"Margin of Safety Investing" members received an earlier version of this article a few days ago.
On Sunday morning, I left Greater Milwaukee to head towards a suburb of St. Louis (home of my Brewers arch nemesis Cardinals - my blood boils and heart breaks every time I think of 1982 and 2011). I met up with friends for the night and we all headed to Chester, Illinois, for the eclipse Monday morning.
Chester was on the 100% totality line. For 2 minutes and 40 seconds it was twilight sunset in every direction. Sometimes it seems as though the stock market is at sunset in every direction. That's not true. We are having a rotating correction and once the large caps fall, it will be over. Prepare to invest, because just as daylight came back after the eclipse, the stock market will have another leg up before the next "end of the universe" event.
Depression is a State of Mind
After the eclipse, my friend who is traveling with me and I took the scenic route through southern Illinois and parts of Indiana and Kentucky. Some of the small towns we drove through were still clearly depressed. Buildings on main streets were boarded up, and some homes were tilting sideways.
Even though the second ring of suburbs around big cities are doing very well, as Millennials look for places to raise their families, the rural towns away from cities are still struggling. I see it in Wisconsin where I live too. When we think about our brothers and sisters in "fly over" places, we need to think of them in our equation of America.
For a little background, I am on what I am calling the "Hall of Fame" tour. I've already been to the Football Hall of Fame in Canton and in a few hours will be in Cooperstown for the Baseball Hall of Fame. The Football Hall was awesome. Go if you are a football fan. I've been to Cooperstown before and love the Babe Ruth exhibit. We'll hit the Rock and Roll Hall of Fame in Cleveland on the way back from camping in the New Hampshire White Mountains.
Along this tour, I'll end up driving about four thousand miles and seeing 10 states from the ground up in 12 days. I am hoping to see the world getting better, but know there are spots where it is not. We all have to get over our perception that the world is getting worse. It's not. The world is, in fact, getting better. There's a lot of proof of that. Look here and here. Read these well-written thoughts about the world getting better.
I note that despite what we might see in the news, the conflicts we are drawn into and the things we feel, the world is getting better because investors have to understand that in order to make smart investments. The world will change, which is scary, but it will keep advancing. In that change is risk and volatility, but also massive opportunity for not only wealth, but happiness.
The Rotating Correction
What we can see in the stock market is that small cap stocks have drastically trailed the large caps this year. That is the first part of the stock market correction that many have expected for about two years now. Here you can see that the iShares Russell 2000 ETF (IWM) small cap index has trailed the SPDR S&P 500 ETF (SPY) large cap index.
Here's more to show the splits occurring in the stock market this year. The PowerShares QQQ Trust ETF (QQQ) is even more removed.
We know that the small caps over long periods of time outperform the large caps. For the last fifteen years, however, since the tech bubble finished bursting, the "new economy" stocks of QQQ have outperformed both large caps and small caps. You can also see that small caps over that longer time frame have outperformed large caps.
When the correction finally completes with large cap in the news stocks dropping by double-digit percentages, investors are well advised to consider this chart. Look for profitable or approaching profitability small caps and leading new economy stocks. Focus on companies with defensible, repeatable business models.
The Stealth Oil Recovery and Defensive Buildout
Much has been talked about with regard to oil prices. Many traders are convinced there is another leg down in oil. They might be right. But, the intermediate term move is going to be up. I talked about that on "Looking at the Markets" with David Moadel in this interview and with Dale Pinkert of Forex Analytix here.
Right now, America is ramping up oil production again despite an oil glut. There is an intermediate-term reason we are doing that and a short-term one. The intermediate-term goal is to maximize our national wealth as the oil age slowly ends over the next couple decades. The short-term goal is more explosive.
We are clearly gearing up for a war within or with Iran. The coalition of Saudi Arabia, the Gulf Cooperation Council nations, Egypt, Jordan, the U.S. and Israel is preparing for the coming conflict. When would you ever expect Israel to align with Arab nations? The standoff with Qatar is a harbinger of what is coming.
In support of my idea that war with or within Iran is coming was an article I wrote a couple months ago titled: "Missing Risk Premium Could Lead To Oil Price Shock."
Since that article, a number of developments have occurred. Among them is that Qatar, which is in a standoff with Saudi Arabia and the Gulf Cooperation Council nations, has restored full diplomatic ties with Iran. This move is an affront and a challenge to the nations currently stifling Qatar economically.
Also, something I discussed in the Forex Analytix interview is that Russia is starting to gravitate away from Iran and towards Saudi Arabia. This week, Russia finally accepted a candidate for ambassador of Yemen to Russia of a Saudi-backed candidate. Russia had rejected the first three Saudi nominees.
Because of President Putin's dislike of Islamist activities in Russia, think Chechnya, it has made sense to me that he would move away from being so tied to Iran's leadership. As I said in the Forex Analytix interview, I believe that Russia will not come to the aid of Iran in the event of an attack by the Saudi-led coalition. Russia will use some sort of "justification" around an idea that Iran's leadership has committed a transgression worthy of reprisal or failure to aid.
If I am right, the resulting war with and within Iran will be quick, as without Russian aid they cannot hold off a force from Saudi Arabia, Egypt, Jordan, Israel and the U.S. At some point, Russia can become part of a peacekeeping force, which secures their role in the region.
During any such war, as I discussed in the risk premium article, we would likely see 2-4 mbd of oil supply disrupted for a significant time, leading to a surge in the price of oil within months, something that Russia, Saudi Arabia and the U.S. all exporters now, want to see.
In preparation for an oil supply disruption, the U.S. is building out pipelines that had been stalled, continuing with an expansion of fracking and moving to drill new Gulf of Mexico leases in shallower, easier, cheaper and quicker to get to oil that have recently been issued. The regulatory burden on oil development has been lessened to foster a quick buildout. Why? Because, if oil is disrupted for a year or two from Iran and Iraq, we will want to avoid an oil spike-induced recession.
Near Canton I spent an hour with pipeline workers who had come back in recent months to finish an oil pipeline that had been stalled last year. There are others across the country moving along too. We all have heard of the Dakota Access pipeline.
By next year, the United States will be approaching producing 10 mbd of oil. This is despite oil inventory, just off a five-year high. If two to four million barrels of oil are disrupted from the Middle East, which I discussed in an article titled "Missing Risk Premium Could Lead To Oil Price Shock," it will only be a matter of months before there is significant pressure on oil prices.
There is far more on oil and how to make money on it in articles that you can find in my profile.
The Trades to Make
I am making this article a little quick due to my travel schedule. But here are three things I am looking to do. If there is a quick sharp correction, I have limit orders to buy QQQ in place. I discussed that in "How I Prepared For A Flash Crash In An Overvalued Market."
I also have a list of small company stocks that I want to own. I am already nibbling into those because of the already in progress correction within small cap stocks.
Finally, I am buying specific ETFs and stocks levered to a rise in oil prices. The big trade there hasn't happened yet. I suspect the trend traders are right and we get one last buy low opportunity. We might not though, so I have opened some positions already. In this article, I compared two popular energy ETFs that fit slightly different energy strategies.
If you get involved with the new economy and small cap stocks long term, and energy stocks intermediate term, I think you will be positioning for life changing investments. Good luck. And remember, the world is getting better despite pockets of negativity. Drive around and see for yourself.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in QQQ over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I own a Registered Investment Advisor, however, publish separately from that entity for self-directed investors. Any information, opinions, research or thoughts presented are not specific advice as I do not have full knowledge of your circumstances. All investors ought to take special care to consider risk, as all investments carry the potential for loss. Consulting an investment advisor might be in your best interest before proceeding on any trade or investment.