Feeds:
Posts
Comments

Posts Tagged ‘Risk’

What motivates the stock market to go up?  Well, lately it doesn’t take anything of real substance. A great consumer confidence number could be the reason (even though the consumer confidence report gets the consensus of only 5,000 households), a reduction in the loss of jobs for a month(even though the Government accounting method greatly distorts the actual loss of jobs),  positive earnings reports that surprise the analysts (even though most of those profits came as a result of extreme cost cutting)…Then there are the times that  Ben Bernanke speak.  Yes, his words can move a market.  He did so just last Friday.

Ben Bernanke said what investors wanted to hear – that the economy is indeed on the verge of recovery – and they responded with a rally that sent the major indexes to new highs for the year (yahoo.com). 

Did it sound something like the following?

“Our forecast is for moderate but positive growth going into next year. We think that by the spring, early next year, that as these credit problems resolve and, as we hope, the housing market begins to find a bottom, that the broader resiliency of the economy, which we are seeing in other areas outside of housing, will take control and will help the economy recover to a more reasonable growth pace.”

As John Hussman points out in his weekly writing, this was what Bernanke said in November 2007 right at the beginning of the bear market.  If you are stock market invested, these shallow reasons are why the market continues to go up. 

I know that my bearishness on the stock market is probably getting old by now.  In fact, I feel a lot like I did back in 2007 when it seemed like you couldn’t find anyone who is bearish.  The market welcomes any positive economic news as the worst is behind us and everything is great going forward.    The headlines are looking better.  However, the fundamentals behind the headlines are awful.  You might even get some positive economic growth numbers here in the near future.  Growth as a result from printing money and the Obama stimulus package is not real good health growth. 

The Bottom Line – As we continue to go up in the market, the risk continues to increase.  Caution is still warranted.

Read Full Post »

Well, I took the wrong time to take a vacation. A great deal of very important things occurred last week in the stock market and investors should be extremely cautious.  This morning I will take some time to get you caught up on what is occurring with price levels as well as what I believe to be a fundamental shift in the stock market. The stock market has been in a stock market rally from the middle of March at least until June 11. Since June 11, the S&P 500 has declined -7 %.

One of the themes that I have written about since the low in the stock market in March is the overall future direction of the stock market. If you ask most people on Wall Street, they will say the worst is behind us and we have started a period of recovery. I have argued the opposite. I feel that we are in a long-term bear market that started in 2000 and could last as long as 18 to 20 years (based on history).  Concerning out current situation, my analysis would suggest we have been in a bear market rally. This is a period of time where the stock market stops declining and starts what looks like a period of prosperity and recovery for investors.

These are mean periods of time for investors because they fool the vast majority of people into believing that the worst is behind us. When you look at how far up the stock market went in a small amount of time, it certainly would appear that the worst is behind us. At the same time, it also looks just like a typical bear market rally and not the start of a period of recovery.

Since the March low in the stock market, the question has been how long and how far the stock market will go up. It is a little too early to declare that the stock market rally is over. However, the evidence is building. The problems are becoming much too loud to ignore. So, let’s start with the evidence. We always want to look at price levels of the stock market. Price levels are determined by where the stock market closes at the end of each day. They can tell us a great deal about the level of risk that we are facing.

If we manage to stay above certain price levels, then stock market investors should feel comfortable with taking risk by investing in stocks. However, if the market closes below certain price levels, then the probability increases that stock investors will lose substantial amounts of money. On June 11th, the S&P 500 reached its highest price level since the March low. That closing price level for June 11th was 944 on the S&P 500.

As of last Friday, we were at a price level of 879. The price level of 878 is the first level of risk for the stock market. Last week the S&P 500 fell below that level but has not closed below that level. Remember that the closing level is the most important one to watch. Once that level is broken, the next danger zone lies between 814 and 779. If you are heavily invested in stock, you do not want to see the S&P 500 fall below 779. In that event, I would think that the next price level down could be as low as 719 all the way down to 666.

The price level of 666 is extremely important because that was the March low of the stock market. In the event that would happen, that would be a considerable low and loss to stock market investors. For now, let’s not get ahead of ourselves. Keep in mind that investing in stocks is all about monitoring your risk. One of the best ways to do so is by monitoring price levels.

