or profligacy, unwillingness to tax or blindness to expenditure—it is beguiling to suppose that if the day of reckoning is postponed economic recovery will come in time to prevent higher unemployment or deeper recession. What if it does not? Germany in 1923 provides a vivid, compelling, sobering moral tale.
6. The Modern Survival Manual: Surviving the Economic Collapse (Fernando Ferfal Aguirre)
Description:
My book is a Modern Survival Manual based on first hand experience of the 2001 Economic Collapse in Argentina. In it you will find a variety of subjects that I consider essential if a person wants to be prepared for tougher times: -How to prepare your family, yourself, your home and your vehicle -How to prepare your finances so that you don’t suffer what millions in my country went through -How to prepare your supplies for food shortages and power failures -How to correctly fight with a chair, gun, knife, pen or choke with your bare hands if required -Most important, how to reach a good awareness level so that you can avoid having to do all that These are just a few examples of what you will find in this book. It’s about Attitude, and being a more capable person and get the politically correct wimp out of your system completely.
7. The Age of Deleveraging, Updated Edition: Investment Strategies for a Decade of Slow Growth and Deflation (Gary Shilling)
Description:
Top economist Gary Shilling shows you how to prosper in the slow-growing and deflationary times that lie ahead
While many investors fear a rapid rise in inflation, author Gary Shilling, an award-winning economic forecaster, argues that the global economy is going through a long period of de-leveraging and weak growth, which makes deflation far more likely and a far greater threat to investors than inflation. Shilling explains in clear language and compelling logic why the world economy will struggle for several more years and what investors can do to protect and grow their wealth in the difficult times ahead. The investment strategies that worked for last 25 years will not work in the next 10 years. Shilling advises readers to avoid broad exposure to stocks, real estate, and commodities and to focus on high-quality bonds, high-dividend stocks, and consumer staple and food stocks.
- Written by one of today’s best forecasters of economic trends-twice voted by Institutional Investor as Wall Street’s top economist
- Clearly explains what to invest in, what to avoid, and how to cope with a deflationary, slow-growth economy
- Demonstrates how Shilling has been consistently right about major economic trends since he began forecasting in the early 1980s
8. The Crash Course: The Unsustainable Future Of Our Economy, Energy, And Environment (Chris Martenson)
Description:
The next twenty years will be completely unlike the last twenty years.
The world is in economic crisis, and there are no easy fixes to our predicament. Unsustainable trends in the economy, energy, and the environment have finally caught up with us and are converging on a very narrow window of time—the “Twenty-Teens.” The Crash Course presents our predicament and illuminates the path ahead, so you can face the coming disruptions and thrive–without fearing the future or retreating into denial. In this book you will find solid facts and grounded reasoning presented in a calm, positive, non-partisan manner.
Our money system places impossible demands upon a finite world. Exponentially rising levels of debt, based on assumptions of future economic growth to fund repayment, will shudder to a halt and then reverse. Unfortunately, our financial system does not operate in reverse. The consequences of massive deleveraging will be severe.
Oil is essential for economic growth. The reality of dwindling oil supplies is now internationally recognized, yet virtually no developed nations have a Plan B. The economic risks to individuals, companies, and countries are varied and enormous. Best-case, living standards will drop steadily worldwide. Worst-case, systemic financial crises will toss the world into jarring chaos.
This book is written for those who are motivated to learn about the root causes of our predicaments, protect themselves and their families, mitigate risks as much as possible, and control what effects they can. With challenge comes opportunity, and The Crash Course offers a positive vision for how to reshape our lives to be more balanced, resilient, and sustainable.
9. Endgame: The End of the Debt Supercycle and How It Changes Everything (John Mauldin)
Description:
Greece isn’t the only country drowning in debt. The Debt Supercycle—when the easily managed, decades-long growth of debt results in a massive sovereign debt and credit crisis—is affecting developed countries around the world, including the United States. For these countries, there are only two options, and neither is good—restructure the debt or reduce it through austerity measures. Endgame details the Debt Supercycle and the sovereign debt crisis, and shows that, while there are no good choices, the worst choice would be to ignore the deleveraging resulting from the credit crisis. The book:
- Reveals why the world economy is in for an extended period of sluggish growth, high unemployment, and volatile markets punctuated by persistent recessions
- Reviews global markets, trends in population, government policies, and currencies
Around the world, countries are faced with difficult choices. Endgame provides a framework for making those choices.
10. Unexpected Returns: Understanding Secular Stock Market Cycles (Ed Easterling)
Description:
Why is the stock market acting differently in the 2000s than in the 1980s and 1990s?
Before you read any how-to investment books or seek financial advice, read Unexpected Returns, the essential resource for investors and investment professionals who want to understand how and why the financial markets are not the same now as they were in the 1980s and 1990s. In addition to explaining the fundamentals, this book takes you on a graphic journey through the seasons of the market, tying together economics and finance to explain the stock market’s cycles. Using comprehensive full-color charts and graphs, it offers an in-depth exploration of what has changed over the past five years – and what you can do about it to avoid disappointment with your investments. This unique combination of investment science and investment art will enable you to differentiate between irrational hope and a rational view of the current financial markets. Based on years of meticulous research, it provides the sensible conclusions that will drive your future investment choices and give you the confidence to rely on your investment outlook, whatever your financial strategy.
