High Yield Times

Soul Trader Blues is being put in suspended animation.

I will now be concentrating on a new blog at High Yield Times.

The aim of High Yield Times is to comment on financial news and to gently show passive investors how a little analysis can go a long way towards improving investment returns. the focus is more on investors than traders.

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Markets Hit 12-Year Low - How Significant is this for Stocks?

Markets Hit 12-year Low for only the Third time, but will this be 1974 or 1932?

With US indices breeching their 12-year lows financial journalists and analysts have been reaching for their history books. A long term chart of the Dow reveals that only twice before has the index wiped out 12 years of gains; back in 1974 and 1932.

As everyone in the financial industry is praying that investors will return to the market the focus has been on calculating if these previous retracements can tell us anything about when we are likely to hit this bear market's low. In short, when will this pain end?

"What we found intriguing is that the 12-year lows were breached at a critical juncture in the bear markets," JPMorgan Chase equity analysts gush. In 1932 the April 8 finish came three months before the market hit its bottom, while 42 years later, the Dec. 6 breach marked the exact end of the 1974 low.

So there you have it! The equity pain will - or rather might - be all over within 3 months. Except that having just two data points does not fill me with the same overwhelming confidence as self-interested parties such as JPMorgan Chase. This strikes me as a slightly more sophisticated version of "when is it time to buy shares?" articles.

It is also worth stepping outside the purely US markets, this is after all a global marketplace. The most depressing index by far is surely the Japanese Nikkei. Peaking at around 39,000 in 1990 it now languishes around 7,500: that is a loss of over 80% over a period of almost 20 years and is currently sitting at a level seen in 1981. The "12-year low" is, at least for the Nikkei, a complete irrelevance.

However, stock market indices are all denominated in their local national currency so to accurately compare indices one has to do so using a fixed currency. In 1990 the US Dollar was worth about 140 Japanese Yen; in 2008 the average was about 100 Yen, a loss of about 30%. This is a good time to recall that percentages are multiplicative and not additive. An 80% drop in the index combined with a 30% rise in the currency does not equal an overall drop of 50%, but more like a 74% drop in dollar terms. Even with this adjustment the Nikkei looks in very bad shape.

The fear is that the American and European markets will follow the Japanese, in which case this 12-year low will be consigned to the dustbin of false indicators.

How Much is the World Worth?

An alien race visits planet Earth and they like it so much they want to buy it. “How much is it worth?” they enquire. Hard one to answer. The data that is most available is the gross world product; the global equivalent of GDP. But this tells us the level of economic or monetary activity rather than the value of all the land. GWP in 2008 was about $70 trillion. When one looks at the level of debt and costs of bailouts throughout the world this number seems frighteningly small. Let's make some kind of estimate based on a price/earnings ration. Much of the highest priced land in the world is in metropolitan areas and it tends unless rented to not be earning anything. Let's pick a high but not ridiculous PE ratio of 40, making the Earth worth about $2,800 trillion. However, the current estimate of the size of the financial derivatives market is about $1,400 trillion. Half the world! This figure may even be an underestimate as it combines the regulated exchange traded derivatives (ETDs) and the largely unregulated over the counter markets (OTCs).

But our aliens are a shrewd bunch and they argue that this is hugely inflated; poor stitching, cheap lining, a bit tight round the shoulders - you get the picture. They argue that much of this monetary value is fictitious being brought about by money borrowed on credit being then speculated with in highly leveraged financial products. Any small losses in the underlying assets have become magnified to the point that many businesses have negative real values. Many banks are now worthless. Remember the warning that every derivatives broker gives that you may lose more money than you put in? The problem has become an epidemic and everyone seems to be staring down a black hole. The aliens look smug and say they can wait for the fire-sale.

In the meantime they do a further bit of terrestrial due diligence. George Soros was not in the best of moods. He sees no end in sight for this financial crisis. With reference to the collapse of Lehman Brothers,"We witnessed the collapse of the financial system," Soros said at a Columbia University dinner on Friday. "It was placed on life support, and it's still on life support. There's no sign that we are anywhere near a bottom." The aliens didn't look particularly out of place in a crowd of students, but did wonder why humans had switched off their telepathic abilities. The old man seemed to be in the midst of his own great depression. "How did you people make such a mess of things?" the aliens enquired. "Ask him." replied Soros, barely looking up but pointing in the vague direction of Paul Volcker.