Read Full Post »

One of the most important aspects of determining risk in the stock market is watching price levels.  A price level is where the stock market closes at the end of the day.  If the S&P 500 ends the day at 895, that is the price level that we want to analyze.  Think of price levels as road markers.  If you are making progress and passing up important road markers, then you are making progress.  If you are not able to pass up important road markers, then you are losing ground. 

899 on the S&P 500 is an important price level.  The stock market fell below that price level yesterday, which is a warning sign.  You don’t want to stay below that level.  Now, the stock market will struggle to end a day back over that price level.  If it fails to do so in the near future, we might be looking at a significant decline.  The longer we stay below that price level, the greater the risk that the stock market rally that started in March is over.  As I have written since that rally started, we are always trying to answer one question.  Is this a pause in the bear market or is the worst behind us?  I still feel that this is a pause.

The next days will give us some clues.  Today is somewhat of a waste because the Federal Reserve Board is giving their Fed statement.  The market behaves very erratically on Fed Day.  Tomorrow’s reaction to the events of today will probably be more telling.

For those of you that follow technical analysis, there are two different moving averages – the simple and the exponential.  The price level of 899 represents the 200 day simple moving average.  The EXP 200 day moving average is 941.  The S&P 500 failed miserably at trying to close above that level.  While traders where cheering that the S&P 500 rose above the simple 200 day MVA, I think that many missed that the 200 day EXP MVA was a failure and a huge warning sign.  

Incidentally, the 200 EXP MVA gave its first warning November 7, 2007, when the S&P 500 was over 1500.  These moving averages are great indicators of bear and bull markets.

Read Full Post »

 As an investment manager, I am constantly looking into the future and evaluating indicators to determine which investments make the most sense.  Since originally warning of the risk in stocks back in 2007, my indicators have not given any signs that the risk for being in the stock market has changed.  As long as the bear market is around, investors really need to be careful regarding the amount of money that is invested in stocks and stock-based mutual funds.

 

What has to change for stocks to be a prudent choice again?  Although there is a laundry list of reasons for investors to be cautious, one risk remains at the top of the list.  It has been the driving factor for the credit crisis.  Until we get past the foreclosure crisis, I believe this bear market will remain in control.

 

In the simplest of explanations, the foreclosure problem can be explained this way.  For years, the mortgage industry gave loans to people who could not afford them.  For example, Joe wants to buy a home.  He goes to the mortgage company and finds out he can qualify for up to a $100,000 home.  The mortgage company determines that loan amount by looking at Joe’s income and expenses.  Joe can afford the $1,000 a month mortgage. 

 

The mortgage industry thought that it would be a good idea to come up with loans other than a 30-year or 15-year mortgage.  With these new loans, that $1,000 a month payment would purchase a much bigger house.  In fact, it is possible that the $1,000 a month payment could buy a house valued at as much as $400,000.

 

In order to accomplish that magic number, the mortgage company had to make a few adjustments to the traditional loan.  First, they arranged it to where Joe just paid the interest for that month versus interest and principle.  This one little change made a big reduction in the amount that he had to pay. 

 

Second, they were able to give him an adjustable rate feature.  This gives Joe a much lower payment the first 3 years or so.  However, that rate adjusts after the first 3 years and the $1,000 goes up to $2,500 a month.  By then, the mortgage company rationalizes with Joe that he can simply refinance the mortgage and get the payment more manageable.

 

So, imagine millions of people just like Joe taking out adjustable rate mortgages and facing a higher mortgage payment in the future.  This is what has happened.  Millions of adjustable rate mortgages had a payment change and the consumer couldn’t afford the mortgage anymore.  They couldn’t refinance the home because the home was now “under water” or worth less than the mortgage.  This is what led to the foreclosure crisis. 

 

So, if we had hundreds of thousands of people facing higher payments in the year ahead, would it be reasonable to assume that we could have a high number of foreclosures? 

 

Well, this is what I wrote to my clients in 2007.  I showed the following graph which pointed out the billions of dollars of mortgages that were about to have higher monthly payments. You can see by this graph that during the first quarter of last year, the largest number of mortgages changed.  As a result, we had the beginning of the worst of the foreclosure crisis last year. 

   

 

Unfortunately, that was round 1 of the foreclosure crisis.  That graph only represented sub-prime mortgages.  Now, we have all of the other types of mortgages whose monthly payments will change coming due this year and into next year.