11. Debunking Economics – Revised and Expanded Edition: The Naked Emperor Dethroned? (Steve Keen)
Description:
Debunking Economics – Revised and Expanded Edition, now including a downloadable supplement for courses, exposes what many non-economists may have suspected and a minority of economists have long known: that economic theory is not only unpalatable, but also plain wrong. When the original Debunking Economics was published back in 2001, the market economy seemed invincible, and conventional “neoclassical” economic theory basked in the limelight. Steve Keen argued that economists deserved none of the credit for the economy’s performance, and “The false confidence it has engendered in the stability of the market economy has encouraged policy-makers to dismantle some of the institutions which initially evolved to try to keep its instability within limits.” That instability exploded with the devastating financial crisis of 2007, and now haunts the global economy with the prospect of another Depression. In this expanded and updated new edition, Keen builds on his scathing critique of conventional economic theory while explaining what mainstream economists cannot: why the crisis occurred, why it is proving to be intractable, and what needs to be done to end it. Essential for anyone who has ever doubted the advice or reasoning of economists, Debunking Economics – Revised and Expanded Edition provides a signpost to a better future.
12. Debt: The First 5,000 Years (David Graeber)
Description:
Before there was money, there was debt
Every economics textbook says the same thing: Money was invented to replace onerous and complicated barter systems—to relieve ancient people from having to haul their goods to market. The problem with this version of history? There’s not a shred of evidence to support it.
Here anthropologist David Graeber presents a stunning reversal of conventional wisdom. He shows that for more than 5,000 years, since the beginnings of the first agrarian empires, humans have used elaborate credit systems to buy and sell goods—that is, long before the invention of coins or cash. It is in this era, Graeber argues, that we also first encounter a society divided into debtors and creditors.
Graeber shows that arguments about debt and debt forgiveness have been at the center of political debates from Italy to China, as well as sparking innumerable insurrections. He also brilliantly demonstrates that the language of the ancient works of law and religion (words like “guilt,” “sin,” and “redemption”) derive in large part from ancient debates about debt, and shape even our most basic ideas of right and wrong. We are still fighting these battles today without knowing it.
Debt: The First 5,000 Years is a fascinating chronicle of this little known history—as well as how it has defined human history, and what it means for the credit crisis of the present day and the future of our economy.
Dec 042011
Guest post by Stephen Johnston
Partner – Agcapita Farmland Investment Partnership
“Never, ever take counterparty risk. It is the one risk you are almost never rewarded for taking.” Joshua Brown summarizing a recent presentation by bond guru Jeffrey Gundlach. Sage but largely unheeded advice as the emerging winner of the “Unexpected Risk of 2011″ competition is surely counter-party risk.
For the longest time, counter-party risk has not been something that the average investor gave much consideration. State backed financial insurance schemes and the ostensibly strong balance sheets of financial service providers combined to create an unwarranted sense of safety. Lets address these two supposed bulwarks in turn.
- State backed financial insurance schemes are insufficient to protect depositors/beneficiaries from a systemic crisis, particularly a crisis of sovereign solvency. If state funded schemes could protect from a sovereign default we would have discovered something akin to perpetual motion in the form of the insolvent bailing out the insolvent.
- It is increasingly apparent that many financial intermediaries only appear to be well capitalized because risks, where apparent, are thought to be hedged/offset via a range of derivative instruments – CDS, interest rate swaps – the list goes on. Via such hedge transactions, intermediaries argue that net exposure, rather than gross, is the key measure for investors to consider.
Though not entirely accurate, I would suggest that this reasoning is akin to building a larger and larger pile of gunpowder kegs while at the time stock-piling fire extinguishers so as to try to make the argument that while a large pile of gunpowder might be unsafe by itself, a large unsafe pile behaves like a small safe pile if you can put out the fire in time – maybe, maybe not.
If recent events have taught us anything it should be the obvious principle that hedging cannot eliminate risk, it can only re-allocate risk – an important distinction. Whether because this has been conveniently forgotten or perhaps willfully ignored, there has been a tendency for some entities to take concentrated gross positions in certain risks with the view that any unwanted/excess risk can be reduced at any time via hedges rather than an outright reduction in the underlying position itself. However, recent events prove that where there is a concentration of risk in critical counter-parties (e.g. AIG), in a world of high positive correlations across markets and asset classes, hedges can fail leaving catastrophic gross rather than net exposure behind.
When losses arise – e.g. Greek defaults – some participant(s) in the system must ultimately suffer those losses. In such a structure if a critical counter-party fails – and of course they do – the concentration of risk starts to increase unexpectedly and the magnitude of the true losses is revealed suddenly.
Financial entities continue to report on net rather than gross exposures for risk purposes. Investors need to be alive to the issue that the net position may not reflect the true risk if there is tendency to strong themes amongst both the entities’ and their counter-parties’ positions – e.g. we don’t think Italy will default. Ask account holders of MF Global how they feel about unexpected counter-party failure and the efficacy of financial risk reporting.
