Please Note: Blog posts are not selected, edited or screened by Seeking Alpha editors.

Update For Portfolio Positioning And Management As Of 9/12/15

|Includes: Vanguard Global Minimum Volatility Fund Inv (VMVFX)

I last updated this topic here: Update For Portfolio Positioning And Management As Of 9/1/15 - South Gent | Seeking Alpha

Static vs. Dynamic or Tactical Asset Allocation:

I have never been an investor who relies solely on a static asset allocation approach. I am using static and passive interchangeably here. Asset Allocation: Is Yours Static or Dynamic?

In a passive asset allocation scheme, the investor assigns how much to invest in each asset class, and the percentage allocation does not change based on events external to the investor.

Target mutual funds apply some variation of a static asset allocation model.

I have linked two Fidelity "Freedom" funds below that assume a retirement on or near the target date. These are highly developed static type funds with a lot of sub-asset dispersals. I am going to include a snapshot to highlight how the percentage allocations to asset categories change based on age:

FFFVX 2005 Fund

FFTHX - Fidelity 2035 Fund

Note the much higher bond and cash allocation in the 2005 fund compared to the 2035 target age retirement fund.

I would note that the 2035 fund (MUTF:FFTHX) has an average annualized total return of 4.99% over 10 years through 9/11/15. The more simple Vanguard STAR (MUTF:VGSTX) fund, which is an asset allocation fund that is not based on retirement ages, has a 6.08% total average annualized return over the same ten year period.

When looking at the asset allocations of target funds, the main determinant in percentage allocations is the investor's age. The allocations to bonds and cash go up as the investor becomes older.

The more simple model would be to own a few low cost index funds and to rebalance each year in order to restore the original assigned percentage allocations.

A static asset allocation approach can allow for changes in allocation percentages based on risk tolerances and other criteria. Static allocation also emphasizes diversification of asset classes. Periodic re-balancing among asset classes is generally a requirement to bring percentage back to the original static allocation. Over time, the percentage allocations would change some based primary on age.

The most fundamental problem with this approach is an assumption that the future will be like the most recent past. Unfortunately, that is frequently an absurd and harmful assumption to make.

When planning for the future, can I even rationally use the past performance of bonds after a 32 year bull market in assigning an allocation to bonds for the future? Interest rates across the bond maturity spectrum and bond categories are near historic lows. It is entirely possible that bonds will provide negative real rate of returns over the next decade or longer provided an investor uses the bond funds found in target allocation funds or relies on a low cost bond ETF like the Vanguard Total Bond Market ETF (NASDAQ:BND) which currently has a yield near 2.2%. While that yield could provide a real rate of return over the next ten years, that kind of fund will not likely produce a meaningful positive total return and could easily produce a negative real total return over a long period of time.

A simple discussion of static asset allocation theory can be found in the recently released little book by David Darst called The Little Book that Still Saves Your Assets: What The Rich Continue to Do to Stay Wealthy in Up and Down Markets. That is a good book for beginners or anyone who has never thought about asset allocation or practiced it. A more in depth look or much harder to understand can be found in Roger Gibson's Asset Allocation: Balancing Financial Risk, Fifth Edition and William J. Bernstein's books.

In my view, the advocates for static asset allocation can not explain how it makes a meaningful and positive contribution to an investor's net worth in periods like 1966-1982 when both stocks and bonds failed, or 2000 to March 2009, or from 1929 to 1940 when stocks crashed and burned.

The static allocation theory says start with a fix allocation to stocks, bonds and other asset classes, even when one or more of those asset classes are in a long term secular bear market.

Long term secular stock bear markets can easily last 10 to 15 years.

The last long term bond bear market lasted about 32 years!

This chart shows the rise in the 10 year treasury yield starting around 1950 and peaking in 1981. CHART

This static allocation approach sounds great until one of the major asset classes goes into the crapper for 15+ years and an investor is reallocating more funds to that declining asset class in periodic rebalancings.

Selling stocks to buy bonds would have clearly been counter-productive between 1950 to 1966 unless one believes that a viable strategy is to sell what keeps going up to buy what keeps going down.

