Man, the NASDAQ has really been taking a beating (this week and last week)…my portfolio is really hurting. Uually, the last year of a Presidential termis good for the stock market…but I sense that something different is happening…some possibilities:
-the plunge in the value of the dollar is causing foreign investors to sell their positions in US stocks
-the bad news about Iraq (long, expensive occupation, with the US Army stretched to the limit for years)
-huge incease in crude oil prices…the cost of gasoline is up >15% since the first of the year, in somemarkets)
-the looming ENORMOUS Federal deficit…is the market signalling that there will be a return to inflation , down the road?
Just wondering if everybody is as nervous as me…I don’t think it would takemuch now to start a major sell-off in the market. 
Far far too early to tell. Sure, there are all those negative factors. But the thing is, the U.S. has a just incredible productive power. Our most pessimistic debt projections still pale beside the potential for growth and production. In a very real sense, we are “good for it.” The only real issue with the debt of any lasting consequence is simply how much money it represents as money that the American citizens will eventually have to be taxed to pay back (and taxes definately have negative economic effects).
You certainly shouldn’t judge the future of the market by past performance, EVER. The best available price-type predictor of a stock price is the present price: tommorow’s price is likely to be close to today’s price, with random variations up or down. If prices are low, this means that people expect them to stay that low. If they expected them to rise… then they already would have risen.
Past prices (the last two weeks have been awful!) mean very little, because, if the markets are even imperfectly rational, that past performance represents the market having ALREADY factored in any bad (or good!) news, the best that they can.
People that think like you, however, are exactly what makes the market less rational: thinking that past prices are relevant, trying to read hidden signs into a pretty straightforward readout of future expectations (which may from the actual future, but when you ask our investment advice, you are asking for our expectations of the future: that’s the best we have, since none of us know the true future, and if we did, we sure wouldn’t tell you!)
We were due for a big correction, the Naz was up about 200 points since December 1st. I am optimistic, all leading indicators are pointing up. Things just got a bit overheated.
Another thing…I keep noticing the phenomenon of recently-completed, unleased office space. Where I live, I goby several office buildings every morning …and many of them are over half empty! There is one where only a handful of cars are in the parking lot…and damn few lights on! I’ve read that in my area (suburban Boston) the vacancy rate for offices is >28%! Surely, it is not a robust recovery when some much space is vacant!
Surely you don’t think you can guage the economic health of the entire country by your annecdotal observations of your local commercial real estate.
That’s really the problem with individual investors. They ascribe their own personal biases and emotional attachments to their favorite stock picks. They buy individual stocks based on hooplah, their favorite beer or some “hot tip”.
There’s a commercial on TV now that hits on this. A couple is in a busy trendy coffee shop and the man is like “we should buy stock in this place, it’s going to be a goldmine!” A month later its out of business.
Another thing they do is try and time the market. They buy when they think it’s low and sell when they think it’s high. More often than not though, they end up panicking when the price drops and buying more on the upswing.
Really, the best strategy is to just stick it in an Index fund and let it sit there unless you are sure you can somehow outperform the Index, which most professional fund managers can’t even do.
Just out of curiosity, when have the markets ever been even remotely rational? As has been said so many times by so many others, conditions may change, technology may change, any number of other things may change, but the one thing that remains constant is human nature. Investors have been excessively greedy or fearful since the dawn of time, and I don’t expect that to change anytime soon.
In the particular case of the Nasdaq Stock Market, one could argue that the recent declines are a sound investor response given the ridiculous valuations at which its indexes trade. (98 times trailing/37 times forward for the Nasdaq Composite, 52 time trailing/34 times forward for the Nasdaq 100, according to Bloomberg.) Of course, that would raise the question of why people are only realizing this now. And with the Nasdaq Composite boasting a whopping dividend yield of 0.4% and the Nasdaq 100 at 0.2%, it’s not as though there’s much incentive for investors to hold these stocks while waiting for prices to recover.
I guess my view could best be described as long-term bullish but short-to-medium-term bearish, as the macro picture looks bad for stocks, IMHO. I could list a number of other factors in addition to those set out in the OP, but will confine myself to noting that the fabulous earnings rebound we’ve been hearing so much about in recent months is not based on profits calculated according to generally accepted accounting principles - the basis on which companies report earnings to the IRS - but rather on ``pro forma’’ earnings released to the media, which have a lot more room for, shall we say, buffing to a high sheen. According to Financial Sense Online’s most recent update, 12-month trailing earnings per share for S&P 500 companies as of the end of January were $54.31 on a pro forma basis and $45.12 under GAAP, a difference of 17%.
