The data coming out of the United States continues to send warning signals to those who are investing on the stock market. There are now concrete signs that the next six months could see the US tipping over or already in recession.
Retail sales for June fell 0.5%, following decreases in the previous two months. Not since 2008 have we seen three months of falls in a row and, as Zero Hedge points out, the economy is usually either about to enter or already in a recession when this happens.
A NABE survey found that only 23% of the firms polled in June plan to hire additional staff in the next six months, down from 39% of firms in the previous survey in late March.
US manufacturing ISM figures recently contracted for the first time in three years, with new orders and prices plunging.
There is plenty of evidence that the fairly healthy auto sales figures are due to channel stuffing by the auto makers. They stuff the dealers’ show rooms with cars that are then counted as sales, but if the cars don’t get sold, can you really say that sales are improving?
All of the above evidence is pointing to the next six months being a difficult one for the US economy, and yet the stock market is only a few percent from its highs.
If you are a regular reader of the Markets and Money you are of course familiar with the reasons why the stock market is holding up so well in the face of bad news. Generational low interest rates and a US Fed that is in the wings waiting to print more money has many investors and traders reticent to hit the sell button and even buying after bad news in the hope that the worse the news gets the higher the chance of money printing ahead.
But I have to ask, just what is it that people think will be achieved by more money printing at this point? Do banks really need higher reserves parked at the Fed? They already have a huge amount of money parked there and they are still not lending because not enough credit worthy borrowers want to borrow and their balance sheets are so impaired that they are scared to increase their lending books at this point anyway.
What exactly will more printed money sitting on the banks’ books do?
I have no doubt that Bernanke will be worried that his next bout of money printing could arrive stillborn. The half-life of money printing efforts continues to deteriorate, so there is the real chance that the rally that occurs after QE3 could mark a long term top in the market (that is if the rally even manages to take out the recent highs from April this year).
But the fact is the very threat of money printing is achieving what Bernanke wants. The market is holding up without him having to do a thing. Does he want to risk upsetting the apple cart by actually printing and showing that he is the emperor with no clothes?
His testimony before the Senate Banking Committee tomorrow could provide some hints about whether he is keen to print in the short term or not and this could be the catalyst for the short-term direction in the market.
Trading a market such as this one is incredibly tricky. There has been no real trend to speak of in Australian stocks for the past few years and the usual process of macroeconomic analysis for big picture investment decisions has been hijacked by the central planners and algorithmic traders around the world, who have turned the markets into a casino.
What is an investor who is forced to invest 9% of his salary into super supposed to do in such an environment?
A balanced fund approach is still going to have you highly exposed to the share market and in the case of Australia, heavily exposed to resource shares. Is that the right way to be invested when the Resources Minister Martin Ferguson just came out and said the resource boom is over? (I wouldn’t be making my investment decisions on the back of politicians’ comments, but it does make you think).
My approach to the problem is to accept that I can’t know the future and never will, so I need to invest in the markets with that fact as the cornerstone. When you accept that you don’t know the future you start to see the investing problem as not one of working out what the right decision is but instead working out how to survive in any environment.
My first question is always, ‘When am I wrong?’ If I can know very quickly when I am wrong so that I don’t need to risk too much money, I can start building a strategy based on probabilities.
By analysing trading in terms of probabilities you extract yourself from the need to be right so that you can protect your ego. One trade means nothing in the context of the overall trading plan. Therefore there is no need to place any importance on the outcome of any one trade.
You may have a macro view about the market’s direction and a desire to enact a trade to take advantage of your view, but if you don’t know exactly when you are wrong you can never know the size of the position that you can put on in the first place.
Also you may be sitting in the position six months later, out of the money, and scratching your head wondering if that proves you wrong or not. Sitting in the position out of the money for months also ties up your capital so that it can’t be put to work in other investments.
The ability to trade both long and short is also another important aspect of my approach to trading. I am no longer constrained by only being able to make money out of stocks that go up. In this sort of trading environment you need to have as many strings on your bow as possible.
By trading both long and short I can actually lower my overall market risk while gaining exposure to relative values between stocks. I can even be completely market neutral so that big moves in either direction don’t have much of an impact on the portfolio P+L.
We are constantly told how dangerous shorting is but rarely are we told that shorting stocks can actually lower your risk if used properly.
I am also happy to make my whole portfolio net short, as it is at the moment. With the markets looking so vulnerable, why not make a killing when the market falls? Everyone knows markets fall far faster than they rise, so you can make a huge amount of money very quickly if you can catch a big fall.
So Bernanke can speak tomorrow and cause the markets to spin on a dime but I don’t really care either way, because I can react to the news and either take profits in our short positions or buy some stocks to take advantage of any rally. The more flexible you are in your investing approach the more relaxed you become about whatever comes next.
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