Why are apparently solvent institutions suddenly subject to failure? The late economist, Murray Rothbard provides a simple and compelling answer with the concept of subsidized malinvestments accumulating in the system:
“The longer the boom of inflationary bank credit continues, the greater the scope of malinvestments in capital goods, and the greater the need for liquidation of these unsound investments. When the credit expansion stops, reverses, or even significantly slows down, the malinvestments are revealed. [Ludvig von] Mises demonstrated that the recession, far from being a strange, unexplainable aberration to be combated, is really a necessary process by which the market economy liquidates the unsound investments of the boom, and returns to the right consumption / investment proportions to satisfy consumers in the most efficient way. Thus, in contrast to the interventionists and statists who believe that the government must intervene to combat the recession process caused by the inner workings of free-market capitalism, Mises demonstrated precisely the opposite: that the government must keep its hands off the recession, so that the recession process can quickly eliminate the distortions imposed by the government-created inflationary boom.”
So by preventing the timely and orderly liquidation of mal-investments, government intervention allows them to accumulate to catastrophic levels creating the raw material for a highly unstable and discontinuous financial system. In such an environment “sudden and unexpected losses” occur with alarming frequency.
It is because we believe that counter-party risk remains opaque and non-trivial that a key part of our investment approach is to find assets that capture our desired returns but as much as practical eliminate or reduce counter-party risk – e.g. farmland rather than wheat futures to capture agriculture returns.
Kind Regards
Stephen Johnston
Agcapita Partners
Nov 272011
From our friends at Wikipedia:
Before founding Baupost, Klarman worked for Max Heine and Michael Price of the Mutual Shares fund (now a part of Franklin Templeton Investments). He founded the Baupost Group in 1982, which managed USD 22 Billion as of 2010. Despite his unconventional strategies, he has consistently achieved high returns. He is a very conservative investor, and often holds a significant amounts of cash in his investment portfolios, sometimes in excess of 50% of the total. He often makes unusual investments, buying unpopular assets while they are undervalued, using complex derivatives, and buying put options. Klarman typically keeps a low profile, rarely speaking in public or granting interviews. He has recently, however, spoken pessimistically about the stock market and warned of future inflation.
In 1991, Klarman authored Margin of Safety, Risk Averse Investing Strategies for the Thoughtful Investor, which since has become a value investing classic. Now out of print, Margin of Safety has sold on Amazon for $1,200 and eBay for $2,000.
Guest post by Bulls, Bears and Pigs
As you know, I’ve been dazed and confused about where the market and economy is going longer term because there’s a strong case to be made for either a bullish or bearish resolution. We’re at a major cross road here and if you take the wrong path you’re either going to get hurt in a big way or miss out in a big way. It all hinges down to the recession debate. In this post I’m going to flesh out all of the things running through my mind that is causing me such conflict. Hopefully this catharsis will help me get a better feel for what probably lies ahead. Some of this will sound repetitive given my recent posts.
Last weekend Hussman made a convincing case to support the case for a recession. Here’s a crucial except from his lengthy commentary…
Since 1963, when the ECRI Weekly Leading Index growth rate has been below -5 and the ISM Purchasing Managers Index has been below 54, the economy has already been in recession 81% of the time, and the probability of recession within the next 13 weeks was 86%.
If in addition, the S&P 500 was below its level of 6 months earlier, the economy was already in recession 87% of the time, and the probability of recession within the next 13 weeks climbed to 93% (and then to 96% within 26 weeks). Under these conditions, once the PMI fell below 52, the probability of recession within 13 weeks climbed to 97%.
That simple set of conditions (WLI < -5, PMI < 52, SPX < 6 months earlier) has been seen in every postwar recession for which the data is available. Though we’ve seen recessions without a drop in the WLI much below -5, when a WLI below -7 has been coupled with a PMI below 52 and an S&P 500 below its level of 6 months earlier, the economy has been in recession within 13 weeks, 100% of the time. This is the combination, incidentally, that we observe today.
Now, here’s some convincing points from James Stack that totally refute the recession call
the four-week moving average of weekly jobless claims had hit a six-month low. How often has the economy fallen into recession after such a development? Trick question. It has never happened in 44 years of claims data, he said. The Index of Leading Economic Indicators just hit an all-time high. When has that occurred in the six months prior to or in the early stages of a recession? Never in the 52-year history of the LEI data.
So, you have Hussman arguing that there’s a 100% chance of a recession according to historical data and Stack who says there’s a 100% chance of no recession according to a different set of historical data! lol! WTF!!!! Well, somebody is going to be wrong….obviously.
Do you see folks why I am so f@cking frazzled? Ok, let’s get back to the the ECRI recession call. I mentioned how I don’t like the fact that they are so popular amongst the masses which in my experience makes it more likely that the guru in question will soon be wrong in a big way. It’s interesting to note that the previous 2 times the ECRI made official recession calls were in March 2001 and March 2008. In both those cases, leading indicators, coincident indicators and reported earnings had all already decidedly turned down from their peaks. That has not happened this time around with their call. Also, when ECRI made the previous 2 recession calls, the stock market had made its peak several months prior and was in a well established downtrend – undeniably in a bear market. Therefore, the ECRI was a little “late” in making their official recession calls from a market timing perspective in 2001 and 2008 (but in their defense, in the months leading to official recession call, ECRI was strongly warning about the negative things brewing in the economy). This time around, with earnings still elevated, leading indicators still making new highs and the stock market not off it’s highs as much relative to when the last 2 recession calls were made, could it be that ECRI is jumping the gun with their recession call? And isn’t it funny how bears love the ECRI now but didn’t mention jack sh@t about ECRI’s bullish calls in March of 2009 and November of 2010? In fact, the media mentioned f@ck all when ECRI turned bullish. And where was Hussman when ECRI was bullish? Did he make mention of this? Of course not. He was wallowing in his dogma. That’s permabears for you folks and that’s why you need to have a balanced approach when reading commentaries from these guys. It’s still worth reading what smart guys like Hussman have to say though because they can provide facts and studies that can help you form objective opinions.
