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Sunday, March 28, 2010

Market Lesson

I have to say, it has been an expensive education on the stock market since S & P 500 hit 950.
There are quite a few lessons learned, some of them I should have learned the first time around with the market leading up until sept 2008.
Lessons in life worth learning are often the hardest to learn.

Lesson #1
The market is its own game, current valuation has nothing to do with the current or future economy .
When I started trading in August 2006, the thought was after talking with John Chinnock that the economy was heading into trouble. Back then I was very tentative on when the market would turn, but turn it would was my belief. Looking back, my cautiousness on "betting" on my belief served me very well. From Sept 2006 until Sept 2008 I was shorting the market. The entire time many people thought I was crazy, especially when the markets hit new highs in fall of 2007.
Anyone can go back and see clear signs the economy had peaked by 2007, but the market kept going. It was on it's own drum beat.

Proof the market isn't a predictor is 2007 highs, was predicting what? That the greatest stock market collapse since the great depression was going to occur the following year?

What was March 2009 market lows of S&P 500 at 666 a predictor of, that the market was going to rally over 75% a year later?

For this latest rally, in my opinion, it has NOTHING to do with politics, stimulus packages, etc. What it had to do with is market dynamics unto itself, nothing to do with the economy. When the market fell down to 666, what was created was a hole, there was no more sellers left. If you got scared enough to dump stocks at any point from fall 2007 through March 2009, then you where out. The remaining people in apparently are scared of nothing. S&P 500 hitting 600 wouldn't have scared them out, nor 400. Those who got injured and scared got out, those who where left where in it for good. There was no momentum for the market to go lower. There was simply there where no more sellers. Any buying at all was magnified that there was very little sellers left. Prices have to jump higher to find shares to buy. Now it is probable that this only got the market to rally for next 2-6 months back then, not the full year, which leads to:

Lesson #2
Politics CAN change the course of the market.

We have had so many things in the last year or so that has created this latest bubble, such as:
1) No mark to market accounting for many asset classes. The owner of assets can set the price, regardless of what those assets sell in the open market. (I wish the bank let me do that with my house, and I could then get a nice large second mortgage)
2) The US government and Federal Reserve Bank can collude to take measures to create money and give it for free to those they see fit. They have full power currently to grant billions, if not trillions to industries, corporations, and countries as they wish.
3) Media reporting and spin tightly controlled to avoid looking at details.

Politics can "kick the can" down the road or get righteous and enforce the law. Both have effects on the market and the economy "on paper". But the reality will catch up and cannot be papered over indefinitely, that I am a firm believer. If you are not, then Communism, Dictatorships, and other forms of non-free market economies should fare well. They don't because they try to mask the truth, rather than face it, fix it, and move on.

Which leads to:

Lesson #3
NEVER try to get ahead of the market
This lesson, you would have though I learned in 2006-2008, as a shorted and was "wrong" for almost 2 years before being right. Reality peaked out, for a while, until the latest paper and corruption of law could mask the reality.
With lessons 1 and 2, getting ahead of the market is frankly, the wrong thing to do. It is good to be aware, and prepare for the future, but patience is needed.

Picking tops, and picking bottoms, is not viable. Watching, holding, and picking "lines" to be ready to change strategies is worth while, but on a monthly basis. Trends years, not weeks, so there is plenty of time to be on the right side of a trend trade.

Click here for what is probably the best indicator to use, one that I ignored to my own folly.

Lesson #4

Over time take positions
Because of the first three items, the only sane thing to do is to take positions over time. This is my hardest lesson, as an engineer type I tend to go all in, or out. I did well in 2006-2008 by rolling into positions, but after the chaos in oct 2008-march 2009, tended to get a bit more heavy on the positions.
What is the song, only fools rush in?

Lesson #5
Listen to yourself
This is the hardest lesson to learn, it is good to hear others opinions, but best do do what you think. A little voice in my head told me when S&P500 hit around 950, and did a head and shoulders pattern, creating a huge bear trap, one I predicted in Jan 2009. I ignored that voice.
When I talked to others when the market was around 950-1000, the spin was the market was overbought and would correct. My fear was, and it looks correct, that the laws being ignored and money printing could create huge price inflation in the markets.
These little voices are worth listening to, and the worst thing is not going with your gut.

I could rattle off probably 100 other little tidbits, but these 5 lessons I want to turn into practice rules. I said I would post about my market thoughts on direction a few weeks back. I will this week, but I wanted to do this post first.

My work had me on the road for four weeks, I am back now, and will try to get some good posts in this week.

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