Volcker had been the Fed chairman in the 1980's and had gained great respect for taming inflation. He was now back as an adviser to President Obama. He said things were going to get worse. "I don't remember any time, maybe even in the Great Depression, when things went down quite so fast, quite so uniformly around the world." What happened? Financial innovation is what happened. Borrowing and lending makes a nice tidy low-risk income but that was seen as too boring. When everything is measured by growth rates the financial sector wanted to grow faster – hi-tech finance for a hi-tech world. Except that financial hi-tech came with hi-risk. "These risky securities brought no benefits whatsoever to the public," Volcker lamented, "the invention of the ATM was of far more economic benefit than any asset-backed bond." The two men gulped down their brandies and Soros set to replenishing their goblets. The aliens nodded in agreement, taking cue from the pall that had enveloped the two sages.

On their way back to the mother ship one of the aliens spoke up,"We learnt all of this in ancient history. We could buy this whole place for nothing." They all knew what was coming next. "Let's offer them a new currency. Wipe out their debt and have our own central bank run the world. We could call it the Alien Dollar!" "Perhaps Astral Dollar sounds less threatening, don't you think?" interjected their leader. "They're bright but not particularly perceptive socially, maybe they'll swallow our ADs."

Friday Night is Bank Failure Night Again - 3 More US Banks Collapse

Federal regulators closed three banks in a single day Friday, as the ongoing credit crisis showed no signs of abating. Utah's MagnetBank became the fourth bank failure of the year, and the Federal Deposit Insurance Corp. was forced to directly refund depositors after being unable to find another institution willing to take over its operations. The FDIC later said it has also closed Maryland-based Suburban Federal Savings Bank, and Florida's Ocala National Bank.
From MarketWatch.

With what is becoming tedious and worrying regularity Friday Night is Failure Night. Regulators always seem to choose Friday night after the markets have closed and people are generally going home hoping to enjoy their weekend.

The market timing is obvious; with the Dow dipping below 8000 again three bank failures would probably have spread further panic and a new low for this bear market. But what about those poor sods hoping to withdraw money to spend at the weekend. Hopefully they can still get their money quickly.

This bear market is far from over, however much some journalists are trying to pump it up. This is also time to check once again how much the FDIC is insuring and to implement your own insurance policy by spreading your money across more than one bank.

When to Really Start Buying Stocks and Shares Again

On an almost daily basis some financial website has an article entitled something like “Is it Time to Buy Stocks?” In these times of distress everyone wants to be in at the bottom. But for the investor who has traditionally trusted in managed funds and has little experience in managing his own portfolio this is a highly dangerous strategy. There is a strong case for ignoring all these articles and just looking at the numbers.

This is really written for those people who think that financial markets are complicated and that the whole thing is best left to professionals. The recent fall in global stock markets should have at least made you think that these experts are not really so professional after all. Indeed, for many of them their profits take precedence over yours. Their annual fees are earned whether the fund does well or not. Yes, a well-run highly profitable fund will gain new investors and thereby start on a round of positive feedback. But the art of finding such funds is actually the same as I will describe below.

For those investors with more experience, the thrill and profits from trying to pick the bottom of a market is a genuine driving force. I wish them luck but, as I say above, this isn't primarily written for them. For those who have dutifully put their savings into some kind of investment vehicle and seen those savings dwindle the idea of going it alone can seem daunting. But, I wonder how you initially chose which funds to invest in? Was it from a recommendation from a financial adviser, possibly from your bank or insurance company? There must have been some decision taken right at the beginning. However, since then you have probably lived in the hope that the fund managers know what they are doing.

The point I would like to make is that the transition from a passive investor to an active investor is not so daunting. You don't have to become a trader, watching the markets every day and buying and selling stocks in a frantic attempt to make some profits before the market turns again. I understand that you don't have the time or the inclination to do this, and that as you haven't this would be even more dangerous than doing nothing. But having a look at your portfolio once a week, or even just once a month, is not so much work considering it is after all your money. More importantly, have a look at the charts for each investment. If a page full of numbers makes your head spin then a chart will give you all the information you need to see at a glance if the price is going up or down.

This is where I'd like to introduce one of the most widely used long-term price indicators. Staring at charts of stock prices still won't tell you the future or when to buy or sell. However, adding one simple indicator will make this much clearer. Before doing so let's pull up a chart. There are many websites with financial charts but one of the easiest and free to use is on Yahoo Finance. Just go there and you will see a snapshot of the major stock markets in the world. For the purposes of our example, click on the link to the S&P 500. What I'm about to go through can be used for any stock or share, commodity, investment fund or stock market.

