Fear the Market or Fear Yourself?

Using the S&P 500 SPDR ETF (SPY) as a measure, the stock market has lost ground from a high approximately $156 to a current low of about $90. This is 42% of its value.

I know we have some problems, but has essentially every stock become 42% less valuable?

The answer is probably not.

Yet still there are doomsayers that say the bottom is about to fall out. We are about to have another Black Friday or Black Monday. Perhaps we are. However, if this happens, it is not the government’s fault. It is not the fault of the “fat cat” bankers on wall street. It is the fault of every investor in the American equities markets. We just simply don’t know how to control our emotions. We don’t know how to take a calm look at the markets. If they have gone down 42%, are they likely to go down another 42%? Most likely they are not.

If you didn’t get out a long time ago, you probably aren’t doing yourself any favor by getting out now. You will increase the carnage if you do. You will contribute to the markets going down farther. However, you will not likely save yourself money. In all likelihood the markets will soon rebound past the point at which you would now sell your stocks. This would leave you poorer for the action. In the same way it hurts to get in at the very top of the market. It hurts to get out near the bottom.

The market is now going down because a lot of people are pulling their money out of mutual funds and hedge funds. That may so far have been a good strategy. Now it may be a self defeating one. You may add to the carnage (the death spiral). You may hurt the industry that employs you. Business does generally need the money invested in stocks to function at a good level. That is how most companies pay for expansion. Without that facility for expansion, there will be little to none. Since no new jobs will be created, there will be only shrinkage. On top of that, your further pullout from the market now will only likely lose you further money. You will give the rebound artist the benefit of the rebound you would have gotten.

FDR is no longer around for his fireside chats. He is no longer around to calm people as he did in the depression when things were much worse. Bush is no kindly father figure. In the 1929 market you only needed 10% of the value of a stock to invest in it. The collapse of the market was a leverage cascade. The banks have provided some of that this time. Certainly the investment banks were heavily leveraged. However, the average investor owns his or her stocks or mutual funds outright. These still account for most of the investment. There should not be a repeat of the great depression.

The average investor should realize this. The investor should realize that the government will try to patch up the banking system as best it can. It will again rescue the common man as it did in the thrift debacle not too many years ago. Senator McCain says he is going to sponsor a homeowner rescue plan in addition to the current bailout plan. Rep. Pelosi is talking about another stimulus bill. All of these things will help.

What can the average investor do at this point? Sit tight. Spend your money wisely, but try not to stop spending entirely. Try to conserve gas. Try not to buy as many foreign cars or other foreign products. All the money that you spend on foreign goods (and oil is now the biggest foreign good) goes out of the economy. We need all of our money we can keep at this point. Keep your money in the bank. Keep it in several different banks if that will give you more peace of mind. The banks need to have some money. For those who haven’t gotten out yet, keep your money invested. Otherwise businesses will not be able to survive. Otherwise there will be no IPOs. There will be no new great companies like Microsoft (MSFT). Even the state of California apparently needs bank credit to survive month to month. The job you save could be your own.

In the immortal words of FDR, we have nothing to fear but fear itself. Choke back that fear, before it chokes you. Courage in the face of danger is not knowing no fear. That is just foolhardiness. Courage is knowing fear, but having the will to stay the course in spite of it. This country was built on that type of courage. If you want it to continue to be a great country, it is time for everyone to show some of that courage now. If instead you want a death spiral, you can probably engineer one. Why would you want one?

Disclosure: none

Comments

[Smarty_Pants:]

The question to be asking at this point is:

Was the SPY really worth $156 given what we now know about all the toxic MBS garbage on balance sheets the world over? An honest analysis would probably determine it was not. So the "fall" from $156 to $90 is only the market seeking a proper price for SPY.

Given that nobody really knows what sort of liabilities are still hidden in level 3 balance sheet nooks and crannies, it is impossible to determine an accurate price. $90 may still be too high. It COULD fall a lot further.

You ask "has essentially every stock become 42% less valuable?" and answer "probably not". What facts brought you to this conclusion? None is presented. Has doggedly insisting "it's not so bad" replaced financial analysis of corporate operations? Is this not an emotional reaction?

Here's a link to another author's actual look at the numbers. He arrives at a different conclusion. Maybe he's right, maybe not, but at least he shows his work and allows readers to decide for themselves.

seekingalpha.com/artic...

Closing your eyes just before a head-on collision doesn't prevent the accident or make it hurt less.

2008 Oct 10 09:25 AM

[Pollyanna:]

Perspective is everything.

Thank you, Mr. White, for the first "thumbs-up" article I've read all month.

The last commenter was right on in regard to encouraging people to educate themselves. However, I take issue with criticizing Mr. White's article out of hand, because in my opinion, we need more such communications immediately to counteract the widespread misconception that "the sky is falling." It is only falling because we make it so.

Economic "experts" can spin numbers to support any viewpoint as everyone knows. I'm no expert, by any means, and I'm fortunate enough to have a few years to go until retirement, if such a thing exists by the time I get there. (For folks at the brink of retirement or in the midst of it, my comments obviously do not apply; I'd seek a well-recommended, affordable financial planner for guidance.) However, I know enough to be skeptical of 99% of what I hear and read when it's conveyed by clearly biased sources. Responsible reporters and pundits with integrity should follow the Hippocratic oath to "do no [more] harm" and present data in a balanced way. The public deserves more measured responses from reputable sources. For example, check out some of Morningstar's Analyst Reports. At sites like this, you'll learn that the balance sheets of many American companies are surprisingly sound. If U.S. companies don't continue to be taxed to the hilt, many will be poised to hire, create new jobs, and invest in R&D with the cash they have on hand. The contrarian in me sees under-valued, well-priced opportunities right now. I only wish I had more to invest.

