The Sixth Day
Wednesday, December 31, 2008
A Rally within a Bear Market
From the lows reached a few days before Thanksgiving, stock indexes have risen about 20%. Do not be fooled by this rally into thinking the Bear Market is over .
A true Bear Market is characterized by falling price earnings ratios. Serious bear markets usually end with P/E ratios in single digits, often in the six to eight range. According to the estimate of Standard & Poors Corporation, based on reported earnings as of December 23rd, the S&P 500 price stands at about 18 times 2008 earnings.
If the P/E ratio falls to nine times earnings, then the S&P 500 could to fall to about 450. In recessions during the last forty-five years, earnings have fallen by ten to twenty-five percent. If that is factored into the equation as well, you can imagine that we are still in for a lot of pain.
I say "we" and not just "investors" because the recession will produce more job layoffs, serious distress for state and local governments, and enormous federal deficits.
Investors would be wise to sell on rallies and keep cash in short-term U.S. Treasury securities. This is a good time to invest with the philosophy of Depression era comic Will Rogers' who said, “I’m more concerned about the return ‘of’ my money than the return ‘on’ my money.”
In my next post, I will spell-out why deflation is the problem we now face and why the government can do so little to stop it.
Never forget, times of financial stress are also times of financial opportunity.
A true Bear Market is characterized by falling price earnings ratios. Serious bear markets usually end with P/E ratios in single digits, often in the six to eight range. According to the estimate of Standard & Poors Corporation, based on reported earnings as of December 23rd, the S&P 500 price stands at about 18 times 2008 earnings.
If the P/E ratio falls to nine times earnings, then the S&P 500 could to fall to about 450. In recessions during the last forty-five years, earnings have fallen by ten to twenty-five percent. If that is factored into the equation as well, you can imagine that we are still in for a lot of pain.
I say "we" and not just "investors" because the recession will produce more job layoffs, serious distress for state and local governments, and enormous federal deficits.
Investors would be wise to sell on rallies and keep cash in short-term U.S. Treasury securities. This is a good time to invest with the philosophy of Depression era comic Will Rogers' who said, “I’m more concerned about the return ‘of’ my money than the return ‘on’ my money.”
In my next post, I will spell-out why deflation is the problem we now face and why the government can do so little to stop it.
Never forget, times of financial stress are also times of financial opportunity.
Labels: bear, deflation, economy, stock market
¶ 5:16 PM 0 Comments
Sunday, March 02, 2008
Rising Risk - Final Installment
Ninth, the shadow banking system, made up of non-bank financial institutions, will soon be in trouble. Like banks, they borrow short-term money (for a bank this is taking deposits) and lend the money to longer term borrowers. They can have a liquidity crises if the short-term money is withdrawn and they cannot immediately call in their long-term loans. Banks can borrow from the Federal Reserve to meet this type of liquidity crises but the financial institutions in the shadow banking system cannot.
Tenth, stock markets in the U.S. and worldwide will fall further if it becomes clear that there will be a severe recession in the U.S. rather than a mild recession such as the two we had in the last fifteen years. In a typical U.S. recession the S&P 500 falls 28%. A fall of that magnitude or larger could cause hedge fund bankruptcies as well as possible failures of other financial firms.
Eleventh, the credit crunch can cause financial markets that are normally very liquid, such as derivatives, to freeze up. This is what happens if institutions loose confidence in each other and are unwilling to make the normal day-to-day transactions that keep money and goods moving around the world.
Twelfth, the cycle of illiquidity, credit contraction, and losses can force more fire-sales of assets at below their fundamental values. If this cycle begins to spiral down, then losses will multiply and the situation will become increasingly severe. This could become the worst financial crises of the last twenty-five years.
The ability to avoid such a scenario is dependent primarily on the U.S. Federal Reserve to have a coherent, timely, and credible response. This is a tall order. Because of the risk involved, one should be prepared for the worst.
Once again, this is a summary of Twelve Steps to Financial Disaster by Professor Nouriel Roubini. More information is available at http://www.rgemonitor.com/
My advice to everyone reading this summary is to maximize your own liquidity. That is, pay down debt and maximize your holdings of cash and bank deposits. Do not hold ownership investments in financial firms. Favor investments in natural resources and inflation hedges such as gold or silver.
While a financial crises is not a good thing, it can cleanse the financial system of past mistakes and lead to a better tomorrow. Do not panic. If your trust is in the Lord, you can weather any crises knowing that ultimately, He is in control!
Tenth, stock markets in the U.S. and worldwide will fall further if it becomes clear that there will be a severe recession in the U.S. rather than a mild recession such as the two we had in the last fifteen years. In a typical U.S. recession the S&P 500 falls 28%. A fall of that magnitude or larger could cause hedge fund bankruptcies as well as possible failures of other financial firms.
Eleventh, the credit crunch can cause financial markets that are normally very liquid, such as derivatives, to freeze up. This is what happens if institutions loose confidence in each other and are unwilling to make the normal day-to-day transactions that keep money and goods moving around the world.
Twelfth, the cycle of illiquidity, credit contraction, and losses can force more fire-sales of assets at below their fundamental values. If this cycle begins to spiral down, then losses will multiply and the situation will become increasingly severe. This could become the worst financial crises of the last twenty-five years.
The ability to avoid such a scenario is dependent primarily on the U.S. Federal Reserve to have a coherent, timely, and credible response. This is a tall order. Because of the risk involved, one should be prepared for the worst.
Once again, this is a summary of Twelve Steps to Financial Disaster by Professor Nouriel Roubini. More information is available at http://www.rgemonitor.com/
My advice to everyone reading this summary is to maximize your own liquidity. That is, pay down debt and maximize your holdings of cash and bank deposits. Do not hold ownership investments in financial firms. Favor investments in natural resources and inflation hedges such as gold or silver.
While a financial crises is not a good thing, it can cleanse the financial system of past mistakes and lead to a better tomorrow. Do not panic. If your trust is in the Lord, you can weather any crises knowing that ultimately, He is in control!
Labels: bank, Federal Reserve, financial, stock market
¶ 9:02 PM 0 Comments
Tuesday, January 08, 2008
(Stock) Buyer Beware!
Markets proved again today (January 8, 2008) why this is a time for extreme caution. Risk is high. Watch out for a snap-back rally of a few hundred points. Do not be fooled into thinking it is a sign that that the correction is over. Instead, use it as a selling opportunity for your long positions.
I am a big fan of ETF's or Exchange Traded Funds. Now is the time to consider using them as a substitute for shorting stocks. For example, by buying DOG, you will have performance similar to having shorted the thirty Dow Jones stocks. It is neat, simple, quick, and relatively painless through your regular brokerage account.
You can Google 'ETF' and find lots of information on a wide variety of ETF's, both long and short.
I am a big fan of ETF's or Exchange Traded Funds. Now is the time to consider using them as a substitute for shorting stocks. For example, by buying DOG, you will have performance similar to having shorted the thirty Dow Jones stocks. It is neat, simple, quick, and relatively painless through your regular brokerage account.
You can Google 'ETF' and find lots of information on a wide variety of ETF's, both long and short.
Labels: ETF, investments, stock market
¶ 10:40 PM 0 Comments
