Thursday, November 13, 2008

Back in the Bear Den

Back in the Bear Den (thanks Rick for that term)....Today's action was enough proof that the bear is back and risk remains elevated. I was wrong on Monday that risk was reduced (premature possibly) but I did not act on that erroneous read as it was a theory that needed testing and had a mental stop of S&P 900 (later revised to 882).

Two things are happening: The news is bad, but everyone knows that. What I think is more important is that the natural long-term buyers of stocks (pension plans, long term value guys, institutions) are so underwater and facing liquidity problems that either they can't buy or they are actually selling into this. Without these long-term buyers (and worse, many are selling) you get short rallies that fail as higher prices just encourage more selling.

With the break below 882, I reentered the bear den. I tried a little shorting today but I actually took a small loss (whipsaw) as if you are short here, you have to be careful. That being said, I expect that if we take out 840, we're going straight to 777 (2002/03 lows). Even with that, we could easily take that out, as nothing says we have to stop there. 738 is a number that I have been thinking about for a long time (1997 lows).

If we can recapture 882, I am back in neutral.

One comment that Rick pointed out was:

Seems as though the government will allow GM to fail. That's the right tactic, but more bad news for the market. There is nothing but bad news now for at least 2 months. How can the market rally under these circumstances?
I don't think that they will allow GM to fail, but I could be wrong. The last sentence caught my eye: "How can the market rally under these circumstances". The same way it always does. Markets top when news is great. They bottom when the news is horrible.

Who said this in July 2007:

"This is far and away the strongest global economy I've seen in my business lifetime,"

Hint: The same guy preaching gloom & doom right now: U.S. Treasury Secretary Hank Paulson.

How about this one from August 2007:

'I have been in this business for 30 years.... It's the strongest global economy I have been a part of,'

CEO John Chambers of Cisco, who recently admitted that the economy stinks.

Markets top on great news and bottom on horrible news. The day will come when someone goes under and the market rallies. Why? Short sellers will cover. They will see that event coming. The event happens and then the market doesn't tank as much as they expect. They cover, the market rallies. More short covering. At the same time, some of the selling that has been relentless dries up a little as sellers finish liquidating. Buyers start initiating positions and make money. More buying and more buyers come in. Sellers start to take their time selling. More bad news arrives and the market takes it in stride. More short covering, etc...

Don't get me wrong. I am still bearish longer term. The economy is in a severe recession. It will remain in a severe recession for months or more. However, nothing goes straight down. The biggest short term rallies are in bear markets. We will get a 20-30% multi-month rally that will kill some of the shorts in the coming months. From what level, I'm not sure, but likely lower. It happens in every bear market, even in the Great Depression.

For now, I am back with the bears, looking at opportunities on the short side, but still trying to conserve capital. The best way to make money this past week for me has been to have lots of US and Japanese cash, as the Canadian dollar is getting killed again.

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