False Dawns, Big Trends, and a Lesson or Two From the Poker Room
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The broad market tone is mildly optimistic as another week comes to a close. The Dow, the S&P, and the Nasdaq 100 have all broken above clear resistance levels; the Dow having done so more convincingly than the S&P, with the Nasdaq’s breakout the strongest of the three.
The short-term advice seems to be “buy tech and buy financials.” Pundits are newly excited by glimmers of strength in beaten-up names like AIG (AIG:NYSE) and Citigroup (C:NYSE). Good news from Google has also helped the tech sector get some oomph.
To go with all this, the dollar has rallied a little in the past few days. The thought — or rather hope, at this point — is that the Fed may be close to finished cutting rates, and will try out some tentatively hawkish language in their meeting next week.
You might say that fear is taking a breather here. Precious metals and treasuries, two natural go-to areas when anxiety levels are high, are selling off in result.
To which I say, “Bah, Humbug. A pox on your weenie breakouts and short-term jitters.”
Be Wary of False Dawns
There’s nothing wrong with a little change in the weather, of course. Markets have to breathe in and out; nothing goes straight up or straight down. (Not forever, at any rate.)
The trouble with bear market rallies, though, is that the optimists are often far too eager to declare victory. Every lull in the action is a hint that the worst could be over. Every uptick that lasts for more than two trading days is a sign that the worst has passed.
Take a look at the Russell 2K iShares, for example. While the big indexes are rallying, the small-stock universe is still struggling. The green line represents the Russell’s 200-day moving average; we’re still well below that. Small-cap companies are a better bellwether for how things are going, in my opinion, because small business is closer to the pain. The little guy is feeling $3.50 a gallon gasoline a lot more than some behemoth like Microsoft.
Speaking of behemoths, the large-cap indexes are closer to their 200-day moving average thresholds, and in some cases flirting with a crossover. A permabull might look at that and say “Yep, we’re going to take that maginot line any day now. Just a matter of time!” Whereas the flexible trader merely raises an eyebrow and notes it might be time to play Whack-a-Mole again soon.
The problem with the recent shiny-happy talk is that bear market rallies often last long enough to pull in the foolish or the over-eager… and then promptly fail when the max number of buyers have been roped in.
That’s why, in an environment like this, it makes more sense to look at the big indexes with a skeptical trading eye, as opposed to a hopeful investing eye. I forget who said it first — maybe Jesse Livermore? — but it’s quite true that “hope is not a strategy.”
Why Ask Why
Remember that awful beer slogan, “Why ask why, try Bud Dry?” (To be honest, I wish that I didn’t.)
That’s the phrase that comes to mind here. Those who want to be cheery “just because” are shrugging their shoulders and saying “Why ask why?” To which the answer is, “Because it’s better to work with logic than emotion, genius.”
There’s nothing wrong with pessimism or optimism per se. It’s just more helpful when opinion is attached to fact… when there is a logical analysis of some kind.
Take this newfound hope that the worst is over, for example. Does it really make sense to think that there’s nothing more to come? That consumers had to go through just a wee little bit of belt-tightening, and now, even as food and gas prices are going through the roof and mortgage resets are coming through in waves, everything will soon be okay again?
Does it really make sense to think — or to hope, rather — that the worst of the financial news is baked in the cake, even as the smaller regional banks around the country are preparing to hit us with a fresh stream of write-downs and failures?
And most of all, is it really sane to pretend that the “Austrian End Game” — this cycle of boom and bust we have been working through for years and years and years — is just going to clear itself up now, and step quietly aside with no finale or fanfare?
It’s all well and good to be flexible, to go long or short for a quick trade. But it’s important to always have reason and logic behind one’s actions.
Smart traders adhere to this general rule of thumb — even the purely technical ones. If you’re going long because of a short-term breakout, fine. That’s your reason for being long. But without firmer grounding, that isn’t reason to stay long if the breakout fails. It isn’t reason to suddenly start feeling all shiny and happy about a situation without logic behind your change in sentiment.
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Tags: AIG, bear market, Citigroup Nasdaq, dollar, fed, Google, Ishares, precious metals, Russell 2K iShares, Small Cap Companies, US economy, Us Stock MarketAbout the Author
Justice Litle, Executive Editor for the Taipan Publishing Group and of the Free E-letter, Taipan Daily, has a unique background that has served him well in the markets. Originally pursuing a PhD and a life in academia, his career path changed forever after discovering The Investment Biker, Jim Rogers chronicle of macro investing by way of motorcycle.
Taipan Daily is your free resource for late-breaking investment opportunities to help you beat Wall Street to the profits. Filled with investment analysis and insight from every sector. Taipan Daily delivers just the right blend of safe opportunities with the fast-moving plays, so you have an insider's edge over Wall Street and other investors.