Aside from issues with ECRI’s latest call, a couple of other things are making me suspicious of a recession and a big bear is forthcoming. I mentioned a couple weeks ago how dumb money thinks one is coming, in particular, a few of my friends on Facebook and the late night talk show hosts making jokes about the economy. You have consumer confidence plunging to early 2009 levels where historically it’s a great time to buy LT and again, all of this is happening in the face of still strong earnings that are poised to make all time highs this year which makes the gloom appear unjustified. If you look at the crash of 1987 and 1998 earnings were still strong and hadn’t rolled over thus the crash was simply a severe correction in a bull market (or a short and sweet mini-bear market….whatever tickles your fancy) while many believed it was indeed the start of a big bear market.
The media both mainstreet and financial are quite sour and that bodes well for an eventual bullish resolution to this crisis and we never did see any signs of giddiness from them near the peak either. Sure, you had Wall street strategists bullish and equity inflows were coming in, but that’s to be expected in a bull market and those inflows were just a drop in the bucket compared to the outflows that occurred from 2007-2009. And now, those inflows have been completely reversed and then some and so any kind of budding optimism has been completely undone. Bull market tops are usually characterized by giddiness and corporate greed and it’s the unwinding of this greed that fuels the bear market that follows. We did not see such greed at the latest peak. The only case where a big bear market occurred under the above circumstance was in 1937 and admittedly, as I pointed out in a recent post, there some important similarities with today’s conditions vs. those in 1937.
Lastly, if you look at how severely oversold the market got after the crash in August, the statistics matched what you see towards the end of bear market not the beginning of them and I mentioned back in early August how we were as oversold as we were in October of 2008. That to me again gives me reason to believe this is just a severe correction and not a new big daddy bear.
Now, let’s exam the bear case. I have concerns aside from Hussman’s work that concludes a recession is pretty much guaranteed. My instincts tell me that until we see a complete restructuring of all troubled PIIGs debt this market ain’t out of the woods. This situation reminds of me of late 2007 and early 2008 when toxic MBS was really starting to wreck havok. I remember telling my co-worker at the time that in the end the government is going to end up buying all this toxic shit from banks before this is over and that’s what ended up happening but not before the markets went down a lot more. MBS was a cancer to the system just like PIIGs debt is and until this cancer is removed once and for all, at the very least I don’t think this market is out of the woods and a major retracement of this latest rally at the least, is inevitable. Bond markets for PIIGS are saying loud and clear that it does not end with Greece. The potential fallout from this European debt debacle could be just as serious if not worse than the MBS meltdown. And this time around government authorities have their hands tied a lot more to intervene given already low interest rates and pressure to embrace austerity.
Next you have yield curves in the BRICs – the number one driver of the bull market still flat overall suggesting a serious slow down lies ahead for them. It’s likely that they will end up having to cut rates but with oil back to the mid 90′s, they may have their hands tied as inflation concerns will remain given that food and energy account for a lager portion of overall inflation compared to developed nations. It seems that the only way for easy monetary conditions to be possible for them is if there’s a global downturn sharp enough to take the air out of commodities and that translates to lower stock prices.
A rather obscure but historically quite effective indicator that I keep tabs on is OEX option data. Unlike the traditional put/call ratio, the OEX put/call ratio is a smart money indicator, therefore a high put/call ratios is bearish for the market and low ones are bullish. It doesn’t always pinpoint major tops and bottoms to the exact day….it can be early up to a few months, but effective in signaling an immanent change in IT/LT market trends in the weeks ahead. It’s worth paying attention to only when where there’s a bullish or bearish extreme. Look at the chart below and you will see that when the market was close to making it’s bear market bottom in March 2009 and during the aftermath of the flash crash, OEX option traders were aggressively buying calls pushing the 10 DMA below 0.75. OEX traders then became quite bearish during the spring and early summer of 2011. The bearishness unwound only modestly after the crash in August and it’s now deep into bear territory again.
Unlike what happened in the months following the flash crash of 2010, whereby OEX traders became aggressively bullish, they only got so far as being less bearish for a while before going back to deep bearish territory which is where we stand now. This supports the thesis that the market isn’t through with this deep correction/bear market. Would I bet the farm on this one indicator? No! There have been some false signals over the years (not evident on this chart) but this indicator clearly favors the bears and suggests at the very least a major retracement, if not a full retest or worse in going the occur in the months ahead.
