Al Capital

Planned, Cautious Buying Amidst This Panicked Selling

That was a thoughtful post. The element that was missing however is the plan under worst case scenarios, or what I would call "survive to fight another day" scenario. Although I have suggested all cash positions since February, I recognize that "traders" are looking for "deals".

Look, it might be unbelievable, but the market reaction to the current crisis is painfully obvious. First it will discount all growth since the housing bubble, basically assigning 5-10 cents on the dollar to mortgage backed securities of that vintage and bringing the Dow and S&P down to 2002 levels. From that point it could get even worse, much worse, so in making choices in this market, realize that the risks are enormous. The VIX alone documents an extraordinary risk level.

That brings me back to your point about "a plan". That plan should also account for the risk and costs of being wrong, meaning that if you are just hoping for a stabilization, or hoping for a bounce, then the plan should be to avoid risk.

Regarding the comment about "buy low and sell high", that works great in retrospect, but today's price might seem low now, but in fact turn out to be very high in a month from now. Don't invest using aphorisms, as you know "a fool and his money are quickly parted".

Asset Securitization Crisis: The Butterfly Effect

Strictly speaking, the "Butterfly Effect" describes predictable non-linear systems, albeit ones that can be catastrophically affected by very small changes in some factor (the effect was discovered by noting results from roundoff errors in computer modeling of weather, and explains why weather cannot be forecast more than a few days in advance).

What is happing in the economy is quite the opposite, it is the result of a catastrophically large change in credit markets and resulting capital deflation (deflation creates further positive feedback causing credit to shrink further). That being said, an optimistic projection for the general market bottom would be 7500 for the Dow, or roughly 2002 levels. However, if things go badly, we could see a bottom at 4000-4500. There is a small chance that the national banks can avert this disaster, however, the risks remain extraordinarily high.

Remember this, if you are using the word "hope" in your description of investments (e.g. "I hope the market improves"), then you are not investing, you are gambling. An investor factors in the risk.

Why Is This Market Holding Up?

You might take a look at my recent statistical decomposition of the S&P for some ideas regarding the current market strength.


mnrtrading.blogspot.co.../

Understand True “Excessive Bearishness”

You make a valid argument regarding the true turn, or inflection point, between a bull and bear market, which is a useful reminder for investors in index tracking stocks or funds, such as SPY.

I consider "bearishness" and "bullishness" to be forward looking sentiments, reflected in market volatility. Based on increased volatility (e.g. VIX) there IS more "bearishness": see also
seekingalpha.com/artic...

Why Markets Fell Post Fed Cut

There is little doubt that whatever action the Fed took, the "market" was going to sell, simply because the action was driven by uncertainty and no one likes uncertainty. But the recession risks, at least those presented as probabilities as in Eli's post, are not accurate. The range of recession sentiment varies from about 5% (and I am in that camp) to 100%. Now although the Wall Street Journal presents that data to indicate the average = 36% chance of recession, the data actually indicate that there is no consensus, and that is all. In terms of monetary indicators the chance of recession is very low, and in terms of productivity, the chance of recession is very low.

mnrtrading.blogspot.co.../

Inflation, Deflation and Your Investment Decisions

Thanks for the analysis David. Perhaps an analogy would be helpful.

Consider the economy to be a fleet of large ships. They float on a sea of capital, and if credit conditions are poor (eg. inverted yield curve) they can run aground. If the yield spread is high, credit is available and they can easily float and move forward.

Productivity drives their engines more efficiently. The opposite is inflation, which makes their engines run less efficiently.

Growth is never the result of monetary policy, it is the result of productivity gains (that is the core of capitalism). However it is certainly true that without credit, growth is restricted to cash rich sectors.

mnrtrading.blogspot.co.../