 

  

This graph shows that we are at the beginning of payment changes for mortgages that will not peak until 2011.  It looks like we will not be out of this problem until 2012. 

 

When you have waves of foreclosures, you have problems with the banking system and everything that is tied to those mortgages.  It gets much more complicated.  To make the problem more challenging, a good percentage of these homeowners owe more than the house is worth.  Look at the following percentages of homeowners with the various types of mortgages:

 

73% homeowners with Option Adjustable Rate Mortgages owe more than the value of the house.

50% homeowners with Sub-prime Mortgages owe more than the value of the house.

45% homeowners with Alt-A Mortgages owe more than the value of the house.

25% of Prime Mortgages owe more than the value of the house. 

 

Contrary to what the Government and Wall Street want you to believe, the risk is still extremely high for the economy and the stock market.  What has plagued the stock market is still the problem. 

 

So what is the bottom line for investors?  There are two things to consider.  First, make sure you understand the amount of risk that you are taking in your company 401(k) plans.  Remember the easiest way to define risk is by looking at the overall percentage of your plan that is invested in stock-based mutual funds or individual stocks.  Second, if your money is with a financial advisor, find out what their strategy is in the event that the bear market is not over.  If they have no strategy and instruct you to just “ride it out,” move your money to an advisor that can manage money in a bear market. 

 

It has never been more important to understand risk than today.

Read Full Post »

Well, the results of the stress tests were revealed this past week.  It turned out to be much ado about nothing.  In fact, most of the banking stocks went up on the news.  It does leave the question as to what the Obama Administration is really trying to accomplish through a process that didn’t make much sense.  For now, we will leave speculation for speculation’s sake.

I found it interesting as to the criteria that was used in stress testing the banks.  They were looking for how the banks would react to the worst case economic situation.  Over the weekend, Alan Abelson wrote about the criteria in his article in Barrons:

“The “worst-case scenario,” as the cliché goes, that the Fed crew was able to dream up was one in which the unemployment rate, already a hair under 9%, would rise to 10.3% next year, housing prices would fall another 22%, and the economy — which has been shrinking at more than a 6% annual rate the past two quarters — would contract at a 3.3% pace.”

Well, I think that we could easily see 10.3% in unemployment.  Of course, that is dependent on how aggressive the Government gets with their monthly job “estimate.”  A decline in growth of 3.3% is also not unlikely.  That scenario would produce 599 billion dollars of loss for the banking system.  Now can you imagine the armageddon outlook if you were to come up with a realistic worst case scenario?  

Then there were the unemployment numbers.  I wrote about the numbers in detail on the Prudent Money Blog this morning.  It is funny that no one is writing about the creation of the 226,000 jobs out of thin air estimated by the Government in the jobs report.  Can the Obama Administration really pull off this illusion making everyone think that everything really isn’t that bad?

Well, the stock market certainly thinks so.  The market continued the rally this past week.  Thus far, the S&P 500 is up 40% from the price level of 666.  This falls right in line with what happened in the 1929 bear market.  The major stock market rally in that bear market was up 46%.  Keep in mind that even with this stock market rally, we are still a little bit over -40% from the highs in October 2007. 

I put together a very detailed analysis in my recent letter to my clients.  After going through that process, I have some very strong technical evidence that this is nothing more than a bear market rally and its days are numbered. 

Keep in mind that everything gets exaggerated in this type of bear market.  The moves both up and down are much bigger.  Guard your risk very closely!

Read Full Post »

As the news and analysis continues to flow from this stress testing of the banking system, I become more and more disturbed.  The Government decided it would be a good idea to run a simulated stress test on 19 of the largest banks in the  United States.  They want to make sure that they banking system can handle the worst situation.  The Government has the results of the test and have told the banking system.

The Government is basically telling the banking system whether or not the individual banks are weak or strong.  They are doing this based on their own system.  In other words, career politicians and in some cases, individuals who have never run a bank before, are telling bankers about their health based on a simulated experiment.  Those results were due to be released tomorrow.  Then it was changed to Thursday.  Now it has been changed to Friday.  Banks are up in arms about the results and don’t necessarily agree with the Government’s assessment.

The Government is now giving banks mandates and telling them that they have to raise capital.  Citibank is rumored to need 10 billion dollars in extra capital to meet the Government mandate.  For the weaker banks, they will be forced to give the Government more and more ownership through the use of common stock. 