Next, I want to mention Lester – the worst trader in the world. I discovered this guy posting on blogs 3 years ago and I kept tabs on him because he is bar none, the worst trader I have ever seen. His major achievements include switching his 401K from equities to cash in November of 2008 and then blowing his entire $300,000+ IRA using option trades in about 18 months whereby practically every single trade he made was the wrong trade! He trades purely on impulse and emotion. Do you know what Lester did this year? He switched half of his 401K back into an SPX equity mutual fund in March when the SPX first hit 1300. Usually he panicks during sell-offs but this time around he actually doubled down on his bet by averaging down into equities about 2 months ago (at around 1200). He then later went even more aggressive by switching half from the SPX fund to his company stock! This is not a good for the bulls medium/longer term! Bulls need him to flip flop and go back to cash but that’s not going to happen until the market goes down in a big way and given Lester’s track record that’s likely going to happen! I realize you shouldn’t base your investment thesis on just one man’s behavior but I gotta tell you if I was forced to, I would pick this guy hands down. He is the absolute worst!
Finally, there’s the action of the market itself. Although the market rally has been impressive with what still appears to be plenty of doubters via the frequently high put/call ratio and only modest equity inflows, the rally has been done primarily via gap up behavior. Also, volatility is still high which is not the characteristic of a new sustainable advance coming out of a correction that’s going to last several months and make new highs. Take a look at how the market behaved off the July 2009 bottom and the September 2010 bottom. It grinded higher with small but frequent up days temporarily interrupted with sharp but short dips which were few and far in between. That’s classic bull market behavior. The upside we’ve seen so far has been erratic characterized by large gap up and gap down days because most of the movements in the market as of late has been happening after hours or before the bell driven by headlines. That tells me the market is still broken without a solid foundation of true buyers. It’s the chronic shorting/hedging that has been keeping it afloat but that can only go so far. Once the shorts eventually give up (as the always end up doing) the market will be very vulnerable to an abrupt drop. Admittedly, this short squeezing could potentially last for several more weeks but it can just as well last for a few more days so you better be careful if you try to go long playing the game of chicken with these bagholders. Look for the VIX to drop to the low 20′s to signal potential true bear capitulation.
So there you have it….a complete info dump from my brain as to my thoughts and observations about this market. I’m going to take some time to review what I just wrote and let it sink in. Hopefully this will help provide me a better understanding as to were this market is headed and what actions I need to take with my account which is still primarily in cash.
Oct 272011
90 min presentation…worth it if you have the time:
Guest post by Bulls, Bears and Pigs
First of all, the lemming bears are at it again. The put/call ratiowas sky high this morning in the face of market strength. This time however, the market is not ST oversold so the less of chance of them being squeezed like last week but it still remains a decent probability…at the very least it suggests you stay away from the short side until you see them back off.
When things seem utterly hopeless and the bears pile all it takes is some marginal good news to rip them a new one and that’s what happened and may continue to happen. It’s a game of chicken though, because the fundamentals are in fact deteriorating which warrants being bearish but Mr. Market rarely likes company. Have you noticed that some of the market leaders namely, Apple and Amazon have made new highs? Amazing. Having your market leaders lead is good sign for the bulls but is this the result of people simply “hiding” in these growth names?
So, there’s talk now that Greece may end up getting the next tranche of bailout funds which would keep them afloat till the end of the year. That’s probably why the market is ignoring the lemming downgrade of Italy by the new tough guys of the world S&P. Italy is in bad shape? Gasp! Wow, S&P you are so forward looking and market savvy…nobody had any idea the PIIGS were in trouble! Ok, so if Greece does indeed get more bailout funds it could very well be the catalyst for the market to breakout higher simply because too many bears have been shorting the market. Unfortunately, European authorities are in denial and are ignoring the bond market which is saying that Greece is doomed to default. It appears they are throwing good money after bad and if Greece keeps struggling, which they likely will, the next time they come back to the through it would most likely be game over. You can sense that people are completely fed up with these bailouts. Merkel has taken a political beating because of it.
A lot of what’s going on reminds me of late summer 2007. August of that year is when we first started to see material impact of bad subprime to those who were directly exposed the most. The market sold off sharply as mortgage companies were going bankrupt and major hedge funds were getting wiped out. Then, just like now, there was massive insider buying on the selloff, which I recall hit a15 year high.
The fed came in, cut rates and provided liquidity which caused the market to rebound and actually make a new high for the year! We all know what happened afterwards in the months to come. So, as you can see, the market never makes it easy for the bears especially since most bears out there using ST trading tactics which makes them either get stopped out on the rallies for losses or cover far too early on the declines.
I’ve been LT bullish since the summer of 2009 and I turned ST bearish this summer expecting a consolidation with mild to moderate downside and exited positions substantially accordingly. At the time I thought I was playing a dangerous game doing this because I was trying to avoid ST weakness in the context of what I still believed was a LT uptrend and when you do that you run the high risk of being left of the side lines as the market goes up without out you. Lucky for me the prudence payed off. As things have been unfolding I find myself becoming more bearish for the intermediate term (2-6 months) and perhaps long term. Economic fundamentals are rolling over while policy makers are making mistakes (in my view). The similarities between subprime housing and subprime Europe are quite eerie. You might be saying “what about all of the talk you were saying about how skeptical and pessimistic people were througout the bull market which meant it still had a ways to go?” Well, all I can say is that sentiment is only one aspect of the equation and it has it’s limitations. During the bull market we had negative sentiment in the context of improving fundamentals (earnings and credit conditions) – that’s when contrary theory works best. But when you have pessimism in the context of deteriorating fundamentals it doesn’t work nearly as well because pessimism is justified….at best it can result in temporary rallies when it gets acute.
