Is risk lower now?

I have been warning for some time that winter was coming in the stock market and warning that that risk is high even as recently as this week.

Now that we got a big rally on Tuesday and the Canadian dollar soared today, has risk been lowered?

I am not sure yet. The ability of the S&P and Dow in recent days to stay above the October 10th lows (S&P 839) must be respected. Normally, if the market is truly going lower, it will fall right through the key level. The bears tried for about 2 1/2 weeks and it did not. I was actually quite short at the start of the day Tuesday, but I covered almost all of those positions around 2pm when I saw the S&P rally through a key level 882. I was fortunate as once the market got through that level, it was one of the biggest up days ever as the S&P finished at 940 (up 11%). I also switched a lot of US cash to Canadian cash late Tuesday and a little this morning as the dollar rallied about 5 cents from 77 to 82.

Now what happens? It could go either way, in my opinion.

Longer term, I remain confident that we are still in a bear market. That does not preclude a multi-week or multi-month 15-20% rally (half in one day?) especially since we were at record oversold levels prior to yesterday's rally.

Shorter term, I still believe that there is risk. As mentioned, there is risk here until well in to November. Also, to make me bullish, the market first needs to close above today's high (970), then above a bunch of levels in the upper 900s/low 1000s. If we get to those levels, and the internals look good, I will be on board for at least a bear market rally. I acknowledge that I will have forfeited some nice gains from yesterday's low, but that will be a small price to pay for preserving capital in one of the worst bear markets of all-time (thus far).

I also suspect that if the market can hold these gains for two more days, then it will be November. Then the bulls will be able to claim that a classic October bottom was made and the central bankers were able to preserve the system. And that bullish may lead to a risk of at least another retest of 840. If said retest fails, look out below (S&P 777 or 738 or gasp 662?).

I will keep you posted on my thinking. For now, I am mostly in Canadian dollar cash and I did a little nibbling on some gold stocks today. I could change my mind at any time and if I feel that this rally will peter out like the ones from mid October, then I may go heavily short again.

The Fed to cut this week (yawn)

The Fed is going to cut again on Wednesday.

1) How much?: I think 50 is likely but the market is hoping for 75. If we crash between now and Wednesday, clearly the Fed will cut more than 50.

2) Is there a joint cut this time? I don't think so. I talked about it a lot last time, but I don't think so since it didn't seem to have a big impact and since it would seem a little overdone doing it twice in a month. If we crash between now and Wednesday, then I would expect a joint cut.

3) Does anyone still believe that after going from 5.25% to 1.50%, that a 0.75% or 1.00% Fed funds is going to really make a difference? Sadly, there are probably some uberbulls out there who do, but I think the "Fed will save us thing" is so March 2008...

Risk remains very, very high, especially if we decisively break S&P 839....

Addendum (Oct 29th): Answers 1) 50 was right. 2) No joint cut was right 3) Still too early but market rallied then sold off post 2:15 rate cut announcement.

Back in the Bear Camp

Last Tuesday I wrote the following:

For the time being, I will wait and see. My gut tells me that the lows of this bear have not been made yet, but I are trying to remain open minded here. There is still a lot of near-term risk here and a retest of Friday's low is likely over the next few weeks or months. Any substantial take out of those lows would likely lead to a test of the 2002 lows. If those lows are taken out, another crash (THE crash?) would likely ensue...

After I wrote that (at S&P 998), we basically sold off like crazy (S&P 865) and then rallied (S&P 985) and now we are at S&P 897, below where we were at the close of that horrible Friday Oct 10th (intraday low was 840).

I have become bearish once again late last week and have acted accordingly over the past few days. Today's declaration of a currency crunch is only adding fuel to the fire. I have bought SPY puts and am putting a few shorts on again. I did not like most of the "bullish" action of late (with the exception of Thursday, Oct 16). Given the 45% drop in the S&P thus far, I would have expected more than the crummy volume on the rallies.

The strength in the US dollar and Japanese Yen (I hold both), the lack of consistent up days and other indicators that I look at (Lowry's technical service among others) are not yet showing a convincing bull case.

For some "voodoo", we are currently smack dab in the middle of WD Gann's 49 to 55 day death zone (look it up ; 1987 and 1929 saw 55 calendar day crashes) until Monday, October 27th. In addition, there are a variety of important dates after that that go well in to mid-November that give any of my bullish impulses pause here. (I give thanks to legendary trader Jeff Cooper at Minyanville.com for educating me about the importance of time and price).