Maintaining a high allocation to bonds and/or stocks between 1966-1982 would have produced negative real rates of return over a long period, unless the asset allocator made major adjustments that are inconsistent with all static asset allocation strategies including those employed by the vast array of target funds.

A higher allocation to high quality treasury bonds would have been beneficial over the past 15 years, and that has nothing to do with an investor's age.

An important point is simply that most households have a narrow time frame where they can save and invest meaningful amounts of money due to significant cash drains for expenses that are accompanied by lower incomes earned generally in the 21 to 45 age range.

If a period of a meaningful accumulation of investable savings coincides with a long term bear market in one or both major asset classes, then the real rate of return could easily be negative following a static allocation approach when the household requires assets to grow at a 6%+ annualized real rate to meet a realistic assessment of their financial needs.

The following numbers highlight the problems of static stock allocations:

Annualized S & P 500 Total Returns (Dividends Reinvested and Adjusted For Inflation):

Long Term Bear Cycles:

January 1966 through July 1982: -1.813% per year (-26.055% in total)

April 2000 through February 2009: -7.163% per year (-48.134% in total)

To highlight a more recent and longer period of time, the total annualized and inflation adjusted return starting in April 2000 through August 2015 was +1.641%.

I could have captured excellent annualized total returns adjusted for inflation returns during shorter time periods (e.g. March 2009-April 2015: +18.566% and reduced to +16.267% through August 2015)

Long Term Bull Cycles:

January 1949-December 1965: +14.183% (per year)

January 1966-March 2000: +15.546 (per year)

Sourced: S&P 500 Return Calculator - Don't Quit Your Day Job

Investing during long term stock bear markets and/or catastrophic stock market declines can work, however, provided the investor is young enough to recover.

My first words uttered in 1951, as I recall, was buy the S & P 500 at 20, but no one was listening and I had zero funds to invest.

It would also be necessary to buy during those bad times, both through dividend reinvestment and new money purchases. I am basically talking about a lifelong buy and hold approach for a youngster here.

There is an entirely different outcome when the investor has to liquidate positions to meet expenses during those long term bear cycles in stocks and/or bonds.

Stocks were in a bull market between 1950 through 1966, as noted above, while bonds were in the first phase of a horrific 32 year long term bear market during that period. Why would an investor sell stocks during their bull run to buy bonds that produced negative real rates of return? Isn't the goal to increase your asset pile sufficiently to meet an investor's financial objectives?

The risk inherent in any long term secular bear market is extremely important to the vast majority of individual investors. It would include the risk, for example, of retiring soon after the start of a major bear market depending on a stock portfolio to provide income. Then, during the bear market, stocks plummet over 50% and corporations including most banks cut or eliminate their dividends, the primary source of income from stocks for individuals. Does that sound familiar? Investors were lucky that the world did not crater into another Great Depression; and there was a relatively quick recovery from the low hit in March 2009.

There are countless examples of major situational risks that each individual faces, and it is not hard to visualize them.

Static asset allocation will work when both major asset classes, bond and stocks, are in a long term secular bull market such as the 1982 to 2000 period and would even prove beneficial at times when stocks went into a cyclical bear market (October 1987 crash), significant correction, or a bubble in valuations (e.g. 1999) assuming that the rebalancing occurred prior to those events.

It will not work when both stocks and bonds are in long term secular bear markets (1966-1982) or when one of the major asset classes in producing negative real rates of return over a long period of time.

In dynamic asset allocation, the percentages also have to change based on circumstances independent of one's personal needs and objectives due to external events. In the period 1978 to 1982, I was a young man so my exposure to stocks would be fairly high under any static asset allocation model. I had almost no exposure with a 400 share lot of Duke being my last purchase around 1978 until June 1982.

Instead, I was investing mostly in short term debt instruments paying me over 10% and I did not lose a dime. Yields on short term bank CDs reached 15+% during that period. Around July 1982, I made a decision to start investing in stocks again and opened a brokerage account at Charles Schwab.

