All last week I closed out short positions for smaller profits than I would have enjoyed just two weeks earlier. Why? Because, while it may or may not be folly for the market to be rallying, it is a greater folly to fight the tape.
I expected October to be the Last Lousy Month in a string of six this year. So far, I have been proven wrong. I’m five for six, but thus far, Tuesday notwithstanding (or perhaps indicative!) October has been a harsh reminder that markets are unpredictable.
Of course, we don’t collectively know what one single teenager will do at any given moment; what makes any one of us think we can “know” what 100 million emotional souls motivated alternately by fear and greed will do on any given market day?
The "reason" given for October’s rally, and for Tuesday’s decline, trumpeted every day in bold headlines, is “Greece Not Likely to Default” or “Sarkozy and Merkel Have a Plan” (even if they want to play “I’ve Got a Secret” with any details for such a plan.)
I don't know what the real reason for the rally is, whether it is ennui (the market exhausted those willing to sell, who are now sitting in cash,) or whether program trading is running it up only to watch it fall again, or perhaps because the Wall of Worry finally got thick enough to be a worthy foil.
But it most certainly isn't because Greece is now solvent or because the Europeans have figured out an intelligent way to get them solvent. Europe is as sick today as it was when this crisis first hit. A Greek failure to default will not cure that illness any more than a Greek default will make it appreciably worse. The problems far transcend the early warning sign that Greece has so willingly provided; Greece is merely symptomatic of the greater malaise.
Think of Greece as a man about to receive a blood transfusion from a limited universe of 16 of his closest friends. (Okay, to be more accurate, 16 people pretending to be his friends.)
Once they have donated their blood, all will likely feel a bit faint. Since none really wanted to give their blood, their probable nausea and weakness will likely make them, not ecstatic that their pal has received their blood, but resentful that his untreated wounds are still festering while he refuses to allow the doctors to operate. Why should he have to make such difficult decisions as long as his “friends” stand ready to give him more whenever he needs it?
We need to ask ourselves the obvious questions: Will European banks be better or worse off for taking a serious haircut (or scalping) on the value of their currently-held bonds? Where is the quid pro quo that would make German and other EU citizens believe their transfusion might someday be repaid if they need one? For that matter, will the rest of the citizens of the EU be any more willing to work, say, a 40-hour week? Will they give up their cherished 4-6 weeks of paid vacation every year? Might they be willing to work for one-half of a normal lifespan from, say, 22 to 64? I doubt it, so I see no substantive change that will ease the real illness.
And if and when Greece has been "saved," will one more house in the USA be sold? Will one more unemployed American get a job as a result of it? Will we all rush out to buy Greek yogurt (mostly made in America) in a show of solidarity with our Greek friends? Will Americans whose discretionary income has fallen even as our productivity has increased (like hamsters on a treadmill?) suddenly decide to charge a trip to Greece to see some real ruins? I believe the answer to all the above is no.
As Winston Churchill said of socialist economies back in 1903, "I contend that for a nation to try to tax itself into prosperity is like a man standing in a bucket and trying to lift himself up by the handle." I think the sentiment applies as well to today's Europe, taxing their hardest-working citizens and best-run banks to prop up their other citizens in the most poorly-run nations.
Still, the euphoria that has accompanied this bit of news clearly shows that we are somewhere in at least a temporary bottoming area, where volatility rules supreme and the slightest news moves markets all out of proportion to their importance. That’s why I may believe a nation already in default -- maintaining the fiction that it is not -- is a pretty silly reason for a 10% rally, but what I believe doesn’t move markets. What 100 million people believe doesn’t move markets. What 100 million people do moves markets.
Since we don’t fight the tape, we are buying APEI on any further pullbacks as well as Schlumberger (SLB) and the ETFs PowerShares Dynamic Oil & Gas Services (PXJ) (a full 15% of our own portfolio) and Rydex S&P 500 Equal Weight (RSP) (another 15%) -- among a number of others!
Disclosure: We, and/or those clients for whom it is appropriate, are long APEI, SLB, PXJ and RSP.
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