I am loath to give a downside targets here as the volatility and the crosscurrents are enormous. However, I will say that it appears that we are heading for a test of that 840 Oct 10th level and if that doesn't hold the 777 level from 2002 comes back in to focus.

As I stated in the post from Oct 14:

If those lows are taken out, another crash (THE crash?) would likely ensue...

THE crash may not have been the early October version. We may be in a series of crashes or heading for THE crash. The good news? The time for this to likely happen is between now and mid November. Therefore, a bottom (perhaps but not necessarily THE bottom) is near in time.
The bad news? We are dealing with systemic risk where sellers simply swamp buyers and stocks can fall to unfathomable levels. The bottom in terms of price may not be near.

The most likely scenario is a test/undercut of either 777 or 840, but even the late 1994 levels of 450 are a possibility if systemic risk rears its ugly head via a 1987 style 1 day crash.

We are trying to deleverage 18-25 years of credit excesses in 18-25 months. As I have been preaching, this is not a garden variety bear market, as we all now know. This has been the fastest -45% fall in the S&P in the post WWII era. While most severe bears end at around -49%, the speed of the -45% decline (1 year) is possible proof that this one will be even worse. In addition, the unprecedented credit boom/housing bubble/derivative bubble and now a global intervention bubble make this very difficult to forecast.

In summary, we are at a very, very difficult juncture in economic and political history that our children and grandchildren will read about. Risk remains very, very high here.

It's official: Currency Crunch 2008

I warned 2 weeks ago that a currency crisis could happen. It is now official! The loonie dropped below 80 cents this morning, and most currencies except the US dollar and Yen are sinking.

On September 25th, I was furiously buying US dollars at 96 cents and warning that the loonie could fall to 85 cents. I thought that I was being pessimistic!

Then on October 9th, as we broke below 85 cents, I warned that the loonie could go to 80 cents. I hate getting more bearish as things go lower, but one must adjust his/her views to take into account market realities.

I sold most of my US dollars in mid October (at 84-87), but I have been buying them back at around 83-84 as I saw the 80 cent target coming back in to play.

Now, if the market crashes, I think the loonie is going to go a lot lower. There are some support levels around 78.5 and then a bunch between 72 and 76. Any of these are fair game in a panic.

Does this currency crisis morph into something like in 1997/98? No idea, as this is beyond my comfort zone. Only thing I know is that in this environment, anything is possible. As Mohamed El-Erian of PIMCO said in September: The unthinkable is now thinkable.

Risk remains very high here despite the 40% bear to date.

Harper and deficits

I tried to warn readers a long time ago about a Tory government and the return of deficits.

First of all, I was wrong about some things in that post. I speculated that the return of deficits could spell the end of PM Harper. Clearly, that wasn't the case and while the possible return of deficits was discussed in the campaign, it was not a big factor in this election. Instead, a related issue, the financial turmoil, was a big factor and the Liberals were not able to capitalize. The financial turmoil will lead to deficits but that is an issue for the next election, not this past one.

Second of all, it appears that a deficit is not in the cards for 2008/09, at least based on Harper's recent statement. There is a likely a lag on revenues from the recession and it appears that there were enough buffers and one-time gains to keep us in surplus for 2008/09.

However, barring major changes to spending, it appears that Canada is headed for a deficit in 2009/10. While the financial turmoil and recession are partly to blame, the Liberals and Tories are also partly to blame.

A little history

The Liberals, especially in the later Chretien years and under PM Martin, ramped up spending like crazy. Some of the spending was due to needs neglected in the belt-tightening 90s. The Martin PM years were mostly runaway spending years with relatively small income and corporate tax cuts. Then, along came PM Harper with big GST cuts, more corporate tax cuts, targeted income tax credits and more runaway spending.

I believe that the income tax and corporate tax cuts were smart but that the GST cuts were a huge mistake. I also think that both Martin and Harper overspent. The GST cuts totalled $12B and were the wrong type of stimulus (encouraging spending when the consumer was already overspending) at the wrong time (the economy was already hot). If Harper had avoided the GST cuts and held spending down, we may have had a $20 billion buffer.