There was also back then a real estate bust. I looked around for a good lot for a home, found one that was over an acre and started to build a home. Besides having a place to live, I viewed the home as an investment that would appreciate tax free (or tax deferred) at a 4 to 5% compounded rate, so it was similar to buying a non-callable long term AAA municipal bond backed by U.S. treasuries since I did not borrow money to build it. It was an opportune time to invest in real estate coming out of a real estate recession. Construction workers were motivated to work and suppliers were just looking for a paying customer, and it was consequently an inexpensive period to build a new home.

In other words, I did a major percentage asset shift from safe high yielding investments to real estate and stocks in the summer of 1982. I did not call it then a dynamic asset allocation model, but that was exactly what I was doing. My regret was that I did not add some long term treasury bonds when the yield was 15%.

I do not regret avoiding most stocks from 1969 to 1982, even though I was young and generally a frugal person who saved money rather than finding creative ways to spend it on stuff long since forgotten and decaying now in a trash dump somewhere.

I have discussed my VIX asset allocation model extensively here at SA and in my blogs since October 2008. This would be part of dynamic asset allocation model.

It would cause a shift in stock allocation and/or trading strategies based on what was happening in the market rather than something peculiar to me like my age, needs, or risk tolerance.

Other tools that I have used in dynamic asset allocation are to make significant reductions in any asset classes that was undergoing parabolic upward moves, with the difficulty being to decide when to sell during the crazy period.

Reductions are frequently based on time tested valuation criteria such as the market averages historical P/E ratios (reduce stocks for example when the S & 500 is selling at over a forward looking 18 P/E regardless of any other indicator, more if over 20 while adding back during bear markets by reinvesting dividends and deploying excess cash flow to buy stocks).

Sometimes I might just rely on my opinion about cycles. There is a rhythm and symmetry to it all.

There can not be a total reliance on any one tool that causes a shift in allocation percentages to different asset classes.

At my age and overall risk tolerance, I am reducing my stock exposure some and would do so under both static and dynamic asset allocation models. For a long time, I did not own a single bond, nor did I maintain a significant cash allocation as a buffer against corrections and bear markets. I own a variety of fixed income securities and funds now, and I have a significant cash allocation.

Major shifts in asset allocation percentages have to occur based on events unconnected to me. Some would call that market timing and that charge may be correct. There is a market timing element to it. But some degree of market timing for asset allocation is needed in periods other than a long term secular bull market for major asset classes.

For me, reductions in asset classes can still be based on factors advocated in the static allocation model such as my age and periodic re-balancing by selling some in a winning asset class to buy more in one that has not kept up or even declined.

I still seek diversification and non-correlated or low positively correlated asset classes.

I will not do a huge shift out of an asset class like stocks anymore taking the allocation down to zero. If bonds start to crater due to a non-temporary rise in interest rates, I will simply sell longer duration bond funds and bonds and use the proceeds to build a short term bond ladder.

This table shows how bond ladders would have fared during the 1950-1981 secular bear market. crestmontresearch (e.g. a 5 year ladder has better returns than a 7 year, and a 7 year does better than 10, and so on) Generally, the shorter duration ladders will work better than longer duration ones during a long term bear market in bonds, and the reverse is true when the long term bull cycle comes around. So how does that fit into static asset allocation models that now exist?

The dynamic asset allocation model that I use is personal to me, my age and financial circumstances. The major difference in a dynamic model and the static one advocated by financial advisors is that significant shifts in percentages has occurred and will continue to happen based on external events that have nothing to do with me or my circumstances.

I will be discussing recent external events in this post that will impact my asset allocation and trading strategies.

The most important is the Trigger Event in my Vix Asset Allocation Model.


My Vix Allocation Model has flashed a Trigger Event ("TE") signal: A Trigger Event In The Vix Asset Allocation Model 8/31/15 - South Gent | Seeking Alpha

The Trigger Event is a bearish signal that requires me to research its likely causes and to give serious consideration to reducing my overall stock allocation.

