- This is going to be a sustained sell-off. Mentally prepare for three to six weeks of selling. I have some tactics that I use to keep my emotions at bay.
- Like I have been calling for weeks now, as the virus bears ease off the stage, the recession bears will enter. That gives another great opportunity for alpha.
- I regularly call for building cash when I see a gap in the rally. This time the gap came with time to prepare. I hope you did.
- Please play out your cash very slowly. This dive will be for longer and lower than you think.
- Choose your targets wisely. I go for high beta names that swing widely with market moves. These are generally tech-related names. This Sunday I will address candidates.
First the set up for next week, is what happened this week
Whether it’s a spurious correlation with this Thursday’s jobs number and the start of this torrid sell-off, it all has been "concretized." You would not be shocked to learn that I believe these two events are tightly linked. Why now and not the four other times? Well, if you have been following along, my major thesis is that once the actual virus appears to have begun to be vanquished that attention would be diverted to the actual destruction of the economy. I said this as my first piece back in April, perhaps it was too soon, but I hope it gave you a basis for your trading. Now that this action is in front of us, we naturally need to cast our gaze to the next hill. Even as this next hill will be a steep one to climb I believe the vista will be of clouds breaking up to reveal the blue skies and sunny climes of late spring. There's the struggle ahead but the reward is there at the top. What do I mean? Even though there will certainly be a lot of wreckage and lives badly affected, there will also be an opportunity. The public market generally contains the majority of the best companies on the planet, and our job is to find value and allocate funds to those very fine companies.
Unfortunately, in order to scale the next hill, we have to get over this chasm
I must assume that if you are reading my notes that you must have taken heed and set aside some cash to take advantage of the sale on stocks. If you have, and you also wrote calls on your remaining positions, you should be confronting this dislocation with excitement and anticipation. One can argue that we all should have been prepared for the swoon in March, but even though we saw the epidemic unfold in China, and even if you knew that the CCP was lying about the number of infected, the extent of their lies was not clear until it was too late. It's only money, and I hope that you and all the people you love went through this tough time physically unscathed. Now, we should have been prepared for this next step, and I'm going to assume that you are. This morning, even as I was telling you all to generate cash, and even as I was, I could help also laying out a little of my cash to start new positions in preparation for the sale. This is an exercise of discipline for me, because even as I create all sorts of lists, the first thing I do when I start allocating funds to the long side, I add to my current stable. If I don’t do this then when I do start looking for names to pursue I tend to buy on impulse. This is something I try to avoid obviously. I want to avoid any chance on letting emotion get in the way, and disorder brings emotion.
I try all kinds of mental games to keep to a discipline
I don’t know if you’ve noticed, so let me just come out and say it. I create “games” to enforce a disciplined approach to trading. Some of you might find this silly, some of you feel like they can wing it and not lose their way. My hat is off to you. If there's anything that experiences in life as in trading is that it gives you an opportunity to know yourself. I know my strengths and I want to use that strength to balance my weaknesses. It's my hope that others find these ideas helpful. The whole concept of “cash management” is really a construction to avoid the idea of taking profits. Taking profits is a fraught exercise, that I as a trader struggle with. Do I? Don’t I? Ride your winners, sell your losers? What? So when do you sell your winners, when they are losers? Then when you finally sell, you have seller's remorse, or if you don’t sell you have remorse as your profits evaporate. So I started looking at it from the risk side, generating cash on a semi-regular basis when I see a possible break in a rally. The rest should be familiar to you. So now we see the benefit of using a cash management construct, the goal was to generate 25% to 35% cash. Most of you did not make that goal I suspect, and that's OK, maybe you have 15% to 20%? Good! Very good. So now what do we do with it? Please, before you start spending it, take one good look at your portfolio. Are there any stocks that you are shaky on? Right now you need conviction. That is because I'm going to ask you to stop looking at the losses in your portfolio for the next three to six weeks. I suspect that by week 3 we will see the other side of this. I am going to focus on high beta stocks. Generally these are technology names that swing hard with the market moves and then create great alpha to the upside. If you generated that cash by following my recommendation to sell a few shares every day, I want you to do the same in acquiring shares. When I say a few I literally mean one to seven shares every day. Please make sure that you space out these purchases meaningfully, let’s say 3% to 7% to 15% lower for each tranche in the beginning. Amazon (AMZN) is down 7% today in one shot, so maybe you buy a share of that. This sell-off could last two to three weeks and fall to as far as 2500 in the S&P 500. Let’s look at a chart of the SPY to get our bearings here.
To my eye, this 2640 level looks like it could be the most solid as a base. When most market commentators speak about the sell off they all talk about the 2650 level as the one that will hold. I think we should all play technical chartists right now and treat this 2730ish level with respect as well. We may just bounce off this level, and if you are buying slowly into the dive, please prepare to trim once again if we bounce off of that level first. I guess what I'm getting at is that this is a multi-week action. I'm repeating this in a few different ways today, not because I think you are slow on the uptake, I'm really telling MYSELF this. I tend to get excited in my buying a dip, only to find that dip is deeper than I expected, or that I knew intellectually that the selling wasn’t done but I got caught up in the excitement of buying. Maybe you are more in control of your behavior, great then you can get the benefit of my calls and ignore my trading practice. I'm addressing the possible thousands of you out there, that know what they should be doing, but in the heat of battle find that they don’t do what they should. The very wise Mike Tyson once said: “Everybody has a plan until they get punched in the mouth.” I'm trying to give you the tools to avoid getting punched in the mouth in the first place, but if you do take a punch, you should be able to counter punch. For us, that means using ways to eliminate emotion from trading, have a plan, and stick to the plan, understand the terrain, and have a map to negotiate that terrain. Our map is the charts. Stick to the chart, understand what the chart means, respect price.
Now what happens next week
I started by stating in the title of this piece that the jobless number is now solidified as a signal to sell off. The market was making new highs to levels that were clearly unsustainable, and I spent the last three articles stating that so I won’t repeat. That said, some of you might observe that the last four times didn’t perturb the market why would this Thursday be any different. The first thing to respond with is price, the incremental value of the future stream of cash flow no longer justifies the high value we reached. The other is equally obvious, we now are above $30 million out of work, which is more than the entire Great Depression. Likely next Thursday we will have another 3 million newly out of work. I think that's plenty of reason to sell going into that revelation. Add to that the historic overall April employment number next Friday will give us a climax of selling starting on Wednesday. Maybe the actual number on Thursday won’t be as bad expected and we end up rallying, but then I would expect an even bigger slam on Friday. How about this today, this Friday? Well, right now we are selling hard but it doesn’t feel like panic. Sure the VIX is down about 10% but that isn’t enough to qualify as panic selling. If the selling does get disorganized at the last 15 minutes then we would likely get a positive open on Monday morning. Do not buy that open - sell it.
Please respect your cash and tail it out very slowly. Treat any up day as an opportunity to sell not buy.
On Sunday, I will go through more about what I want to buy.
This article was written by
David H. Lerner is an analyst with a decade of experience utilizing his professional background in software consulting and technology to identify market trends and provide long and short trade ideas. David employs a combination of technical analysis and market psychology to capitalize on narratives for outsized returns. He also utilizes “Cash Management Discipline,” a simple trading style to hedge against the volatility of today’s market climate.
He leads the investing group Group Mind Investing where he uncovers actionable trading and investing ideas nearly every day. Other features include: long and short swing trade alerts, daily macro analysis, weekly articles, and chat for community interaction and questions. Learn More.
Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within 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.
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