2000 Buffer
In 2000, Canada had a huge buffer ($20 billion plus). Finance Minister Martin's massive (and well timed as luck would have it) 2000 tax cuts helped keep Canada out of a recession. Martin was probably lucky because he cut them in a special election budget that was called just as the economy was starting to sink, and in response to an aggressive tax cut proposed by the Canadian Alliance platform. Super shrewd PM Chretien probably saw tougher economic times coming in calling for an election in October 2000, but few saw a recession back in October 2000.

2009 No buffer
Instead, Harper now has to either cut spending (a sound long term decision) or raise taxes (unlikely) at precisely the wrong time as it may further hurt the economy in the short term. If Harper had a buffer, he could have cut income taxes to stimulate the economy. Harper also has to do this in a minority government.


Conclusion
At this point, big deficits are coming due to the fact that we are entering a severe recession. In such a recession, given our current budgetary situation, I would choose to run a deficit as cutting spending severely would likely make things worse. I would wait until the recovery (as the Liberals did in 1995- again lucky as they only got elected in 1993) to make huge spending cuts.

Notice how the Big Bank economists only starting talking about issues like recessions and deficits this past month, when this blog has been talking about this since last winter!

More CREA spin and new numbers

So what does CREA now say:

"Informed buyers and informed sellers look at the facts. And the facts right now indicate the real estate resale market is stabilizing in many markets," says Calvin Lindberg, the President of The Canadian Real Estate Association.

Hmmm, I guess sinking is the NEW stabilizing...

It gets better according to CREA per a recent Toronto Star article

"With the sales activity now beginning to slow from its breakneck pace last year, it's taking homes much longer to sell and since people are under no distress to sell, they'll take it off the market and put it on the market on a better day," Klump said in an interview.

"With fewer sales and fewer listings, it's a built-in stabilizer as far as the extent to which you can expect to see prices to decline."

1) So now they are pointing to the slight decrease in new listings in recent months as a sign that the market is stabilizing. This could be transient as sellers do what Klump describes above (take it off the market for a better day). What happens when they realize that the better day is not coming? New listings are going to pick up as the economy tanks and all those foreclosures kick in. And even if new listings don't pick up, I would expect sales to dry up as buyers become more selective and more patient and financing becomes much, much tougher.

2) A better day: When would that be? Houses have doubled or tripled already. It is possible that on an inflation adjusted basis, that houses may never get this high again?

What should they really say if they were forced to adopt a Jim Carrey Liar, Liar tone: "If you have a house to sell, sell it soon before prices plummet! If you want to buy, just wait as there will be bargains in the coming years, assuming that you can get financing. The end of 2008 and 2009 will be a disaster for home prices!".

CREA also trots out a new data series that shows that the weighted average price was -0.6% if you use existing private housing stock to weight the data. This is because activity in the hottest markets (Calgary, Edmonton and Vancouver) are bringing the reported number down to -6.2%. This new number has the same trend (down) and while it may lag for now, I'm sure it will catch up eventually as all markets are going to be going a lot lower. I would guess that Toronto, Montreal and Ottawa have a higher weighting in the new number and since they have held up relatively well vs the Western big cities, this leads to a lower number.

Expect CREA to emphasize the new numbers as it tries its spin. Hey CREA, what happened to the average price will be up 5% in 2009 that you put out a few months ago. Notice that they have not updated their number? Maybe they will try to use their new number to say that they met their forecast. I asked back then if they were just making this stuff up. They just made up a new way of reporting their number.

Answering an excellent comment

I receive many excellent comments which I always enjoy reading. An excellent comment by Chris, in response to my recent posting on recent mistakes, required a response in a post:

Just a thought here: Perhaps a narrower focus on fewer trading vehicles would benefit you.

I am not currently a trader, but did try a couple years ago at swing trading while trying to maintain a day job during market hours. I found it impossible to do because I hyper analysed every facet of an index/etf etc. trying to maximize my profit while cutting risk. The point you make about imperfect hedging reminds me a lot about of techniques I tried.

Anyway, if I was going to take a stab at it again, which I hope to do some day, I would want to focus on three vehicles: outright index futures, sectoral ETF paired trades, and reasonably straight forward option spread strategies.

It just seemed to me from reading the post that you maybe were losing sight of the goal which is to make money, rather than be perfectly right on how things move.