The Trigger Event is a warning signal that stocks have become riskier than during the Stable Vix Pattern that preceded the Trigger Event. The TE ushers in what is called the Unstable Vix Pattern that has historically been a wild roller coaster ride going nowhere and has generally contained during its existence one or more bad stock market events (October 1987 crash; the 2008 Dark Period; the 50% or so 2000-2002 decline; stocks drops in October/November 1997 and in the late Summer and Autumn of 1998)

I have reproduced in the Appendix what happened after the TE events in August 2007 and in October/November 1997.

Unstable Vix Pattern-Trading and Asset Allocation

As noted in a prior update, I had completed a housecleaning in my stock allocation that had raised about $70K before the stock market started to tank last month: Update On Portfolio Management And Positioning As Of 8/18/15 - South Gent | Seeking Alpha

This is a quote from the post:

"I continue to pare and eliminate stock positions and then slowly redeploying the funds.

In this post, I will be discussing the elimination of two stock mutual funds that raised together almost $20K.

Along with other recent dispositions, I have raised my cash allocation by close to $70K. I am slowly redeploying that cash into other stocks and stock funds in my typical slow mo fashion. Ideally, I would like for the market to down quickly by 20% now.

My overall cash allocation is currently slightly over 30% of investable risk assets."

I have been slowly redeploying those proceeds, mostly into equity REITs, equity preferred stocks, and exchange traded bonds. Those securities will generally produce yields in the 6% to 10% range and consequently provide cash flow that can be used to buy more of the same.

The most important development in my portfolio management was to open an Interactive Brokerage account where my commission cost is $1 compared to $7.95 at Fidelity. I am funding the IB account with excess cash in my Fidelity taxable account. The reduced commission will allow me to cost effectively buy small lots and virtually everything bought now is in 50 share lots with an anticipation that further buys will be at lower levels.

When risks weigh toward the downside, I am reluctant to take an entire position in anything with one order. Instead, I will use downdrafts to add to an existing position, or to initiate a new one, using mostly 50 and 100 lot orders. At some future time, I would hope to reverse the process, in whole or in part, by selling my higher costs lots profitably and to keep one or more of the lowest cost lots. The general idea is to harvest income without losing money on the shares, measured in years rather than days or months, and to end the process with the lowest cost shares that provide the highest yield at my constant total cost numbers. Then, assuming those lower cost shares are still owned when a cyclone hits the market (e.g. 2008), I would consider averaging down when a purchase would lower my average cost per share and then repeat the process of selling my highest cost shares which were the lowest cost shares pre-tsunami.

U.S. Recession Odds Have Increased:

Many investors prefer to isolate events happening around the world into discreet and isolated segments. One of the current favorites, as expressed recently by a GS strategist, is to say that China does not matter to the U.S. since exports to China accounted for only 7% of U.S. exports or just 1% of GDP.

Before delving into whether a focus on just those export numbers can be compartmentalized and treated as an isolated event with no other other actual and potential adverse ramifications for the U.S., I will first discuss in more detail U.S. exports to China.

Total U.S. exports to China have grown from $40.5B in 2005 to $120.8B in 2014. As a result of that growth, China is now the third largest U.S. export market behind Canada, which is now in a recession, and Mexico. US State Exports to China (2005-2014) | US China Business Council

Some U.S. states

I would just emphasize that U.S. direct exports to China are obviously important to the U.S. economy.

The economic slowdown in China also negatively impacts other countries who have significant export trade to China including Taiwan, Japan, Australia, Brazil and Canada. Those slowdowns due in part to China important less then has a ripple effect on U.S. exports to those countries.

China's recent import and export numbers are consistent with a widespread slowdown that goes way beyond China.

China's exports declined 5.5% in August in dollar terms (6.1% in Yuan). Imports fell 13.8% in dollar terms (14.3% in Yuan). Shipments to Europe declined 7.5% and 1% to the U.S.

China's imports have declined for 10 straight months. Imports from Brazil and Australia have declined by more than 20% YTD through August. The slowdown in China's new construction sector, a major impetus for growth since 2008, has impacted imports from Brazil and Australia, and the prices of those imported commodities worldwide. The price crash in commodities precipitated a recession in Canada that is the largest importer of U.S. goods. So, it is all interconnected and the ripple effects and repercussions reverberate worldwide.

