The Truth is Out There

There are many recent articles about the 'manipulated' nature of government economic statistics. But, there are some alternatives to the government statistics.

John Rutledge makes the case that the Manhiem Used Vehicle Value Index (see above) is the best indicator of the health of the consumer. The index has been moving down since September 2007, but is well above the lows of 2003. A turn around in the index will be a good indication of when the economy is turning back up.

The Baltic Dry Shipping Index is another of the less commonly cited indicators of economic activity. It is an index of shipping rates for dry bulk commodities. It has been rebounding since plunging from its peak in November 2007. This is something to watch to help determine if the uptrend in commodities will continue.

The Real Thing?

The monster rally yesterday implies that we could move higher after a pullback of a few days. However, the nasty reversal today certainly makes you wonder about that possibility. Did a bank or fund get forced into some sort of liquidation today? Was it just the realization that the Fed has used up its interest rate reduction maneuvering room?

Something different from last week's monster up day and reversal was the collapse of commodities. The materials sector (XLB) was particularly hard hit today. The plot above shows that the XLB/SPY ratio (red) is over two standard deviations (purple) below its mean (green). Pullbacks of this magnitude have been good buying opportunities over the past year.

The money coming out of commodities today did not go into stocks. Did this money flow into treasuries, which were one of the few winners today? The interest rate on T-Bills has dropped to extremely low levels (~0.7%). Are T-Bills at a negative real rate of interest the way to go? Is a catastrophic collapse imminent? Is it just a lack of liquidity in the credit markets?

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S.O.S.

The market continues to sink. The VIX has spiked up to the point where we might see a rally attempt. The statistics for SPY have still not returned to stationary after destabilizing a year ago. See the chart of rolling stationarity above. (I briefly discussed stationarity back in January.)

In summary, we could be in for many more months of choppy action with significant surges up and down. Send out an S.O.S.

Not Smarter Than the Average Bear

Well... JP Morgan (JPM) is going to going to buy Bear Stearns (BSC) for only $2 per share. That puts BSC down 98%+ from its 2007 peak. Clearly the CEO was lying about the position of the company. Will preventing the BSC bankruptcy help the market? Will this merely raise additional questions about which other bank CEOs are lying? Stock futures are already off about 1% this evening.

I Feel Like I Win When I Lose

Is it possible to remain serene during a market slide? A down market is just a normal occurrence. If you are reasonably diversified then hopefully some of your allocations increase in value and offset some of the losses in the allocations that are highly correlated to the broad market. The down market also presents significant opportunities to make long term purchases.

On the other hand, there is always the chance that this is the 'Big One'. In order to avoid a Waterloo situation, should you incorporate some hedging into your long term plan? Using a simple timing model to change your allocations can be advantageous. Or perhaps your current positions should be maintained and you should make an allocation to short positions at some point?

Sell Mortimer Sell

Another down open after the employment numbers. Will there be enough panic to establish a short term bottom?

Waiting For...

The market continues its choppy ways. It has made a late day recovery on each of the last two days. Does it want to move to the other side of the trading range? Is the market waiting for good news? Is the market waiting for bad news? Is it waiting for the Fed? How long will the market wait? What shall we do while we wait? Does the market exist? Do we exist even if the market does not exist?

Summarizing

Big picture summary... Not good.
The market is down substantially since the October 2007 peak. But, even a simple asset allocation scheme, as mentioned in my 'I Will Survive' post, has cushioned the blow.



While asset allocation schemes are helpful, active trading methods can prove to be very advantageous during a market sell off. For example, the 3x2 method I mentioned back in October 2007 has done very well after drawing down into January. It has nearly recovered during February to a new equity peak.

The Oracle

Warren Buffet's Berkshire Hathaway has massively outperformed SPY since mid-2007. (See the chart above.) Can such out performance continue? Buffet has stated that the market and Berkshire will have lower returns going forward. Berkshire Hathaway has a PE ratio of about 15 while several of the stocks Berkshire owns (especially the financials) currently have a noticeably lower PE ratio. You might consider purchasing some of the same shares Berkshire owns and avoid any 'Oracle premium' for Berkshire.

The Oracle's power to suspend market forces is limited. Buffet's offer to insure municipal bonds has not helped the municipal bond market which has taken a big hit in the last couple of weeks.