The bottom line is that I believe the foundation for a bull market advance is no longer there. I wouldn’t call myself a full fledged bear yet but I’m on their side in the intermediate term. In the ST, it wouldn’t surprise me to see the market go higher still because bears have been too aggressive betting against the market, but I don’t say that with the confidence I had last week when bears were piling in because the market was ST oversold wheres now it’s not.
Sep 202011
Over the past decade investors have quietly made a big change in the way they buy companies.
Just over a decade ago people clamored for companies with light speed growth, justifying valuations for unprofitable companies with new metrics like clicks and eyeballs.
Nobody knew how these businesses would ever make money, never mind repay shareholders, but somehow everyone “knew” dot-com companies were the way of the future. This was a time when nobody (except classic investors like Warren Buffett) talked about earnings or dividends.
One dot-com crash later the world is a different place. Maybe it’s the need to pay for retirement, maybe it’s the want for something tangible, but, unlike during the tech bubble, investors today seek yield. And the current market decline has produced some juicy dividend yields for some DJIA components:
• AT&T, Inc (T): 6.02%
• Verizon Communications Inc. (VZ): 5.51%
• Merck & Co. Inc (MRK): 4.71%
• Pfizer Inc (PFE): 4.43%
• Intel Corporation (INTC): 3.83%
• General Electric Co. (GE): 3.71%
Many of my readers have asked why investing strategists such as
Don Coxe and David Rosenberg believe in dividend yields. If you’re wondering too, here are just 5 of the many reasons to love dividends:
1. Bird in the Hand Theory
Finance theory (Modigliani – Miller) states that before taxes and transaction costs, investors should be indifferent to whether a company pays a dividend or not. In theory the total returns for two equivalent companies, one that pays dividends and one that does not, should be equal. In reality, even if tax rates and transaction costs make no difference, many investors prefer a known, cash-in-hand (after all, a capital gain isn’t real until a stock is sold) return to something less tangible.
2. Management “Discipline”
Like interest on debt, dividend payments on equity capital enforce a degree of discipline on company management. While dividends are theoretically discretionary, managers are extremely reluctant to cut them because a dividend cut, barring widespread economic chaos, broadcasts management failure. Because of this attitude towards dividend cuts, managers work hard to ensure that cash-flow exists to cover dividends. This means that management must pay particular attention to profitability and return on business investment.
In my opinion, this is the most debatable reason to invest in dividend paying companies. Corporate executives have any number of tricks to cook the books and shuffle money to cover dividends (over the short term at least). Moreover, as we’ve seen with many dividend paying financial companies during the market crash, the longevity of dividend policy is only as good as the longevity of the company’s business model. In other words, a business model that may provide profit and a good return on business investment today may actually do so to the detriment of profitability and return on investment in the future.
3. Signals from Insiders
Given the amount of discipline needed to maintain dividends, corporate management will only raise dividends when they are very confident about the future. In many respects, a dividend increase signals to the world positive news that corporate insiders may not be able to divulge.
The reverse is also true. If a company’s management hasn’t raised dividends for a while, why not? What do they know that isn’t being disclosed to the public?
4. Raw Outperformance
There are a number of research studies that show dividend paying stocks outperform non-dividend paying stocks (Ned Davis Research). Research also suggests that, despite conventional wisdom, companies with high payout ratios grow earnings faster than companies with low payout ratios (Rob Arnott, Research Affiliates LLC). While these studies don’t necessarily forecast the future, they do provide some comfort for the dividend investor by providing quantitative validation of the strategy.
5. Get Paid to Wait
Let’s face it, investors can get eager and buy a stock too early. If someone buys a dividend paying stock and it declines in price, a regular dividend helps ease the pain while the investor waits for the price to recover. In fact, many investors buy dividend stocks with the mentality that they are buying a long-term cash flow stream, and don’t necessarily ever intend to take back their original capital investment.
For more dividend ideas, take a look at this: 3 Cheap, High Yield Big Oil Stocks
Sep 152011
On investing:
I don’t invest in the stock market because I think it’s a sucker’s game. I make my money and I put it in a repository [of value]. Or sometimes I just do these bets for entertainment, nothing else, so I can have a conversation with someone once in a while on a train or on a plane.
On negative investing:
Cash gives you an option when other people go bust. That’s what Kennedy did. Joe Kennedy, the father, got rich not from investments but from negative investments. In other words, he had no investment when other people were busted.
On doing nothing as a strategy:
There’s something called action bias. People think that doing something is necessary.
Aug 122011
For long-term investors there are lots of opportunities for bottom-fishing out there. Also, there are opportunities to trade a multi-session bounce. But I agree that it’s a great idea to keep lots of cash on hand in case things get worse…
A fantastic and timely guest post by nodice of Bulls, Bears and Pigs, on how he is trading this ugly market (talk to your financial advisor before making any investing decisions):
Just when you think you saw it all. Wow! There’s no way to sugar coat Monday’s action. Ugly to the last second and a close at the LOD suggests ultimately, we’re not done yet bounce or no bounce. Regardless, this sell-off is getting asinine and at yesterday’s close we were as oversold as we were in early October of 2008 which was where the market made a bottom. It wasn’t the ultimate bottom mind you…but .it was one of the 3 series of bottoms that marked the ultimate low of the bear market.