So, go with this scenario with me for a while. There was a king who wanted to take over the entire country.  The king  knew that he had to control most of the country’s businesses in order to have complete control over the system.   So, the king had his servents assess the local businesses.  The servents reported back to the king that the businesses were weak.  The king said that they had to triple their sales in a week or he was going to take ownership.  The businesses knowing that this would be impossible had to give up control.  As a result the king controls the country.

The red flags are flying and the Government is taking a step-by-step approach to get ownership of the banking system and this seems to disturb only a small percentage of Americans.  For that, I have no answer.  Maybe I am completely off base and paraniod.  It woulnd’t be the first time.  I just know two things.  First, politicians have never proven that they can be trusted.  Second, the Government is seeking to control alot of our once capitalistic system and doing so at an alarming rate of speed.  Paranoid?  I don’t think so.

With stress testing and swine flu outbreaks (probably a little overrated) as the backdrop, the market continues to march higher.  At this point it looks like the S&P 500 has a date with destiny at the price level of 900.   Analyst Jeff Saut posted his weekly commentary this morning and wrote that he characterized the last 9 weeks as a buying stampede.  It is a period where investors stampede into the market and buy as much stock as possible.   His analysis shows that the longest buying stampede that he has on record is 41 days.  Currently, we are on day 39 of the buying stampede.  We are also at a point where the stock market (S&P 500) is almost positive for the year.  That would occur at a close above 903. 

If you are wanting to reduce risk by selling stock, there might not be a better time to do so. As this rally continues, the risk grows greater and greater.  If you were going to stay fully invested you would do so based on the notion that all of the worst is behind us.

Read Full Post »

The bottom line:  As long as the ranks of the unemployed continue to increase, the damage to the economy will worsen.  As a result, risk for a continuing bear market remains high. 

Yesterday, I wrote about a discussion that I had with a friend of mine that manages money. 

My friend completely disagrees with me regarding my cautious outlook.  His argument is that there are a lot of risks in the stock market.  However, the market is comfortable with that risk.  In other words, we have seen the full extent of the risk.  If you think about it, it is the big surprises that cause the large declines in the market.

Although I agree with that opinion, I don’t agree that the worst is behind us.  We have to consider the problems that are brewing on the horizon that have yet to become a full blown problem. 

I wrote that the stock market can get comfortable with the risk that can be seen.  However, at the same time, there can be a category 5 financial storm brewing out in the distance that has yet to arrive.  So, I wanted to write about what I feel makes up that category 5 financial storm.  Today, I will talk about unemployment.

I really do feel that this is the biggest symptom of the financial crisis that can cause the greatest problem.  There are a few ways to look at unemployment.  We can look at the monthly report which shows us the unemployment report for the past month.   You have to be careful deriving to much from this report.  The monthly unemployment report is really telling you old news.  Those unemployment numbers are a result of weak economic conditions that have already occurred. In fact, an economy will start to recover well before the employment situation gets any better.

Then we can look at the weekly jobless claims.  This gives you real-time information showing how many people are receiving unemployment benefits from the Government as well as how many filed first time claims the week before.  This weekly number continues to climb and it seems that we continue to see weekly records.  Currently, over 6 million people are claiming unemployment benefits.

The Government gives their “version” of the unemployment number each month.  It is grossly understated.  It doesn’t give you an accurate look at unemployment.  It doesn’t account for so many people who have fallen out of the system.  Plus, they include an estimate of how many people that they think received jobs that the report didn’t cover. 

The real number according to the analysts who really follow the real statistics is closer to 19%.  Keep in mind that during the Great Depression the number was 25%. 

I believe that the unemployment situation in America has gone past the point that it can be easily fixed.  Thus this unemployment problem could be around a lot longer than anyone expects.  It is like cancer.  The longer the cancer is allowed to be a problem the more damage is done.  The bigger problem is that the Government is doing very little to fix the unemployment problem which just exacerbates the problem. 

The bottom line:  As long as the ranks of the unemployed continue to increase, the damage to the economy will worsen.  As a result, risk for a continuing bear market remains high.  Tomorrow, I will go over the second reason.

Market update – The stock market is grappling over the potential of a real problem with the swine flu.  It is way too early to determine how big of a problem this will become. However, experts say that timing-wise we are due to experience a pandemic.  It warrants keeping a close eye on this one.

Read Full Post »

Older Posts »