Sunday, February 8, 2009

Bookkeeping: Weekly Changes to Fund Positions Year 2, Week 27

Year 2, Week 27 Major Position Changes

To see historic weekly fund changes click here OR the label at the bottom of this entry entitled 'fund positions'.

Cash: 57.6% (vs 68.2% last week)
27 long bias: 21.3% (vs 15.3% last week)
13 short bias: 21.1% (vs 16.5% last week)

40 positions (vs 37 last week)


Weekly thoughts
It was an excellent week for the market, mostly at the back end as once again we rally on YET another government bailout/stimulus/rescue et al. This has been the pattern for over a year now - the government announces an initiative - the "free market" heroes of Wall Street cheer that they can wash their hand of another fallout victim of their "free market", and away we go. Each bailout/rescue/stimulus has generated a shorter and shorter rally but traders will be happy to generate a quick buck by any means possible. Ironically we rallied twice in 10 days on the exact same "bad bank" happiness.... maybe we can squeeze another 20 rallies off the same old news, who knows. The economic news continues to degrade and JUST as the bulls have done for the better part of a year now - the talk is about "economic news is in the past; forget it" you "must respect the price action" and "look forward through the abyss". Doing that has cost a lot of people a lot of money once the initial euphoria wears off.

The "price action" in housing stocks a year ago was euphoric as the "spring 2008 bottom" was anticipated. The "price action" in financials was euphoric as the "Bear Stearns... natch Fannie Freddie... is taken care of... we are now saved by government!" ethos was advanced. The "price action" in technology stocks early summer 2008 (and later 2007!) was euphoric as the "technology is a safe haven" thesis was borne. The "price action" in consumer discretionary in late summer 2008 was euphoric as the "as gas falls from $4 to $2 the consumer will once again be ready to spend; a HUGE tax rebate" thesis was advanced... that one was especially awesome considering one of the worst drops in stock market history happened within weeks.

Here is my personal belief - I no longer believe stocks "tell us" much other than what hedge fund computers and "thesis" players are trying to sell. Momo guys jump on, buy programs kick in, and we have "price action" - that means nothing other than for a few days or weeks. Telling us what will happen in 6 months? Forecasting? Not in this day and age where dark pools of computers are shooting each other in the still of the day - creating "beta" so hedgies can get their payday. The evidence of "price action" meaning a damn thing has been awful the past year and a half. It hasn't "forecast" a darn thing. What was the "price action" of the general market forecasting in October 2007 (at all time highs?) - nothing. What were all the above price actions in the preceding paragraph telling us? Zilch. It was all thesis... all of them turned out incorrect, but we were told they meant something each time. Lies, damn lies.

So now they want to say "the price action" in baltic dry index, and China and technology is "telling us" something. I will address the former two in another entry. I just think we have a different market than grandpa's market, or indeed dad's market - the advance of computers, program trading and the like just tells me "momo players" find a pocket and they will ride it until it doesn't work. As I like to say perception is reality. All the perceptions I listed above, and in fact many other I skipped "told us" zero. But they were great trades for a few days/weeks/or at most 2 months. Before reality hit.

So where does that leave us as investors? Simple. Suspend reality if you want to participate and drink the latest Kool Aid. Just be ready to exit at the first moment of reality .... It DOES NOT matter what reality is in "6 months" in the stock market. You simply have to have enough enough "believers" and momentum will build on momentum based on the "belief" system. So if we believe THIS time the government will save us or THIS time China is back on track - we can rally. It's all about sentiment in the short run - and we just have to adjust to the flavor of the day/week/month.

Let's look at the greater markets.... as I wrote in [Feb 5: Charlie Brown Market] since early December we've had a couple of similar points to this one; what I'd call an inflection point. Here is the chart....

What's been absolutely killer for the bulls is that instead of being turned back at key resistance (or a range), twice we've burst through. Which SHOULD be a sign for all those who follow technical analysis to jump in and start buying guns blazing. Those that DID were trashed. See the early January breakout and the "Steve Liesman (CNBC) bad bank is here again!!" announcement from 10 days ago. You saw breakouts from a range and then immediate reversals - the one at the turn of the year was particularly venomous because we actually not only broke out of a range but also broke above key resistance (50 day moving average). And we saw the same "price action" i.e. commodities flying and China taking off with select technology joining in.

Where does that leave us now? As we speak nowhere; we're just at the top of a range but excitement is in the air all over. Things look "so healthy" Friday. The serial bottom callers are back out in force. We have a very key pivot point coming in my view, but the danger is we could be setting up for Lucy to pull the ball away. Or not. We'll have to let the market talk to us. Especially tricky is the constant barrage from government which causes euphoria (and then dismay) in the market participants. How they react to the constant news flow is impossible to game other than to know that as more risk is heaped on tax payers and less on them; the more they cheer. (who can blame them? let the masses subsidize the stock market - what's not to like?)

Here is my current game plan. We are still in a range; but at the very top of it - if one assumes we stay in this range, one would want to get aggressively short as we will soon test the bottom end of the range. This range has essentially been low 800s to mid 800s (topping out around 870). However, since Kool Aid is high and I can't predict the future I won't get materially more short until I see the market turn back down... it's too dangerous.