I hope you interpret this more as empathising rather than criticizing. Thanks for the blog.

Chris
Vancouver

Chris, thank you so much for the post and I do not take it as criticism.

Thankfully, I am up quite nicely in this vicious bear market, albeit not as much as I should be.

My first goal (and easily the most important) in a bear market is: Capital preservation

My second goal in a bear market is to make some money. Goal #2 can sometimes conflict with Goal #1 and therefore, it is important for me to follow the motto "Discipline over conviction" that I have learned from supertrader Todd Harrison over at Minyanville.com.

(By the way, these goals were developed in reaction to my experience in the 2000/02 bear market, but that is another story for another time that I will try to share one day. Suffice to say, I believe I have learned my lesson.)

This second goal has caused the mistakes mentioned but more importantly, it has also kept me from getting killed in the bull stampedes that result in a bear market (such as Monday's 11% gain on the Dow; TSX 18% gain Tuesday morning). I try to not allow positions to go against me double digits, although I do allow a little more risk tolerance for deeply held convinctions for long term positions (such as shorting financials in Sept 2007- I was early by a month or so and watched the position go against me by about 20% as Bernanke cut rates).

In this post, I illustrated these mistakes partly for therapeutic reasons as this market is tough with 9-10% intraday swings. Many pros that are leagues ahead of me in trading skills are finding this market the toughest of their lives. The other reason was that I wanted the reader to understand that I am not always right. I have many posts where I "brag" about a good prediction. This year, my predictions have been fairly accurate but that has not and will not always be the case.

I do agree with Chris that especially if this is not your full-time vocation, that a narrower focus on fewer trading vehicles is good, and I have been and will continue to try to keep this focus. The only problem with too narrow a focus is the lack of diversification and potentially greater risk. I have tried to cut the number of positions, but as you can probably tell from my blog, I have many ideas/predictions and it hurts me to see things go according to plan without being on board (case in point: Oil is now at $70). He also makes smart mention of imperfect hedging and I will try to heed the lessons of my HGD "mistake", which has been recently compounded by selling HGD on Wednesday ahead of its 20% rise on Thursday-Friday.

I made mistakes as mentioned in the post. I did not mention the successes which have been holding some of my cash in US dollars and some timely puts on C, MBI, MER and AIG back in August.

Toronto & the end of Overprime

Lots to address in the latest release from CREA...

1) First Toronto
Toronto is easily Canada's largest city and much of the English Canadian media is based there. It is the financial capital of Canada and it where most of the financial industry is located. The area around the GTA (if you include Hamilton, Oshawa, etc..) represents over 20% of Canada's population. Toronto matters. As I mentioned before, the negative housing articles will really pick up steam once Toronto goes negative. (While I am a Montrealer, unlike most Montrealers, I have no axe to grind with Toronto and I even lived there for almost four years.)

Toronto was down 3% YoY, a sharp decline over previous months. Conveniently, CREA chose to ignore that news in its press release. Nation was down 6.2% YoY.

Let's update a little summary that I prepared a few months ago:

Let's start from West to East with all cities over 1 million:

1) Vancouver: Down 8%

2) Calgary: Down 6%

3) Edmonton: Down 6%

4) Toronto: Down 3%

5) Ottawa: Did not see the number

6) Montreal: Up 4% (down from 6% in August)

I also wrote 2 months ago:

I would expect to see Calgary, Edmonton, Vancouver and Toronto all negative by October latest.

This was accomplished in September.

CREA always keeps talking about how most markets are up. In June, it was 21 of 25. In July it was 20 of 25. Now it is 17 of 25. This is meaningless in the big picture. 4 of the top 6 markets, and all 5 of the most expensive markets (Vancouver, Victoria, Calgary, Edmonton and Toronto) are all negative and sinking fast.

2) October 15th

Today is October 15th: No more 40 year amortizations. No more 0% down. Overprime Lite begins today. CREA even reports that activity picked up in September (favoring the sellers as buyers bought ahead of October 15th). This means that the Q4 numbers are going to stink, especially when you throw the sinking stock and credit markets in to the equation.