I’m fortunate enough to be an American living and investing in Britain, where the FTSE 100 trades on a dividend yield of 3.7%. This is just MHO, of course, but I’ll take my nice, dull high-yield shares over non-dividend-paying technology stocks any day, because it’s very probable that over the long term I’ll leave most investors in the dust. For the moment I’m just biding my time until conditions look right to start shorting the U.S. indexes.
But that’s exactly why you would expect the markets to be at least imperfectly rational. Rational doesn’t mean “not greedy, not fearful.” It just means that people will buy or sell stocks based on their best estimation of what will happen to the stock in the future. Now, you might suggest that these estimations aren’t raitonal… but in that case what YOU have is a rational estimation of the irrational behavior of others, in which case you’ve got yourself a pretty good stock tip you’d better act on. 
Note that you can have a rational market that contains lots of irrational investors.
Over a lifetime of rue I’ve discovered that the secret to wealth isn’t being right; it’s limiting your losses.
Also, playing the percentages. Were you to run, as I have and do all the time, a regression analysis of the stock market in relation to some very long term horizon, like say, twenty years, you’d discover that we never left the old bear market and that this rise, spectacular and profitable as it has been, is what the pros call a cyclical bull within a secular bear. Basically, short-term bullish, long-term bearish. In that situation, you keep a mental stop at some level not too far underneath the level of the market, like 5 or 10%, and sell everything and even go short when that stop is violated.
That’s my strategy, anyway. I trust this bull, to the extent that it is one, the way Vince Lombardi trusted rookies: like a grenade with the pin pulled.
There is the underlying thought of an interest rate rise. If it were to only raise a quarter of a point the thought could be brutal. We have also be cursing along without a real major correction. If interest rates do rise the bear will be back with a vengance.
pantom is dead on. We’re still in a long-term bear market. You’re just experiencing a short term bull within it. Many of us realized this last March-April, and switched some funds over to equities(stocks). It’s been a nice ride. Pantom told you just what to do. It’s time to start locking in your gains if you have some.
Thanks for the praise, samclem.
Just remember, if anyone decides to actually go short, to keep the stops in that case on an even shorter(!) leash, because:
- if you’re short, you’re borrowing, and you’re going to be charged interest because it’s a loan.
- if the stock/ETF/whatever that you’re shorting pays a dividend or any kind of interest, you pay that dividend or interest to the person you’re borrowing from.
- while if you buy something (going long, in the vernacular) your losses are limited to what you invest, if you short, your losses are unlimited, because while something you bought can only go to zero, something you sold short can rise indefinitely and to an unlimited extent.
In short (no pun intended) understand the risk you’re taking, and understand your tolerance of said risk.
I would say that you don’t have to be very right as long as you’re not very wrong, but I guess it amounts to the same thing.
Say… What?
On February 5, of 1984 the Dow Jones index was at 1,197. Today it’s at 10,495.
Seeing as the definition of a bear market is one that’s trending down, how can you claim that a tenfold increase over a 20 year time horizon is a bear market?
You are wrong, by definition.
A 10% correction within a bull market is a healthy thing, and is to be expected. In fact not having one from time to time is a sign of an overbought scenario.
To my understanding (and it’s a very good one.) the way to make money is to tend to buy when something is cheap and tend to sell when something is expensive.
By definition, if everybody likes something and wants to own it, it’s expensive.
If something has sold off that means that people don’t like it and it is getting cheap. That would tend to indicate that it might be worth looking at as a buy.
I’ll give you another example. I bought beer last Friday. Tomorrow I go to the distributor and let’s say beer is on sale for 10% less.
Do you think it would be a good idea to sell my beer back to the distributor at today’s lower prices?
Personally, I’d be inclined to buy more beer when beer is cheap not sell it.
Buying XYZ at $20 and selling it at $18 doesn’t seem to be a very impressive strategy.
I understand about cutting losses, but your strategy is a losing game. I would not buy XYZ at $20 unless I thought it was worth $25 or $30, and I wouldn’t buy a lot of it unless I was getting a nice sexy dividend for my time.
If XYZ then dropped to $18 and all the reasons that I bought it for were still intact I’d consider buying more. Buying things cheap is good.
In order to invest successfully you have to understand what you can control what you cannot control. I have news for you. You don’t control stock price. What you can control is the relative value at which you purchase it.