If one assumes we are about to break out of the range we need to get north of 870s (which we could premarket Monday in a snap of a finger since King Geithner speaks at noon) and over the CNBC "bad bank" high from a week and a half ago (S&P 880). In a normal market this would signal a buy to me - reduce shorts heavily and drink Kool Aid in huge amounts while singing how Baltic Dry Index is indicating global trade is hot and heavy and we're saved. But this is not a normal market. Washington D.C. has surpassed New York City. Further the lessons of Charlie Brown weigh on the back of the mind. If we went north of S&P 880 we'd be in the exact same position as just after the turn of the year... a breakout but can we "believe in change"? Frankly that will be a very difficult call, and with Washington D.C. announcements hanging over us it's even more tricky. But if indeed it's a "real thing" we should have no trouble rising from 880s to S&P 940 or so; a quick 7%. And if that breaks, we have no issues until early November highs of S&P 1000 or so; another 6%. So let's always see both sides, and realize the market direction in the short term is more about confidence and sentiment than anything else.

So that's the technical picture which it seems everyone is now gravitating to; fundamentally if would be a big joke to make such a move. At the core stock prices should reflect earnings power/potential. As I've predicted, company after company has pulled guidance for 2009 as they have no visibility. It seems only the punditry can see clearly since they are sure of the 2nd half recovery; not CEOs. But suffice to say latter 2009 will showcase earnings estimates are STILL too high. But that does not matter... until it does. For example, we posted multiple times in these (virtual) pages in summer of 2008 that it was a joke that Fourth Quarter 2008 earning estimates were showing 60% year over year growth over Fourth Quarter 2007. That would seem outrageous no? But the thinking in the spring/summer of 08 was we would have the great "2nd half 2008" recovery and that fourth quarter 2007 was so bad that a year later you HAD to show a recovery of immense proportion in earnings. That was Kool Aid. When the punch bowl was taken away and it was clear that "2nd half 2008" recovery was nothing more than punditry being punditry - the market cratered (along with some help from our financials). Want to know how bad fourth quarter 2008 was in retrospect? Something like a -15% DROP from fourth quarter 2007 "trough" earnings. So from +60%+ expectation from analysts to -15% reality... that's the power of Kool Aid.

I think the same happens in 2009. The "belief" is there - so we could rally for a few more days, heck weeks, heck months. As long as we all close our eyes and "believe" we can make a good story about anything. But one day we will face reality and see once again hope is far too great for "2nd half 2009" - but who knows when that happens. So you tell me... hey man we are already past 2nd half 2009, you need to buy stocks for 1st half 2010? Really... so instead of a 4-6 month discounting mechanism now you want to sell me on a 11-15 month discounting mechanism? I call Kool Aid on you. And what happens if we rally to S&P 950? 1000? We have a very expensive market - both on late 2009 or even if you wish 2010 earnings. I believe we're heading for a $45-$50 earnings on S&P500 earnings in 2009 and if you slap a 15 multiple on that, you have S&P 750 (on the top end). And if you wish for $65 in 2010 (and boy are you discounting WAY ahead to get that; 23 months!) with a 15 multiple you have 975.

So this is where we stand on my eyes. Surely we can rally as we grasp for any little sign of "less worse than last month" or "better than expected, even if horrid in reality". We've done that time to time over the past year. We will do it again. And we'll be told "the price action" is telling us "all is well".... or "big improvements coming". Blah blah blah. Let's not buy it. That doesn't mean we cannot go 20%+ up from here. (or 20%+ down). Let's just realize it's beta chasers making a market (now where would they go? the Four Horseman of Tech anyone?) and momentum begets momentum. And at some point cold reality will return. Just as the Kool Aid drinkers have been wrong first on allowing that a recession could EVEN happen (mid to latter 2007) and then using the WRONG playbook of the type of recession (early to mid 2008), they will be wrong about the type of recovery we are going to have. This is a generational type of wealth loss and credit contraction but lo and behold, just throw the government at it and all our problems will go away. Magic!

For the fund, we had a poor week in relative performance (to the market) but nothing destructive. Basically we missed the end of week party. Our short positions went against us - especially Thursday and Friday and we do not have a lot of exposure to the China/commodity/tech cohort which the bulls lunged into this week. And the "leaders" of December 08/January 09 mostly did nothing... so our longs were not "where the action was". I had a sell order in Quality Systems (QSII) late in the week but it did not execute so it will go early Monday; due to that we have almost perfect symmetry among long and short exposure (not on purpose). How we go forward will be determined on price action this week - if we have to thrash the short positions and drink Kool Aid we will. But we won't believe in it, nor sing about "price action" telling us squat (other than what HAL9000 is rapid fire shooting to create performance). I've noticed the past year and a half the times the government is not messing with the market are generally weeks we outperform; and the weeks they are involved heavily and the stock market lurches 4-5-6% a week (or in some cases days) on news announcements, we lose. So it could be a few more tough weeks as government is once again... the market.

p.s. look like he who walks on water, Sir Geithner has pushed out his plan to save the U.S. financial system from Monday to Tuesday. Not to worry, just an additional 24 hours to wait until we are saved.

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