3) Update to the lag

I mentioned that Canada was lagging the US by about 1 to 1.5 years using an apples to oranges comparison. Using that same comparison, Canada is now where the US was back in September 2007. Since I know that it is apples to oranges, it is likely that this lag is probably a little greater. The US had more foreclosures in September 2007 than Canada does today, but part of it may be that CREA's data is different than Case-Schiller, and part of it is that Canada's housing market is imploding faster than the US did and that foreclosures are likely to skyrocket in the coming months.

4) My new predictions

My prediction of 6 to 9% down by year end has already been accomplished. Look for the lower end of the range (-9%).

I don't have a number yet for 2009 but I would expect it to be worse than 2008 and in the negative double digits.

After the crash...

Since we officially crashed into Friday (and subsequently rallied almost 2,000 Dow points), now what?

I will have more comments in future days, but for now, it is wait and see. The 11% rally on Monday is actually typical of a bear market rally, but given the fact that we took off 45% in 1 year (and 18% in 1 week), a substantial bear market rally or even a new bull market can not be ruled out. I will wait for volume to pick up, leaders to show up, and selling (forced liquidation) to dry up, among other things.

For the time being, I will wait and see. My gut tells me that the lows of this bear have not been made yet, but I are trying to open minded here. There is still a lot of near-term risk here and a retest of Friday's low is likely over the next few weeks or months. Any substantial take out of those lows would likely lead to a test of the 2002 lows. If those lows are taken out, another crash (THE crash?) would likely ensue...

In a bear market, no one makes money?

I have always heard this expression. Bulls clearly lose in a bull market, but shouldn't bears make money as well. Yes and no. Shorting in bear market can be treacherous.

Why?

• The biggest one-day rallies in history have come in the 1930s (Dow) and 2000s (Nasdaq). If you are short, you have to have a strong stomach. Recent example was the short squeeze manipulated by Paulson & Co on Sept 18 & 19 (1000 Dow points in about 8 hours of trading).
• Vicious multi-month bear market rallies that can find 20% rallies in a few months (example Sept 2001-January 2002)
• Now, a non-level playing field where you are basically betting against the government.
• As such, you have to time things really well
  

As I originally wrote in August, the S&P was going to the upper 1000 range. Then last month, I suggested upper 900s. Very recently, I even suggested that a crash was possible.

Mistake #1 (20/20 hindsight): You would think then that I would be making a lot of money shorting? Nope. Due to the Sept 18/19 fiasco where I was very short, I got nervous and reduced those positions for modest gains (around 1200 S&P)

Mistake #2 (20/20 hindsight): The one position that I held until Monday (SKF Ultrashort Financials). I sold it for a modest gain as it is heavily weighted in the big banks which until recent days had held up well. I knew that they would fall eventually, but in suspecting a big rally day was coming, I booted them. Since Tuesday to today, SKF is now up 40% without me.

Mistake #3:I have been bearish on commodities. Am I making money on this? Barely, as I have covered my short positions way too quickly and I have gone very small on these positions.

Mistake #4: I hedged a gold mutual fund position with HGD. What happened? Everything was working perfectly until Wednesday, when HGD was down 35% and the underlying mutual fund was only up 6%. Imperfect hedging...

Mistake #5: Then I thought that after the worst start to any month EVER, that we were due for a big bounce before either going lower or testing the lows. I took a few small long positions (10% of the portfolio) and in most cases, I got stopped out for a loss. However, I made the mistake of hanging on too long to a long position that I put on yesterday at S&P 1020 (thinking that we were going off to the races; compounding that, there were delays by TD Waterhouse reporting the fill so I only realized that I got filled a few minutes before yesterday's horrible close). I got stopped out on 50% today but I am still stuck with a small losing position.

To be short throughout this, you are either an incredible trader/investor (almost all the ones that I know are in cash or looking for a snapper and getting stopped out) or disregarding all rules of managing risk. To be short here would normally be hazardous as you could have an up 1000 day any time now. We are at record oversold levels. Sentiment is as bearish as can be.

Morale of the story: I have been expecting 80% of all this and I am barely making money and in some cases, losing.

I am looking forward to less volatility as this is crazy!

Credit Crunch = Currency Crunch?

I wrote this on September 29th (Cdn dollar near 96 cents; today at 87 cents):

One note about the Canadian dollar: While I have a lot of Canadian dollar cash (mostly in the CDIC insured Altamira Cashperformer), I am very bearish on the loonie here. Back in April, I saw the Canadian dollar heading to 92 to 94 cents (it was at 98 at the time). We hit 92ish 2 weeks ago and since then, we have bounced all the way back to 97! I have been buying US dollars this week.