Major Countries in Recessions Now:

Brazil GDP Growth Rate | 1996-2015

Russia GDP Annual Growth Rate | 1996-2015

Canada GDP Growth Rate | 1961-2015

Japan is the world's leading exporter to China with South Korea holding the number two position: China Profile of Exports, Imports and Trade Partners

Japan reported that its GDP declined an annualized 1.2% during the second quarter. While that decline was lower than the previous 1.6% decline estimate, the less worst number was largely due to a pile up in inventories (which oddly increases GDP growth) due to sluggish demand.

QE measures do not appear to be working in Japan, and even Paul Krugman has started to worry about that economy slipping back into its 25 year slump, where deflation alternates with low inflation numbers with GDP growth being minimal to negative: Japan GDP Growth Rate | 1980-2015

In August, South Korean exports fell at the fastest rate in 6 years, falling 14.7% Y-O-Y. "South Korean Exports Falter on Lower China Shipments" - WSJ

U.S. Trade with South Korea

U.S. Trade with Japan

The foregoing linkages highlight one ripple effect across geographic boundaries.

As another example on how one event can have a ripple effect, a worldwide recession encompassing most of the developed and developing world, or just a prolonged period of abnormally low world growth, would further pressure demand for commodities which are oversupplied now that would then exacerbate bank loan losses to over leveraged commodity producers, particularly the U.S. and Canadian shale producers. I would expect that bankruptcies among marginal and over-leveraged E & P companies will accelerate throughout 2016 and into 2017.

Normally, it is bad real estate loans that causes banks to fail or at least tighten their credit standards. The next pullback in bank lending may have its origin in widespread loan defaults by E & P and related service businesses.

Irrespective of the cause, bank tightening of loan standards will deprive marginal businesses of air needed to breathe and to survive an economic downturn or abnormally low growth periods, as the banks tighten credit standards. Those businesses start to drop like flies and job losses accelerate outside of the industry sectors that provoked bank belt tightening. I am referring here to businesses in unrelated industry sectors.

Once a bank credit tightening cycle starts, then it no longer matters to the economy why it started. The implications for other businesses and the economy are negative:

Net Percentage of Domestic Banks Tightening Standards for Commercial and Industrial Loans to Large and Middle-Market Firms- St. Louis Fed

At the moment, this chart reveals two salient points. Credit standards are relatively benign for borrowers now; and it will not stay that way.

With a continuation in low commodity prices, a country that is already in a mild recession, such as Canada, digs into a deeper one, and U.S. trade to that country slumps causing more job losses in the U.S.

Canada is our largest trading partner, and their current slump is directly connected to the crash in crude and other commodity prices.

Portfolio Allocation and Trading Strategies:

1. Raise the Cash Allocation/Pared Asian Stock Exposure/Pared Exposure to Some Asset Classes

My first reaction was to sell Asian stock mutual funds, the epicenter of the most recent stock market earthquake, as was the case in 1997 and 1998. The largest elimination was the Matthews Asian Growth and Income Fund (MUTF:MACSX).

I eliminated my position in the Permanent Portfolio (MUTF:PRPFX) that maintains large and constant allocations to gold and silver bullion and natural resource stocks.

Those eliminations are discussed in a prior portfolio positioning update: Update On Portfolio Management And Positioning As Of 8/18/15 - South Gent | Seeking Alpha

Those two eliminations raised $19K+.

I also eliminated Matthews China Dividend Fund (MUTF:MCDFX) on 6/3/15, selling 204+ shares for a $821.83 profit, and a few smaller EM stock ETFs. The Matthews China Dividend mutual fund was sold in response to a clear dangerous parabola that had formed in that countries stock market. That elimination is discussed near the end of this update: Update On Portfolio Positioning And Management - South Gent | Seeking Alpha

All of those funds and other cash raises are being recycled slowly and methodically into U.S. centric businesses, primarily U.S. equity REITs whose share prices are down more than 20% from their recent highs.

