Tuesday, October 6, 2009

Stock Bond Reality Check

As expected, the stock market is surging this week, trying to surpass the highs set three weeks ago. As this rally has pushed on far beyond normal time cycles, I would be expecting that perhaps we might see a top put into place come Friday. It doesn't matter though, I refuse to get sucked into the market except for an occasional option play here or there.

Market commentators where mentioning today how money managers who had been short or not yet in the market are now scurrying to get in. It reminds me of when I returned to finish up grad school in 1988. Having seen the great crash coming, I liquidated my accounts and spent October through December of 1987 in the Dominican Republic. When I returned, I took a course in Mutual Fund Management which included a number of fund managers coming to class to discuss their profession. To a man, each one of them related how they also saw the crash coming, everything was overvalued. But getting out of the market early caused them to fear for their job as the weekly performance ratings of their competitors soared past their own record. Too bad for them, they again got in - AT THE TOP. Remember, these people are playing with BILLIONS OF DOLLARS of your money. It's tough to be right even when the market is moving against you. ESPECIALLY IF YOU ARE A FUND MANAGER!


I like to look at the above chart which shows the S&P 500 against the 10-year bond rate over time. When rates go up, stocks should also. When rates go down, stocks should also.

I can't get over how after diveging so greatly, stocks crashed but did they really? The chart shows that the S&P only came down to meet the 10 year rate. It was right back where it should be (in theory). I've never read any studies on this so this is only my own idea so take it for what it's worth. But notice how in the beginning of the chart, the two instruments tracked very well. Notice where we are now? The spread is widening indicating that you want to be long both stocks and bonds.

If you are like most diversified investors, you will be so pleased when your montly or quarterly statement comes showing that all of your positions are up. But in reality, this should scare you. Diversification should smooth out volatility but we are getting set up for another across the board asset collapse.


An interesting thought. When the markets turn, both stocks and bonds will collapse. And what about gold? Everyone seems to be flocking to gold these days and for good reason. The dollar continues to be weak. But higher interest rates, resulting in falling bond prices will bring in buyers for the dollar. And should the markets drop a lot, and should this be a world-wide epidemic, again, the world will flock to the dollar and gold will also collapse.


Well, not really, but if you are in the markets these days, you might as well be in Vegas. This is a really risky market even though the standard barometer for volatility, the VIX, is at low levels. We all know what happens when you start making money in Vegas (or the market), you start believing that you know what you are doing but do you really?

MORE LIKE "Johnny On the Corner"

Could be that the market is like the crack dealer found in some parts of the city. They may give you the drug for free because they know that once you get the high, you can't resist and will be back for more. Winning in the market is no different. Everyone knows that the market is controlled by fear and greed. Few of us can control ourselves when we are winning and we can't admit we are wrong when we are losing. In the end, many of us wind up busted.

Don't let this happen to you. You need to work with a real adviser, not a money manager who profits from your assets under management. He or she is NEVER going to tell you to get out of the market. It is their job to sell sell sell. Just like Johnny on the Corner.

Don't lose sight of where we are in the market, why we are there and the true state of our economy, especially the banks and housing industry. The market going up non-stop is not the same as the economy is recovering. There will soon be a "last one in" UNLESS the government floods the economy with trillions more dollars. Then of course, this money must find a home. But at some point, they are going to have to pull the plug and bring in these trillions that they put out there. There will be an end to all this and it's not likely to be pretty.


If you have been doing well in the market, by all means take out a nice hunk and go on a wonderful vacation. Paper profits are fleeting. Pay off your debts, buy a guaranteed annuity, do something that will be meaningful if and when the market does collapse.

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