Tuesday Afternoon Reads–shares fall on bleak Chinese manufacturing data

links2Some things I’m reading this afternoon:

  • Shares fall on bleak Chinese manufacturing data (Dealbook)
  • Market pullback:  1997 or 1998?  Or 2011 or 2014 (FV)
  • The 1998 Playbook (PragCap)
  • Most volatile two weeks for crude oil since the financial crisis (Bespoke)
  • For 99 percent of investors, volatile markets with zero leadership mean do less, do it slower and keep it small (HowardLindzon)
  • Short-termism (AQR)
  • Market pundits weigh impact of recent volatility (Barrons)

Tuesday morning reads: a warning on China seems prescient

Some things I’m reading this morning:

  • Stock futures are decidedly up (Bloomberg)
  • A warning on China seems prescient (Dealbook)
  • Global stock markets rebound despite continued selloff in China (NYtimes)
  • What to do during market volatility? Perhaps nothing (Vanguard)
  • El-Erian: this is not 1998 or 2008 (Bloomberg)
  • Shoddy Chinese-made stock market collapses (TheOnion)

what happens next?

After a brutal day where the S&Ps dropped over 100 points at the open, came back to close to flat by lunch time only to finish down 77 points (-3.9%), the market is now down 10% during the month of August.  Morgan Housel writes:

…the market is where we are today [down 10%+] or lower from its previous all-time high about half the time. And again, that’s during a period when the market made millionaires out of modest savers.

Some more numbers for you: Historically, about one-third of 5% declines go on to become 10% declines. And about half of 10% declines go on to become 20%+ declines.

So, think about that. Stocks are down about 10% from their all-time high. Historically, half the time this happens they fall another 10% or more.

Now for the Good News…Everything about successful investing comes back to one thing: The long run.

After a 10% drop, stocks are higher five years later 86% of the time. The average return during that period is 51%, which is great. If the market were to fall 20% from its all-time high, historically it’s been higher five years later 89% of the time. There are no sure things in investing, but that is darn close.

You can read the full article here:  What Happens Next?

perspective

low until 8.24.2015

Less than two hours left in the today’s trade, but the day is far from over.  Regardless, this one chart will provide some perspective.  Yes, the recent drop in the stock market has been swift and aggressive (the line to the upper far right of the chart from 2,100).  Yet, the market has also risen drastically off of the March 2009 lows.

A time to panic?

What a week. The equity markets, both domestic and global, were decimated. The S&P 500 lost 5.8% over the past week (leaving it down 4.3% year-to-date).  Emerging markets were hit extra hard losing a whopping 7.8% over the week while developed overseas markets followed suit with a –6.3% one week performance.

Investors now want to know whether it’s time to panic. Unfortunately, I can’t definitively provide an answer on whether it is or isn’t.  In fact, no one can.  Sure, you’ll hear the typical financial pundits on CNBC declare with exact certainty the direct cause of the selloff and how equities will perform over the short term. Some of the explanations as to the cause of the selloff will be correct, but the prognostications won’t.  Just white noise in an overly uncertain world.

But what I can be certain of is this: the complexion of the market has changed. The price action of the equity markets has been as revealing as a slap in a face.  The past week has brought a substantial amount of technical damage that must be dealt with no matter the cause of the market drubbing.

Don’t get me wrong, the cause of the selloff is important.  It does matter, for example, whether the price decline resulted from just a healthy and normal correction (as equity markets don’t go straight up in a line, with the exception of the last, um, 6 years—part of the problem as it’s lulled investors into thinking this is the norm), or whether it’s fear of an increase in domestic interest rates, or major economic problems with China, or even worse, a beginning of a global recession. Each of these causes will bring a varied longer term set-up to the direction of the market. Time will reveal the direction, but for now we relied on the technical damage of the market as an indicator to pare back exposure to the equities.

Further technical damage to the market will beget further defensive posturing in an attempt to preserve as much capital as possible.  Remember, as we have always managed money in corrections, the intent is not to take all exposure off.  Overly timing the market is dangerous, but reducing risk on the margin is prudent. And if the correction proves to be short lived, we will be nimble enough to add equity exposure.

Here are links to some other articles about recent market developments:

  • Five Hundo (TRB)
  • Is the bull dead (BigPicture)
  • This week’s market selloff may not be such a bad thing (NYT)

And as always, feel free to call or write with any questions or concerns.