Well, Scylla, I don’t have time to reply to everything, but I have a simple test: if it’s above the long-term trend (which is always up, but that is deceptive) then it’s a bull, below and it’s a bear. It’s been below for about three years now, so it’s a bear. The trend is just the least-squares line drawn through the prices after you do a regression for the time horizon that you choose. I like twenty years for this top-down kind of analysis, because that’s about how long secular bulls and bears have lasted, more or less.
The long term trend is 7% after inflation, but there have been longish time periods when you would have made either less than or no more than the rate of inflation. IMO, we’re in one of those longish periods now. If I’m wrong, I’m wrong, but I don’t see why limiting your losses would be a bad thing anyway, since if I’m wrong the stop isn’t violated, assuming you don’t set it too tight. In my 401k, I do this with the Russell, and I’ve been in it for most of the time since last February, for a nice return.
If you’re right, you get to ride the winner all the way up as you adjust your mental stop higher as the price rises, which avoids the beginner’s mistake of getting out too early. If I’m right, you get out before too much damage is done, which avoids the opposite beginner’s mistake of the “deer in the headlights” syndrome. How is that a bad thing?
Also, I don’t have anything at all against dividends. If you recall, I was for the dividend tax cut. At this point, I want to revoke all the tax cuts, but that’s another thread entirely. Dividends are good, and they should always be reinvested. Dividend paying stocks also aren’t terribly likely to violate any stops, since in my experience the bigger the dividend the less volatile the stock, which makes sense from any number of points of view.
ralph124c: it appears you performed an invaluable public service by starting this thread. Please feel free to do so again whenever you feel the need.
The actual definition is a market in which prices are rising. The metric you are talking about may indeed be valuable, but it is not the test of a bull market. A bull market is simply one in which prices are rising. That’s it. Cites upon request.
Your saying interesting things Pantom but your vocabulary is off which is making it difficult. What you are describing is not the trend, it is the historical average over the time period you’ve defined. In fact, over the time you’ve described (20 years) the stock market has averaged about 10.8% If I cheat and use the 1982 CPI base of 100 and we are now at 158, that gives us 58% inflation over the 22 years. That gives us a historical inflation rate of 2.1%.
We are left with a real return of 8.7%.
The historical rate of return for equities in real terms according to Ibbotson and Associates data is about 7.5%.
So, even if we use your (incorrect) definition of a bull market, over the last 20 years we have beaten the historical average by 120 basis points. Ergo, we are in a bull market.
At any rate, there is a serious flaw with your investment analysis. If we use your methodology for determining investment environment we will inevitably be buying high and selling low.
If you go by the trailing 3 year return, you will not concede that we are in a bull market until it has gone up for three years or more. You will only be investing after a serious move upwards. Similarly, you would have concluded in 199 that we were in a bull market in technology due to the trailing 36 months returns and decided that perhaps it’s a good time to buy.
In short, you are determining investment strategy by looking at what is happening in your rear view mirror. Fundamentally, this is as bad a way to invest as it is to drive a car.
Well, I’ve been doing this professionally for fifteen years in one capacity or another. I am reasonably successful and affluent because I have learned to focus on what I can control and what I can’t control. I think a sell discipline is extraordinarily important. However a sell discipline that is predicated on price is an extremely foolish one.
Most money managers have their own metrics and indicators that they use. Since I’m not all that smart, I keep it simple and attempt to discern relative value. Having done that, I then analyze risk in some ways that we can get into if you like but their pretty esoteric. Risk management is something that is usually overlooked, but the fact is that you need to get paid for any risk you take or you are acting foolishly. Having evaluated these factors I am then able to calculate the required return of my potential portfolio (this is the return that I need to get to justify the risk I am taking.) Next I determine if my portfolio is efficient which means can I modify it in some way that I can generate a higher expected return with less risk. If it is on the efficient frontier that means risk versus return is being managed optimally.
Having built such a portfolio I am theoretically protecting from certain horrible mistakes. For example, like many others I believed in the new economy. I was overweight in tech in Spring of 2001. When tech pulled back I got clobbered. What did I do? I bought more. Then I really got clobbered.
Yet, my returns from 2000-2002 weren’t all that bad. You know why? In order to make my tech bet and still build an efficient portfolio I was forced by my relative value analysis to concede that bonds were at historic low prices at the end of 1999, and would be almost impossible to get any cheaper. So, I owned a bunch of 15-30 year zeros and some nice 6.5% munis. They made my portfolio efficient, and as the market collapsed and bonds went up I rebalanced as was prudent.
So, I liked intel at 40. I loved it at 30. I bought all I could at 20. At ten I peed my pants and decided I might as well go down with the ship, and funded those purchases and money others with profits from the bond market. As bond prices were increasing the return I could expect from bonds was dropping and the risk was also increasing.