My reasoning: This is an oversold bounce for the Canadian dollar as oil bounces and as the perception is that US finances are in shambles (they are). However, in a credit crunch, debt gets extinguished and much of the debt out there is denominated in US dollars and was used to buy real estate and lever up in commodities. As most asset classes fall (a global margin call), the US dollar will rise, as it did since mid July (while gold & commodities sold off).

I hold some US cash as I think that if we take out 92 cents, we could eventually settle at 85 cents, if we get a market meltdown this fall.

Here is a portion email that I wrote last night to a very wise friend on currencies. I have excerpted the key passage:

--- On Wed, 10/8/08, Adil Burney wrote:

From: Adil Burney
Subject: Currency crunch?
To:
Date: Wednesday, October 8, 2008, 11:06 PM

If you get a chance, look in detail at the Yen chart.

The Australian dollar (which is the symbol of the carry trade vs the yen as it had about 7% interest rates) is getting smashed (see at bottom of chart). Also, look at euro/yen.

Remembering that currency markets are bigger than the stock market, it looks as if there is serious unwinding of that trade. The Brazilian real, peso etc... are all getting killed. The Canadian dollar is suffering to a lesser extent.

This all makes sense and if you remember your lessons from currency crisis of the 90s, the money flows out of these currencies in a hurry. It is doing that now. You have to wonder if we have a currency crisis coming up again on top of the credit crunch...

Conclusion: The unthinkable is now thinkable, as PIMCO's Mohamed El-Erian has said recently. Therefore, while I predicted a mid 80 cent loonie in a market meltdown, I now don't know. We could stop here or this could morph into a true currency crisis whereby some countries will almost be forced to RAISE interest rates in this environment. Since they really can't here, I am not going to rule out a Canadian dollar at 80 cents or below. This is NOT A PREDICTION only something that could happen.

I don't want you the reader to think that I am always right. I also want to point you to my other post today where I 'fess up to mistakes I have made recently.

All the recent currency crises happened in relatively calm stock markets.

What will they create or announce tomorrow?

Let's see:

Friday: House passes Bailout (Market drops)
Monday: $900 billion in the TAFF (big increase) & pay interest on institutions' required reserve deposits (Market drops)
Tuesday: Creation of commercial paper funding facility CPFF & coordinated central bank action to increase in US dollar (Market drops)
Wednesday: Coordinated global interest rate cut (Market drops)

Maybe if they don't announce anything tomorrow, the market will rally?

Could it be Thursday?

Some thoughts:

There seems to be a lot of coordination between England and the US for the short ban last month. Notice that Canada wasn’t even involved in that initially.

Fed announces that they are going to buy commercial paper. PIMCO’s Bill Gross asked (told?) the Fed to do so yesterday in his monthly must-read newsletter. What else did he ask (tell?): set up a clearinghouse for transactions and do a 100 pt cut, preferably coordinated with other central banks. Remember he asked for a Fannie bailout (he got it) and he asked for a “new balance sheet” (ie the Treasury) to buy us out of this mess (he got that too).

Bank of Australia cut 100 today. There was no coordination but it is unlikely that Fed would want to team up with a lightweight like Australia (or Canada) here. They are going with the A team of BoE and/or ECB.

BoE is not going to go before Thursday since it is unlikely to move up its meeting barring a crash
BoE will need to cut more than the 50 expected; therefore 75 is likely (100 can’t be ruled out but it may look a little desperate).

BoC, Fed and Bank of New Zealand have meeting at the end of October (an eternity in this market). I think they join for 75 each.

ECB is the toughest call since they are inflation hawks but their meeting is in November. I think they go along for 25

Australia, which cut 100 today, could even go along for symbolism for 25 but that may be asking too much.

Summary: BoE, BoC, Fed, BoNz cut 75 on Thursday. Maybe ECB and Australia cut 25..

Addendum: Wednesday 8am (Oct 8th): Looks like it happened today! 50 pts across the board. Looks like after Black Tuesday, they couldn't wait any longer ...

Addendum #2 Wednesday night: I guess they felt that they didn't have the luxury to wait another day, although it was a horrible close (yet again)...