Yesterday, I did invest15,000 in five stocks I've been itching to buy, and I'm keeping another $75,000 firmly planted in individual, common stocks I've held throughout this downturn (I use Buy&Hold with Freedom Investments, one of the less-expensive ways for the average investor to dabble or buy online for the long haul.)

Additionally, after a careful portfolio review, I'll adjust other retirement and non-retirement investments, and keep them where they are, because the firms still look good (Vanguard, USAA, Janus) and they're doing what they can to protect NAV. I certainly don't want to lose further value by paying more capital-gains' taxes than I already do.

Cash can be moved into better interest-bearing accounts. For example, check out bankrate.com to compare (ING, Charles Schwab, and e-Trade Bank have some good options right now).

And, I'll vote. (I only wish I could vote Warren Buffett into the position of Treasury Secretary.)

Finally, as soon asI can set aside more cash to invest, it's going to Disney. The world needs more of its brand of happiness until sanity is restored.

2008 Oct 10 12:42 PM

[CLH:]

David---good article. More money is lost from panic than anything else. Many people bought at the top and rode it to the bottom and then sold. They will never invest again. Its too bad because their social security will be gone soon ---but then the poor will always be with us.

Most of the money is lost by the rich during these times but they will roll up their sleeves and make more money. The poor will whine.

2008 Oct 11 07:45 AM

[David White:]

I should address Mr. Smarty_Pants issues. First from reading other articles I can tell you that he owns a lot of puts at this time. He wants the market to go down further so he can profit further from it. Second I looked at the article he cited. That article told of how it took a long time to recover from the 1929 crash. However, that is simply a bad comparison. The stock prices were inflated then. A lot of people had been buying with only 10% margin. When the market started going down, everyone had to sell. Those that didn't have to sell were forced to sell or lose their entire investments. After that happened there was no money for businesses to use to expand. Not surprisingly there was only contraction for some time to come (i.e. the Great Depression). The amount of leverage present in the market in the late 1920's simply does not compare to the present situation. The leverage of the banks, especially with regard to home loans is the big exception to this. Hedge fund leverage has also not helped. Still most investors own their stocks outright (or nearly so) through mutual funds or individual stocks. Hence there is not the same impetus for a crash that there was in 1920.

In contrast the 1987 crash was a deep crash, but the market rebounded from it within a year. That was also a housing top crash to some extent, although there weren't as many bad loans out there. With the oil problems and the home loan problems, I am expecting a bounce. However, I am expecting a slower recovery than in 1987. In the mid 1970's there was a recession largely brought on by oil prices. That took a while to recover from. There are definite similarities. However, we did not have alternate energy in the 1970's. We did not have hybrid cars. We did not have as much mass transit. Those are all things which may draw their roots from the mid 1970's. It should be easier to recover this time. However, we definitely need to address the trade deficit due to oil, cars, etc. It probably still makes sense to buy Prius's, etc. However, we need to realize that we are cutting our own throats by buying many of the other cars. Detroit really needs to more fervently address the issue too. We are kidding ourselves that we can afford the rampant gas guzzlers like most of the SUV's. We cannot. The U.S. economy cannot. Detroit needs to be a leader in their thinking, not just in car innovations. Stop trying to make slightly more efficient gas guzzler small limo's. Start trying to make smart efficient cars. Try to make cars that allow us our freedom -- the real attraction of a car for most Amercans, but do not impoverish the country at the same time with a huge trade deficit. Try to make cars that don't pollute, so we can breathe clean air.

Let me return to the market from that pet peeve. There is strong technical support for the SPY at approx. $85 and $82. After that there are some minor support points, but none of them give any feeling that they can stop a downturn. The next strong support point is at approx. $42 to $45. That would be a long way for the market to fall. If enough people panic, that could happen. I don't believe there is any overriding reason that it should though. My plea to you is not to panic. The government is trying to address the mortgage crisis. They will likely do a decent job. The market likely will start to go up again soon. It may take a long time to reach the market highs of last year again. However, the markets could recoup 50% or more of the loss fairly quickly. Their were a few good signs last week. The housing data indicates more homes were been sold recently, admittedly for lower prices. Still they were being sold. Then GE commented that the commercial paper market looked a little healthier. It also now looks like the Wells Fargo buyout of Wachovia will be allowed to go through. This should help stabilize the market. I am hoping for more good news going forward. As the government spends the $700 billion in the places it is needed most, the economy should start to improve. Still it will pay to push your Congress people and Senators to address the oil trade deficit as quickly as possible. This is the single most negative influence on the American economy currently.

I should also point out that the $700 billion can be looked at not just as a new debt. It can be looked at as a way to spread the debt around through inflation. It effectively makes everyone contribute a small amount to the rescue effort. Why wouldn't we want to do this. The government is trying to rescue our banking system, our equities markets, and our home values. With the proper type of first aid applied quickly, we may prevent systemic illness. We should appreciate what Hank Paulsen and Ben Bernanke are trying to do. I know I certainly do. I think the Paulsen / Bernanke team can stop this crisis in its tracks. From a purely technical standpoint, this looks like the time to do it. The Smarty_Pants's simply want to profit from your fear. They would have you believe the sky is falling, so they can make a few more bucks. It might be smart not to listen. Rationally the government should be able to stop this crash at this point. Most businesses are essentially healthy. If it ends up requiring more money, we should not look askance at this. Letting the government fight the necessary fires is likely the best solution. Letting them burn until they go out on their own is a fool's solution.

2008 Oct 11 07:09 PM