2. I also noted earlier a widespread liquidation of securities priced in foreign currencies that were declining in price due to renewed U.S.D. strength. Given the comparative strength of the U.S. economy, I wanted to lower my foreign stock and currency exposures.

3. In the past, the VIX has returned to below 20 shortly after a Trigger Event. When and if that occurs, I will sell my entire position in the Vanguard Equity Income fund (MUTF:VEIPX) that was bought in 2009. I discuss this issue in the Appendix section below.

4. For as long as the Unstable VIX Pattern continues, I will be buying primarily when the VIX spikes to the high 20s or higher and selling when the VIX returns to temporary movement below 20. My buying will become more aggressive when and if there is a Catastrophic Event during the UVP, which is defined as a 45% decline in the SPX.

Trading Strategy Under The Vix Asset Allocation Model: Part 1 - South Gent | Seeking Alpha

Trading Strategy Vix Asset Allocation Model Part 2: Hedging In An Unstable Vix Pattern - South Gent | Seeking Alpha

I may use a worldwide recession to buy EM stock ETFs that can be bought commission free in one of my brokerage accounts. Those high beta stocks tend to go down more than SPX during a downturn and up more when the good times roll again.

My only new disposition over $3K was last Friday's elimination of the Vanguard Global Minimum Volatility Fund (MUTF:VMVFX):

Most likely, that cash raise will be gathering rays for awhile.

5. I will focus more on purchasing income generating securities in my new IB account where I am charged a $1 commission. I am going to immediately invest whatever funds are gradually shifted into that account over the next year or two, which will make it unlike any other account where I maintain significant cash balances. The general idea will be to have a mix of securities, with an overall yield greater than 6% on a total portfolio basis. Dividends will be paid in cash, aggregated and then deployed into whatever income generating security then looks like one of the best risk/reward income investments.


In this appendix, I am going to drag and drop some comments with some editing made earlier about what happened after the Trigger Events in 1987, 1997 and 2007:


I compiled some data on how long it took for the VIX returned to below 20 movement after the last reading over 26.

I will start with the 1997 TE since the turbulence starting in October 1997 had at its epicenter EMs.

TE Starts at VIX 31.12 Monday 10/27/1997

Last Day Over 26 on 1/12/98 at 28.02

The market was recovering in December with six consecutive readings in 20-25 range starting on 12/3/97.

The VIX has another 6 straight days in the 20-25 range between 12/30/97 and 1/5/98 before briefly popping out for just 3 days over 26:

VIX Historical Prices

Continuous movement in the 20-25 range, the stage usually found before the recovery period, started on 1/14/2008. That stage lasted 20 trading days before the VIX peeked below 20 on 2/12/1988, closing at 19.73.

The VIX thereafter kept popping out of the below 20 movement producing significant movement in the 22 to 25 range and one print over 26 (4/27/08). Those readings are consistent with the Phase 1 Unstable Vix Pattern. No stable Vix Pattern had been formed. The Unstable Vix Pattern comes back with a vengeance starting in early August 1998.

The SPX high before the 1997 TE was hit at 983.12 (10/7/97).

The SPX low during the TE was hit on its first day: 876.99

The SPX cleared the 983.12 on 12/5/1997 for just one day. That was when the VIX has 6 days of movement in the 20 to 25 range. The VIX close on 12/5/97 was 22.65 with an intra-day low of 20.41. The VIX close before the start of the TE was
23.17 (10/24/97).

A sustained movement over 983.12 started on 2/2/98 with a close that day at 1001.27.

Before the next major upheaval in the UVP, the high was hit at 1,186.75 on 7/27/98.

The next closing low during that prolonged VIX spike starting in August 1998 was at 959.44 (10/8/98) or 19.1% below the close on 7/27/98.

I would note here that the U.S. was not in a recession throughout this October 1997-1998 period of market turbulence. And the market would see lower lows again in 2002 than 960 and even lower lows than 2002 in 2009 prior to 3/10/09.