I have tried a few very small long positions and got stopped out. The volatility is killer. I have to remind myself to stay in cash.

Now What?

After one of the craziest days in recent times (TSX down 1000+ twice, Dow down 800; both cut losses in half), it is time to revisit previous posts with the interest not of gloating but looking forward: 1) I said this on Sept 6th after making a similar warning on Aug 8th:

Cash is king here for all but experienced investors (who can short carefully). Stay out of debt. I saw (and still see) a move to about S&P 1078-1090 (Dow 9Kish?) for this downleg which should last into November, around the time that Barack Obama (or John McCain) becomes the new President.

I added to this on Sept 25th:

I think that there is now a risk that if the market is not saved here, that we go lower than I initially thought (S&P 1080) to S&P 990. This would translate in to roughly 9000 on the Dow.

What do I think now, after we hit 1007 S&P (not quite yet 9K on the Dow): CLOSE ENOUGH FOR NOW.

Barring the low probability (but definitely a possibility here) of a full 1929 or 1987 crash, we may get a bounce. This is not a bottom call. We could still crash or we could rally huge for a few weeks or even months. Very tough to call here.

I am now almost totally in cash (sold off remaining shorts this morning; have a few puts left).

If we had a sharp rally here and certain things that I look for don't "confirm" that rally, then I would even consider shorting again. If things did "confirm", then I would get more invested.

I may even take a small (10-15%) dip in the ocean if I feel like it with tight stops.

At S&P 1007, we were about 36% off the highs. I think we ultimately go lower, but at least at 36% you have finally passed a garden variety bear market.

A severe bear market (1907, 1937, 1973, 2003, etc...) often gets you to 49%. My gut tells me that is where we are ultimately heading to 49% but that could be next week, next month, next year. Not quite sure. My gut also tells me that today was not a bottom and we go lower either in October or November but I'm not quite sure here.

Even in vicious bear markets, you often get multi-month huge bear market rallies (example September 2001 to January 2002) before making new lows. I suspect that we are getting near to a multi-month rally but first we likely have to retest 1007 (could be tomorrow, this week, this month or in Nov/Dec) and not break it.

If we retest and break, then we go to 777ish S&P (which could be via a crash).

Stay tuned...

2) Fed surprise cut

I speculated last week that it would be either on Monday or Thursday. Clearly, it was not Monday. I speculated that they want an up day first (I wrote the post when the market was up huge pre House vote on Friday). Today might have qualified since the market rallied in the last hour....Therefore, Tuesday is fair game IMHO. I would expect 75 points at least since the market already expects 50. In theory, the market should rally but some of that rally likely happened between 2:48pm and 4pm today....

Thanks for nothing

"Canada heading for recession, say economists"- CBC, October 6, 2008

Yeah, thanks for that now that the TSX is down about 30%. Until a few weeks ago, these bozos were pretty much dismissing a recession in Canada. Now it is a certainty. Thanks for the heads-up.

When I wrote this back in February, very few were even discussing this as a possibility in Canada. Decoupling and commodity super boom forever were all the rage. The credit crunch was supposedly winding down...

Pretty sad that all these economists either missed this or didn't want to say so in public. The same thing happened in the last slowdown (2001 didn't qualify as such in Canada) and probably the 1990 recession too.

When will the Fed do its "surprise" rate cut?

An open thread: When will the Fed do its "surprise" rate cut?

In Fedthink, the credit markets are frozen now and waiting until the end of the month will only hurt the economy more. In all these Bush, Paulson & Bernanke meetings, there must be intense pressure on Bernanke to cut. There is no way in my thinking that the Fed will wait until its scheduled meeting on October 28/29 to cut rates. Note that the Bank of England announces its rate cut (75 points as the market expects at least 50) next Thursday.

There is a lot of global coordination going on behind the scenes. The ECB's Trichet has been on conference calls with the US government related to this bailout (see the great NY Times article "As Credit Crisis Spiraled, Alarm Led to Action")

I think that the Fed is reluctant to use monetary policy in this way (unlike Greenspan) as they are using more direct tools to free up liquidity. However, they know that they have to break the negative psychology. To some degree, they needed the markets to go down but not crash this week to get the House to pass the bailout. Note that the bailout passage will allow the temporary shorting ban to elapse after 3 business days. Therefore, if the House passes the bill today, the ban would end Thursday morning. Hmm, timed with the Bank of England?

