How To Survive the Market Sinkhole

First, we should be clear about why some of this is going on. Aside from all of the underlying fundamental and very apparent technical conditions that helped to get us to this point, there is one overlooked item. This is the definitely the repeal of the uptick rule.

According to Investopedia the “short dale uptick rule was, “established by the SEC that requires that every short sale transaction be entered at a price that is higher than the price of the previous trade. This rule was introduced in the Securities Exchange Act of 1934 as Rule 10a-1. The uptick rule prevents short sellers from adding to the downward momentum when the price of an asset is already experiencing sharp declines.”

That was what it used to be. But on July 6th, in a stunning reversal, the rule has been lifted. The intent was to help stabilize markets in a declining market. In that type of environment, as sales increased, certain traders (“shorters”) were locked out of adding to the selling pressure.

You know, I just thought of something; they must think we are stupid because I think I hear that analysts are now saying that the economy is slowing and not healthy. I am sure I did. In fact, did Joe Battipaglia say he is 50% cash? I think he did…. Was this what they were all saying just a week ago? No, I do not think so.

I am so sick of the talking heads telling us that they are in or out when they only seems to tell us where they are when the market is moving in their direction. Honestly, I am hard pressed to even believe I just wrote that, but it is so seems so obvious.

The regulators have given us this volatility by removing the safety trigger and holding of by any significant FED moves. It is very clear that no matter what is said by the gals and fellas on the tube, the regulators are the ones that need to take it back. The way this needs to be is by “operation flood-me.” This is the way in which the FED comes in and puts some additional liquidity to help avert a credit gridlock. During this vacation heavy time, traders are gone, business is slower and credit will traditionally slow.

This morning the FED added an additional $19 billion of liquidity though open market operations over what they have done last week. That is a good thing that helped to pull the index futures off of their early morning low’s.

Here is what needs to be done. (Assuming you have cash as we have advised since mid-July)
1) Do not panic
2) Do not panic (needed to be said twice)
3) Buy a FEW shares of the most “beat-up” areas:
a. Apple is getting oversold, nip softly
b. Housing stocks are in the toilet, look at dollar cost averaging in to TOL, KBH (carefully)
c. If you are BRAVE, add a very small position of financials (SCHW is a good start and then add to larger firms such as LEH)
d. Re-evaluate your International Equity Mutual Funds. Move allocation to domestic securities.
4) Watch for further FED action.
a. If they continue to add liquidity, go back to #3 one more time and then go to #5
b. If they discontinue the liquidity flow, Skip to #7
5) Look to add positions that held up through the storm like:
a. ZUMZ, SNDK, ZEUS, STLD, NOK, SFLY
6) Continue to scour the portfolio for positions that underperform and add sell stops
7) Add fixed income positions in the form of AA or better rated Preferred Stocks
8) Add Sell Stops across portfolio to contain risk. Be careful not to panic….
9) Do not get sucked into the Automatic bounce but slow down and think about your moves. If they do not work out immediately, stick to your disciplines and adjust accordingly.

Comments

[john gaats]

I just sold my China holding: FXI. You think it is not related to subprime or credit cruch. But this one is among badly punished (I don't know for what). My concern is that even worse lost can happen if I keep holding. I hope that brave heart can profit from it later on. Man, this is bad.

[NO DooDahs]

My comments are essentially the same here as they were for your previous "sinkhole" article.
usmarket.seekingalpha....
Now is the time to be an aggressive BUYER, if your market outlook is longer than a few weeks.

Regarding stops, just my opinion, but in this market a stop loss acts the same way as PANIC does, and you said "don't panic." These positions (advocating stop losses and advocating "don't panic") are contradictory in the current market, as a stop loss will often SELL AT THE BOTTOM, just like a person would in panic.

Again, just my opinion, but stop losses (esp. trailing stops) are best in gently trending markets, where they can alert me to changes of trend. In a volatile market, I would much rather leave the position open, go home, have a good dinner and a cup of coffee, and calmly decide whether to sell, or not, or buy more.

[irondoor91]

Agree completely regarding stops. Use end-of-day data, which gives you time to run your numbers in peace in the evening and get your preparation done to implement your trades (if any) next day. Many times I have seen a stock hit my mental stop during trading but rebound prior to the close. If you trade an end-of-day data system, it will have completely ignored the gyrations and only record the close.

Had you sold when the stop was hit intraday, you would be out of the position but your end-of-day system would still hold the position. Now what do you do? If you don't go back into the market the next day and re-enter the position and square yourself with your system, you are like a pilot flying in the clouds and rain who begins to disregard or disbelieve his instruments because they don't "feel right". You will arrive at a "final destination", but it probably won't be on the runway.

[EasySolution]

We actually don't need up-tick rule. We can "buy" QID, MZZ, TWM, DXD, SDS to short the market.

[NO DooDahs]

Nobody ever did need the uptick rule. ETFs have always been exempt, as have some market makers.

Think about this: a hedge fund want to short 10,000 shares of XYZ, but "needs" an uptick. So they have their computer MANUFACTURE an uptick by buying a block of 500 at the ask, then turn around and short 10,000, then sell their 500. BFD.

Only retail joe is benefited by the uptick, and there are two things you need to know about joe. First, he's usually stupid and will short after the move is over, anyways, and second, he doesn't have enough money to move the markets.