As of Monday’s close only 6.6% of stocks in the SPX is trading above the 200 DMA, while 0.2% is trading above the 50 DMA and 0% above the 20 DMA! Stats like this all occurred near the depths of the bear market of 2008. The ST trading oscillator I keep tabs on hit -1412. During the crash of 2008 the lowest it ever got was about -1520.
Let’s try to look at this objectively. Yes, this crash is similar to the panic of 2008 in terms of the oversold readings we are getting but let’s remember this….the above stats are what you see in the bottoming process not the topping process or first down leg in a new bear market. Also, prior to the crash of 2008, the market trend, along with fundamentals i.e. earnings and credit quality conditions were already in deterioration for several months whereas this time around they weren’t, not to mention that there was nothing close in the way of optimism on main street and the retail investor prior to this crash….they were still pessimistic. That to me makes me quite skeptical to believe this is a new bear market but if there’s one thing I’ve learned over the years is to respect the market when it’s not agreeing with you and I was fortunate enough to detect danger in June when I noticed the market was showing a change in character and significantly reduced exposure in the weeks that followed. I said this before…..respect the market or it will beat it out of you. Discipline (prudence) must trump conviction. If you have a thesis about the market, only act boldly when it’s agreeing with you. When it’s not, it means you are either early or wrong, so step aside.
The market right now is saying that I stand a reasonable chance of being wrong….but it could also just be correction, albeit a severe one within an ongoing bull market to clean out the weak hands and test the conviction of bulls. If you’re still LT bullish and have doubts that’s a good thing….that’s what corrections are supposed to do…they are supposed to humble you and make you sweat. I’m sure many who were bullish last summer had strong doubts too…I know I did and I’m having them now again. There’s a lot of calls for a new recession and new bear market and again, that’s what corrections are supposed to do. Anyone who traded the bear market from 2000-2002 would have experienced the same thing but in reverse…strong rallies gave hope to everyone that worst was over and made bears sweat or capitulate.
So, in conclusion I reiterate was I’ve been saying lately. I doubt it’s a new bear market but I’m respectful of market action telling me that it could be and I need to see evidence of a LT bottom first before getting aggressive on the long side. Cherry picking some names you have on you watch list that are showing ridiculous selling is warranted but keep powder dry. Throughout the history of panics and crashes triggered by financial fears (not exogenous events like 911 or Japan earthquake) it took at least 2 months of base building before the market was ready to take off again in a sustainable way. Therefore, if you wait it out, you’ll likely still have plenty of opportunity to get in at good prices. You may not be buying at the ultimate bottom but you’ll still make good money and with the wind at your back you’ll do it much easier, less likely to get whipsawed.
Most people lose in this game because they obsess too much about the day to day. They trade every day or every week thinking they can catch every little wiggle in the market. A lot these people try to be smart asses by zigging when the market zags making a dime here and there. That’s a losers game. Eventually they either miss out big time or get ran over when the market makes a big move. In fact, I can tell that a lot of bears who got crushed shorting the market for 2+ years either didn’t capitalize on this crash covering way too soon and/or got ran over being a smart ass playing for a bounce that never happened last week and the week before. This is exactly what happened in 2008 as well.
Days like today will make you think “Damn, I wish I would have loaded up the boat on Monday’s close”. That’s a gambler’s mentality. Gamblers are always attracted in trying to pick tops and bottoms and catching all the day to day moves. If I had to give just a few pieces of advice when it comes to investing/trading successfully it would be this….stop obsessing about the day to day and focus on the bigger picture. Only take a position when the wind is at your back which implies no bottom or top picking no matter how tempting…I know, it’s difficult to resist picking tops and bottoms. I’ve been trading full time since 2009 and my success thus far is largely attributed by strictly following this principle. The exception I have to this rule is when there is a blow-off panic or mania. In that case, bottom or top picking is permitted but only with a very limited amount of capital (so you can be a strong holder)….no aggressive bets are permitted until you have the wind at your back and are showing a profit with your initial entry.
Take a look at the trade I was considering with TLT about a month ago to see a perfect example of what I’m talking about. In early July there was a pullback in TLT in what appeared to be a new uptrend. That’s the sort to opportunities I look for….pullbacks/consolidations in emerging up trends (not mature ones). These are the sort of “sweet spot”, premium opportunities you should be looking for but they don’t come around every day. You may have to wait several weeks or even months for them while twiddling your thumbs all day and that be can difficult…the temptation to do make something out of nothing is always high because you feel you have to make money every week/month. More often than not that will backfire.
Do you notice a theme here? To be success at this game you have to do difficult things. I suppose that could be a life lesson a well.
I think the gap will have to close once the risk premium in equities stops expanding. But according to Frank Barbera, that might not happen for some time:
With the astonishing recent price rise in gold, many investors are asking themselves: is now the time to move capital into mining stocks?