I think the Fed want to avoid cutting after a big down day (like this past Monday or yesterday) so they don't look panicy as they did on the SocGen bottom back in January.

If we close up on Friday on the back of a successful vote in the House, I expect the Fed to cut 50 points either Monday, probably before the open, or Thursday with the Bank of England and when the short ban expires. I would expect the discount rate to be cut 50 or even 75 points.

I also expect Bernanke to have a few other countries to join him in their cut, including Canada , England and even maybe the ECB (which laid the groundwork for a cut yesterday).

Ultimately, I don't think this really matters or works since all the Fed Funds rate does is control the very short end of the government T-Bill market, which is already at near zero rates. The rest of the bond market is where the trouble is, and this will do nothing to help that except a psychologic 1 or 2 day boost. If rates at 2% are not working, I doubt 1 or 1.5% rates will make a big difference.

What say ye? Please give your thoughts....

Warning on Potash, Encana and RIM

TSX down 800 to below 11K today as Potash got annihilated. Last week it was RIM getting annihilated.

While I feel horror and sympathy for anyone heavily invested in the TSX or other markets, I wrote these words back on May 13 (as the TSX hit a new high) to try to help people:

It bears repeating again: Just recognize that the TSX is not a very diversified index. 75% of the TSX in 3 groups (mining, oils and financials). There are 3 mega cap stocks in Toronto (Encana, Potash and Research in Motion). We all remember what happened to the TSX (TSE back then) in the Nortel crash. This could be similar...

Say we get a 30% hit to energy/materials and 20% hit to the financials everything else, that would be an 11,000 TSX (25% off)

These are not outlandish scenarios in my book. If we get a typical 30% bear in the US and the commodity bubble bursts, I would expect the TSX to at least test the 11,000 level.

Keep these things in mind as we hit a new record...

I think we still go lower but please remember this the next time we have a boom and the TSX chart looks like the Eiffel Tower.

The TSX is not diversified and will probably never be diversified (in that it is unlikely to have high weightings in pharma, retail and consumer goods and not be dominated by more than a few megacaps). It was Nortel and a bear market in 2000, it is RIM, POT and ECA and a bear market in 2007.

Please remember this the next time that experts (Jeff Rubin) are touting that Canada has decoupled (and TSX 16,000 and $200 oil) in the midst of an obvious US recession.

I know what it is like to be on the imploding side of a bubble. I invested heavily (not big dollars since I was starting my career) from 1996 to 1999 in technology. I made fantastic returns but gave all those gains back in 2000-2001. I even saw overvaluation (calling it a bubble but not fully understanding what that meant) in early 2000 and raised cash, but I got back in too early in late 2000 and stupidly on margin.

Since then, I have tried to learn about bubbles. When bubbles burst, they often do a round-trip (ie return to the levels that the bubble started) or more. Potash at $100 has arguably not done a round-trip (it depends where you decide that the bubble started). RIM and Encana probably also not a round trip. I am not using any of my cash to buy these imploding bubble stocks here as they could still go a lot lower here. These 3 stocks are back to 2007 levels. I think that they could easily go back a few more years...

Full disclosure: I was short Potash last week for a profit but I covered about $50 ago

Is there subprime in....?

I talk to many intelligent people in the Canadian financial services industry. Despite their intelligence, and this is admittedly anecdotal, I keep hearing opinions that housing in Canada (and in particular Montreal) will slow down and maybe go down a little, but nothing too serious. Why do you assume that I ask? It usually comes down to some variation of "our banks and regulations were sound and we have no subprime"

Was there subprime in the UK? Down 13% YoY

Was there subprime in Spain? Down to -0.3% YoY (supposedly understated and dropping rapidly)

Was there subprime in Ireland? Down double digits YoY (I've seen reports of -14%)

Was there subprime in New Zealand? Down single digits YoY

Was there subprime in Portugal? Down single digits YoY

There are reports of falling prices in many other countries in Asia and Europe.. Was there subprime there?

Every country had its own problems that can be summarized as follows: Time and price.

When prices go up forever (time), it encourages people to pay too much thinking prices will continue to go up, borrow too much and the financial sector lends too much and levers up too much. Pretty much everywhere in the world. The boom was global and the bust will be global.