881.56 on 7/18/02

Historical Prices | S&P 500

Continuous Movement Below 900 Started on 1/9/2009:

Historical Prices | S&P 500

The closing low during this period was at 676.53 (3/10/2009)

Historical Prices | S&P 500

Intra-day low was at 666.79 (3/6/09)

By August 2009, SPX started to close over 1000 and was back over 1100 a few weeks later. Just to conclude this line, SPX closed at 1,363.61 on 4/29/11. There was then a 19+% decline that bottomed on 10/2/11 at 1,099.23, or below the highs hit in 1998 during the recovery period.

During the October 1997 to October 2011 period, there were stable and unstable VIX patterns but the market had deposited the SPX investor at a lower level on 10/2/11 than in the 1998 spring.

When discussing that period in the past, I have noted that the SPX chart reveals a classic bear market pattern, a roller coaster ride going nowhere, over that period.

And when the investor drills down to the core, the EM crisis in 1997 and 1998 was the first canon ball shot across the stern of the problems yet to come throughout the developed world.

You can see what I am talking about graphically by the JPM chart at page 4 of its last Guide to the Markets. The chart starts in January 1997. The first two rallies were huge at 106% and 101% but so were the declines of -49% and -57%.

That chart is in JPM's report dated 6/30/15 which can be downloaded here:

J.P. Morgan Funds - Guide to the Markets

I am not suggesting that the stock market is going to buffeted by those kind of events for the foreseeable future.

I do assert that all of the foregoing gyrations are connected to one another in several important ways.

In my view, the events between October 1997 through February 2009 were all related to the natural repercussions flowing from irresponsibility and irrational behavior that were in full bloom throughout that period. You could have sold SPX at 1100 in April 1998 and bought it back at 680 in March 2009. When you bore down to the core, that is what you find as the determining factor.

The debt induced crashes in the EMs in 1997 and 1998 were just one manifestation of borrower irresponsibility. The housing bubbles in the U.S. and elsewhere were the individual equivalent of what happened to governments in 1997-1998. Consumer debt loads in the U.S. started to accelerate way above historical norms starting in 1985, as millions of households used debt to fund spending. The bubble in all major stock indexes in the late 1990s, and the borrowings that help fuel it, was another example. I view all of the above to be all connected events. The housing bubble (2002-2007) and the stock market bubble (1998-2000) are flip sides to the same coin. These events come and go. The names change but many of them have as their origins a core human trait which is simply known as irresponsible behavior with the most notable manifestation being borrowing and spending too much money.

It is difficult to predict in real time the repercussions flowing from events that occur outside of the U.S. Who would have predicted in the problems in the second half of 1998 in October 1997 after the Thai baht devaluation? And, it may just be me, but I view China and its currency to be more important than Thailand and its Baht.

August 2007 Trigger Event:

The recovery period after the August 2007 TE occurred shortly after the TE and the SPX.

Highest Close Shortly Before the TE: 1,497.49 on 8/8/07

Lowest Close in TE: 8/15/07 at 1,406.70

Historical Prices | S&P 500

Sep 17, 2007 1,476.65
Sep 18, 2007 1,519.79 First Close above 8/8 and one month a few days after the TE's start.

Oct 9, 2007 1,565.15

Movement Below the TE lows starts Jan 15, 2008 at SPX 1,380.95 down from 1,416.25.

The November 2007 Confirmation Event knocked SPX off its October highs sending the average down to a closing low of 1,416.77 on Nov 21, 2007. VIX closed that day at 26.84, a number consistent with an ongoing UVP. The SPX high of 1565 on 10/0/07 corresponding with the lowest close in the recovery period at 16.12:

VIX Historical Prices

The next prediction made by the model is a broad one.

The next prediction made by the model is a broad one.

Based on history, the VIX will move out of the TE phase with continuous prints in the 20-25 range. The market will be recovering some but would still be in the sick ward.

Then, assuming the past is prologue, which has been the case so far during the VIX data series, the VIX will move below 20 for an uncertain period of time before popping back out of that movement in yet another spike toward 30. I call that temporary move below 20 a "recovery period."