To simplify this whole thing for you, all you have to do is tend to be a seller as prices get expensive and tend to be a buyer as prices get cheap.
I have no interest in buying a stock at 5 dollars and holding it all until 50. That is stupidity itself. It’s the exact same thing as playing blackjack and letting your winnings ride until you win 20 times in a row.
I hold an equity until I can determine that it is relatively expensive versus it’s peers or that it’s group is relatively expensive. Relative to what, you ask? Risk. At the time I determine my price is too expensive I become a seller, reducing my position until the risk I am taking from the increased price is justified from a portfolio standpoint.
If you’re interested in this kind of discipline you should read up on Modern Portfolio theory. If you follow your discipline it makes you do some interesting things.
For example last year my analysis showed me that a couple of stocks like ALD and HE were incredibly cheap on a relative value basis compared to their expected returns.
I hated those stocks, but my analysis showed me that I had to have something like them in the portfolio to give me a decent rate for the bonds I sold (both were paying huge dividends >8%.) So I bought a bunch of both and didn’t pay much attention to them because they were pretty boring, and I doubted the prices wouldn’t move. Well ALD gave me a return of almost 50% and HE returned 35%. Later, I was forced to concede this other stock LNCE (they make shitty pretzel snacks for vending machines) was priced ridiculously low. I made 50% in a month.
If I used your strategy, I wouldn’t be buying these things until they’d gone up. By definition I’d be buying high.
A person that buys high in the hopes that it will go higher (which is what you describe) is called a momentum investor.
I call momentum investors lunch.
It’s always very nice of them to purchase my stuff at outlandish prices, and I appreciate it.
Wow, that was a hell of an essay.
I actually agree with you on a lot of those points, and I have read up on portfolio theory, which is one of the reasons I hold a bunch of different things besides stocks. In my 401k, for instance, I divide between the aforementioned Russell 2k fund, a bond fund, my company stock, and a GIC fund that pays 5% interest on average. The diversification works well, and it behaves pretty much like one of those balanced mutual funds.
Anyway, I think you misunderstand my point. Most people, being merely human, get scared at bottoms and don’t buy, and hold on too long at the top and don’t recognize when a big fall is coming. I understand that a regression analysis isn’t the normal way to look at the market and that most people don’t use it, and I know that it’s not the standard definition of bull and bear markets, but for that precise reason I firmly believe it gives me an edge. I sold out in '99; as in everything. Bought a house with the proceeds. That was partially because when I looked at the SP 500, it was more than two standard deviations over its long-term trend, and I believed at some point it would have to come down. In 2000, I tiptoed gradually into a gold fund partially because I believed gold had nowhere to go but up, in the same way stocks had nowhere to go but down, because of doing a regression analysis, once again. That was only one input of many into the decision, but an invaluable one, IMO. I just sold out of gold and gold stocks a couple of weeks ago partially because it’s now more than two standard deviations over its long-term trend, which of course is also a declining trendline. The methodology I used was to note that gold was way over its trend, and the fundamentals had deteriorated - one very important piece of this is that the fundamentals for the dollar are improving, at least temporarily, and gold and the dollar move in opposite directions to each other. At that point I noted my stop and determined I’d sell all gold-related investments when it was violated, which it was a couple of weeks ago. I kept silver because it responds well to economic recovery, the fundamentals are good (see Zulauf in last week’s Barron’s) and it’s not overpriced by this simple metric (it also has an ascending long-term trendline, oddly for a commodity). I was early getting out of stocks in 1999, and I’m probably a little early in getting out of gold, but my favorite quote on the markets is the quip from either Baruch or Rockefeller, where he said that the secret to his success was “I always sold too soon.” Words to live by, IMO.
So, to summarize, I use the regression as input for when something may be under or overvalued, and I use the stops when I am no longer bullish, but still want to squeeze a little juice out of the asset in question, because, you know, I’m greedy. In the case of the Russell fund in my 401k, I used the stops to force me to buy low, believe it or not, and to force myself to stay in despite my overall bearishness on the market. This is different from the way momentum investors operate, as they try to buy high and sell higher, as you point out, and I do know that that species makes liberal use of stops.
When I turn truly bullish, the stops will no longer be used, except as background input to maybe buy more or sell a little.
There’s more, but this is long enough for now.
I have to disagree… out here I see the same empty office buildings, but frankly way too many were being built in the late 90s; it seems like every spare piece of land was being razed and turned into some cookie cutter office building.
Scylla Would you agree or disagree that we are in cyclical bull market within a secular bear market?