Have a nice weekend!

Chris

Tuesday Morning Reads: value investors hoarding cash

links2

Some things I’m reading this morning:

  • Apple:  revenue up & profit margins at the top end of range (MarketWatch)
  • Paul Tudor Jones: U.S. stocks will outperform other equity markets for the remainder of this year (Bloomberg)
  • Value investors hoarding cash (Bloomberg)
  • Cautious optimism on the economy (WP)
  • Poster children for buybacks-trump anything investing (TRB)
  • W.H.O declares Nigeria free of Ebola (NYT)
  • Update on Europe’s Quantitative Easing initiative (Zerohedge)
  • Bill Murray’s words of wisdom (TheDailyBeast)

Repeating the mistakes of Ben Stein?

Who is Ben Stein?  He’s a lawyer, a political commentator, President Nixon’s speechwriter, the economics teacher from Ferris Bueller’s Day Off (click here for a clip of his role) and even a self-proclaimed economist.  He has been so successful at selling himself as an economist that he landed a coveted role writing a weekly column about finance and the economy in the NY Times.  He has since moved on from that assignment, but I have seen him recently talking economics and markets on Fox Business.

Why does this matter?  Because on August 7th in 2007 Ben Stein penned an article in the NY Times titled Chicken Litttle’s Brethren, on the Trading Floor.  You can click the title for the full article or just let me briefly summarize the crux of Stein’s argument:  when the article was written, the subprime mortgage market was experiencing some cracks and the equity markets had sold off some 6% from their highs.  Mr. Stein basically argued that the subprime mortgage market, at only 13% of the total mortgage market,  was too small to cause damage to the broader economy and stock market (“these subprime losses are wildly out of all proportion to the likely damage to the economy from the subprime problems.”).

The rest, as they say, is history.  The S&P 500 peaked a few months later in October of 2007 and proceeded to sell off 60% over the next year and a half.  The problem, as we all know now, was in large part due to the problems with subprime lending.

What’s noteworthy about Mr. Stein’s argument is not that he inaccurately calculated the implosion of the subprime market that was really only just beginning during that summer of 2007.   99.9% of us made a similar mistake.  As Michael Lewis documented so well in his book The Big Short, there were only a handful of people that recognized the impact of the credit problem and actually had the conviction to trade on their belief.  No, what’s striking about Mr. Stein’s argument is how naive it was to dismiss the interconnectedness of financial markets in addition to the emotion/human psychology that drives investors to hit the sell button.  As an “economist” he should have been aware of leverage ratios at banks.  As an actor he should have seen the movie It’s a Wonderful Life with its bank run scene.

Fast forward to today.   Over the weekend “The Trader” column in Barron’s described reasons to dismiss the “wall of worry” in today’s markets.  Ebola, the end to QE, etc.  Well reasoned arguments, for sure, about these concerns.  But here’s what was said about Europe:

“The next worry is deflation in Europe spreading to the rest of the world. First, sustained deflation is not common and Europe isn’t there yet. True, the euro zone is recessionary in some countries and basically is showing no growth as a whole.

‘Yet, how is this different?’ asks Chris Hyzy, chief investment officer of U.S. Trust. The euro-zone economy has shown 1% growth to 1% contraction for the past three years. On the margin, Europe is a negative factor, adds Dan Morris, global investment strategist at TIAA-CREF, but the U.S. isn’t a trade-dependent economy. U.S. exports are about 13% of gross domestic product, half of Germany’s ratio.”

There’s the 13% figure again.  Obviously it’s by coincidence that we see this identical statistic as the one referenced in the aforementioned 2007 article.  But it’s eerily reminiscent of Stein.  What’s really at stake is not the relatively small exposure that the U.S. has to the Eurozone, but how a such a small percentage can metastasize based on fundamental issues (implosion of European banks will impact U.S. banks) and a spreading of fear should the worst happen.

It’s too early to panic.  But there are signs of real risk in the Eurozone as growth continues to slow.  If problems persist, a policy response by the European Central Bank President Draghi will likely stave off any potential disaster for the near term.  However, that response involves convincing 18 European countries–including Germany–to commit to such a response.  At this point, we can’t be overly confident that this will happen, and thus, the Eurozone remains our largest fear for equity markets.

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