Frank Barbera, respected precious metal mining stock expert and editor of the Gold Stock Technician newsletter, has a viewpoint that will likely surprise many. While extremely bullish in the longer term, Frank sees too many risks in the near term and advises smart money to wait.
Play the podcast
Read the transcript
Jul 282011
If you’re in the same camp as David Rosenberg and Gary Shilling you believe that the economy is in the throes of a deflationary cycle.
Whether or not I agree is irrelevant to this article. However I’d like to point a critical flaw in the deflationist’s investment strategy.
A deflationary economy will cause bonds to rally. This is because the present value of future payments rises with the purchasing power of a dollar. The purchasing power of a dollar rises if prices fall. This is true of the first effects of a deflationary spiral, and at this point the logical strategy is to own long-term government bonds.
It’s the second round effects that most deflationists fail to fathom – this is where the long term government bond strategy fails. If the economy was truly gripped by deflation, the banking system would collapse, risk assets would plummet, businesses would fail and millions would be added to the unemployment lines. (Debating whether these are the causes or effects of deflation is as fruitful as tracing the egg-to-chicken-to-egg.) The point is that if deflation grips the economy, business activity will plummet.
As business activity falls, government tax revenues drop and spending (to stimulate the economy) rises. Consequently, one might find that a deflationary episode increases budget deficits and, for an already indebted country like the United States, the risk of default. As default risk rises interest rates rise to compensate bond investors for the additional risk. As interest rates rise, bond prices fall.
So you can see how the typical deflationist strategy of investing in long-term goverment bonds could become an investing nightmare. Always watch for the secondary and tertiary effects of a trend, particularly when an economy, like the US today, is operating somewhere outside of its ‘normal’ state.
Jul 152011
The smartest man in Europe…
On US Debt:
“The United States is destroying its currency. You cannot keep borrowing from abroad at the rate you are doing it and expect the dollar to maintain its value. America has been living beyond its means for a long time. Most people think that means that consumers have been spending too much and borrowing to do it, but that’s not what bothers me. The government has been spending seriously beyond its means. It has 150 military bases around the world and is involved in three wars. How does that make sense when you are running a deficit of $1.5 trillion?”
On his investment portfolio:
“Right now my portfolio is invested in gold and Swiss francs. Every once in a while a special situation appears that interests me. Last year I made a real estate investment in Baghdad. I remember the look in your face when I told you about it. After I had owned the property for less than a year, the Iraqi government wanted to buy it and I got out with almost a 100% profit. I like to seek opportunity in places everyone else is avoiding.”
On India, Brazil, Africa and Mongolia:
“I am also positive on India. Everything is going forward there also. They are a low-cost producer with plenty of momentum, but that doesn’t mean that the stock market will rise. I think direct investments in private companies may do better. I am also positive on the long-term prospects for Brazil. Many proven investors outside of Europe and the United States are buying in Africa. Mongolia, with three million people, has vast resources in copper and coal. Corruption is part of the way of life there, but remember, until about 1920, corruption was part of the way of life in America.”
Source: Blackstone
Here’s a great article suggesting why many professional investors fail to beat the markets, by investing guru Joel Greenblatt, founder of Gotham Capaital:
The returns from a portfolio of only 10 or 20 stocks can vary widely from the returns of a market index that contains a portfolio of 500 or 1,000 stocks. As you might expect (and, a portfolio of hundreds of large-capitalization stocks will usually do pretty average. A portfolio of 10 or 20 favorite picks has the chance to do well above average. But, unfortunately, it also has the chance to do well below average. Even a very talented manager who makes excellent stock picks over the long term can trail the market averages for years at a time. In fact, this is almost a certainty with a concentrated portfolio.
Yet the reality is that a manager who significantly underperforms the market averages for two or three years has a good chance of losing most of his or her investors. Most investors just can’t figure out which managers fall behind the market averages because of bad luck or bad timing and which managers fall behind due to a poor investment process and a lack of talent. Most don’t wait around to figure out which is which. They just turn and run! And no investors means no business! Over the long term, managing a concentrated portfolio may be a great way to beat the market averages, but over shorter time horizons it’s also a great way to risk your business and your career. As a result, only a few brave souls choose this route in the mutual fund world. It’s just much safer for most managers to buy a widely diversified portfolio of many stocks that are more likely to closely mirror the major market averages and much less likely to fall significantly behind. In other words, most mutual fund managers are effectively shut out from their best chances to beat the market.
Einhorn on reading between the lines:
I’m going to lead off with what I think is the macro quote of the year. It comes from Luxembourg Prime Minister, and head of eurozone group of finance ministers, Jean-Claude Juncker who said last month,
“When it becomes serious you have to lie.”
Now when I read this flashing light directive to buy more gold, it struck me that Juncker’s comment is probably about as honest as anything we’ve heard from a politician since the economic crisis began. Juncker, who is one of the currency union’s key spokesmen, explained that lying was needed in order to avoid fueling speculation in financial markets.
So apparently authorities believe that spreading knowingly false information with the intent of manipulating asset prices is acceptable behavior, when it is done by the authorities and the matter is deemed serious. Seriously!
This just confirms the view that whenever someone in charge of economic policy insists that everything is okay, one should question if their sincerity is akin to that of the cockpit crew in the movie Airplane!
Here’s the full transcript, which includes tons of investing ideas.