That whipsaw pattern of up and down movement at elevated levels is the characteristic and predictable Phase 1 Unstable Vix Pattern. It is terminated only with continuous movement below 20 for 3 months or morphs into the catastrophic Phase 2 Unstable Vix Pattern as it did in late September 2008 after Lehman's failure.

However, based on the severity of the losses prior to that temporary movement below 20, the investor may not be able to sustain a meaningful SPX recovery. The VIX will go back under 20 but the SPX may then be a much lower levels. Historically, the market has been able to recover after a TE even to higher levels than before it started and the reason has to do with the tenacity of the bulls when they have made a lot of money during a long Stable Vix Pattern period. That is not a condition of the Model. A TE may end up being worse as far as SPX losses than during prior TEs.

The TE in the spring of 1987, based on the volatility date for the S & P 100, had a recovery period later that summer before the October 1987 crash.

1987 Trigger Event (based on volatility for S & P 100-VXO-VIX Data Starts in 1990)

May 4 27.18
May 1 28.22
Ap 30 28.45
Ap 29 29.22
Ap 28 31.2
Ap 27 31.46
Ap 23 29.13
Ap 22 27.95
Ap 21 27.22
Ap 20 27.18
Ap 16 27.48
Ap 15 27.59
Ap 14 28.97

Recovery Period: VXO Historical Prices

Aug 10, 1987 17.26 17.59 16.82 17.09 0 17.09
Aug 7, 1987 17.64 17.83 17.11 17.30 0 17.30
Aug 6, 1987 17.75 17.97 17.05 17.05 0 17.05
Aug 5, 1987 17.83 18.10 17.19 17.67 0 17.67
Aug 4, 1987 17.84 18.80 17.63 18.09 0 18.09
Aug 3, 1987 17.40 17.68 16.62 17.45 0 17.45
Jul 31, 1987 16.62 17.25 16.29 16.45 0 16.45
Jul 30, 1987 15.93 16.70 15.69 16.40 0 16.40
Jul 29, 1987 16.66 16.77 15.53 15.91 0 15.91
Jul 28, 1987 16.44 17.12 15.93 15.95 0 15.95
Jul 27, 1987 17.37 17.59 16.42 16.61 0 16.61
Jul 24, 1987 17.43 17.92 17.12 17.12 0 17.12
Jul 23, 1987 17.96 18.63 17.31 17.31 0 17.31
Jul 22, 1987 17.58 18.31 17.30 17.73 0 17.73
Jul 21, 1987 17.41 17.62 16.72 17.43 0 17.43
Jul 20, 1987 17.08 17.15 16.52 16.75 0 16.75
Jul 17, 1987 16.73 17.16 16.25 16.65 0 16.65
Jul 16, 1987 17.55 17.92 16.78 17.10 0 17.10
Jul 15, 1987 17.79 18.10 16.90 17.51 0 17.51
Jul 14, 1987 18.19 18.35 16.64 17.10 0 17.10
Jul 13, 1987 17.88 19.05 17.78 17.78 0 17.78
Jul 10, 1987 19.06 19.24 17.71 17.76 0 17.76
Jul 9, 1987 19.53 19.89 18.73 19.28 0 19.28
Jul 8, 1987 19.82 20.35 19.24 19.30 0 19.30
Jul 7, 1987 20.69 20.98 19.72 19.85 0 19.85

Disclaimer: I am not a financial advisor but simply an individual investor who has been managing my own money since I was a teenager. In this post, I am acting solely as a financial journalist focusing on my own investments. The information contained in this post is not intended to be a complete description or summary of all available data relevant to making an investment decision. Instead, I am merely expressing some of the reasons underlying the purchase or sell of securities. Nothing in this post is intended to constitute investment or legal advice or a recommendation to buy or to sell. All investors need to perform their own due diligence before making any financial decision which requires at a minimum reading original source material available at the SEC and elsewhere. Each investor needs to assess a potential investment taking into account their personal risk tolerances, goals and situational risks. I can only make that kind of assessment for myself and family members.