On the main S&P 500 page you will see some basic information about the current day's trading and some news links. What we're really interested in is the chart, so click on that. I think the easiest chart to use at the start is the Basic Tech Analysis one so just click that – the link is on the left column. Along the top row you will see Range and Type options. I actually prefer to look at the candle-stick charts rather than the plain line ones as they also give a sense of the price volatility. So click on Candle in the Type list and you will see the difference. Now let's look at a meaningful range; click on the 1-year chart under Range. Looks ugly, doesn't it! But what is it going to do next? Is it going to take another dive below 800 or hold its nerve and climb back to 1000? None of us knows. Indeed, nobody knows and nobody can tell you for sure. The question “Where is the stockmarket going?” makes work for a lot of writers and pundits but is a question best left for dinner parties and fortune tellers. What you want to know is not what it is going to do but what is it doing right now. The one thing to guide you in your decision to buy or sell is what is the current trend.

To see what the trend is we shall now overlay our first technical indicator – the 200 Day Moving Average. On your chart options you will see one labelled Moving Avg; just click on the 200. You will see a smooth line overlaid on the price chart. This is the running average of the closing prices of the previous 200 days (or 40 weeks). It is one of the primary indicators used by chartists, people who use technical chart analysis on a daily basis. Charts cannot predict the future but they do show the current trend. It will be no surprise to see that the SP500 is currently well below the 200DMA as we are, after all, in a bear market. This is our first clue that it is no time to start buying any stocks at all! As I said before, some of you will get excited by the thought of buying stocks at fire-sale prices but I'm pitching this at those who perhaps have never considered even looking at a technical indicator.

Before we move on, just a few words about using this and other moving averages. The 200-day moving average is used by many as a medium to long-term indicator, showing the trend for possibly one to two years, often longer. It is not in itself a magic wand that will land you untold riches but it is an industry standard. This means that market traders will use this to decide on whether stock prices have finished their current trend and are due for a reversal of fortunes. The fact that so many insiders use this and react to it is one reason why it still works. But unlike secret trading programs this is all in the public domain – you too can profit from it. As you can see, venturing into the world of technical analysis sounds all rather complicated but we haven't even looked at a single equation. It just really isn't that scary.

Right, let's get back to our SP500 chart and zoom out to a 5-year view. Now, looking at a 5 year chart defaults to giving weekly prices rather than daily. On their fully interactive chart you can get a finer view by seeing daily prices for the 5 years. It isn't any more complicated but just has drop-down menus rather than simple clickable links. Anyway, on this particular chart we can see the stockmarket rising from 2004 till the end of 2008. Note how the 200DMA sits below the market during a rally. Also note that the market will sometimes drop down to touch the indicator then bounce off it. In this phase the moving average is known as a support. But look at what happened in the second half of 2007 and especially in January 2008. It looked initially as if this was going to be another bounce off its support but the tumble in January and the failure to break back up above the 200DMA was a dramatic signal that something was very wrong. Those dips below the moving average were signals to start selling. Not all at once, but slowly and with a wary eye if stocks fell further. In May 2008 the S&P 500 tried to rally back up but by now our 200DMA was no longer a support but a resistance level. The failure to break up above this in June 2008 was also another major selling signal. Coming to the present, we see that the S&P 500 is well below its 200DMA and we are well and truly in a bear market. At some point it will rise to meet its 200-day moving average. That could be a few months way, possibly many months away.

As an investor and not a trader you have to think long term and the 200-day moving average is the perfect long-term indicator. Amid the noise and confusion of financial advice you now have one solid technical indicator that gives you a decision making tool independent of personal advice. The 200DMA is not an on-off switch but rather a smooth transition which either confirms the existing trend or starts a reversal of it. As your stock or share or fund starts to approach this moving average is when you should start to be thinking about being active. Back in late 2007 you would have started to sell slowly. There is no shame in selling some stock one month only to buy it back 3 months later at about the same price. These things happen. In January 2008 was a signal to sell some more. And if you were still holding on to all your shares then May 2008 gave you another opportunity to start cashing in the profits of the previous 10 years or so.

For the casual informed investor the 200-day moving average gives a simple indication as to whether we are in a bull or bear market, whether to buy more stocks or sell them. If you are setting aside regular money then there is the temptation to want to invest it immediately. The very simple rule here, with which you won't go far wrong, is that if the price is above the 200DMA then it is safe to buy and if it is below it then it is safe to sell. We have been looking at one particular stockmarket but the technique will work with individual shares and investment funds. Even in a bear market there are some companies that do very well. If you read a recommendation to buy a particular stock then just repeat the above exercise. Yahoo Finance also has charts of all the major stocks and shares. I think this is enough advice for now! I will look at some of the finer points of using this indicator in a future post.

For now, buy stocks if you enjoy gambling!


reprinted at High Yield Times.