Best of the Week
Most Popular
1. Stock Markets and the History Chart of the End of the World (With Presidential Cycles) - 28th Aug 20
2.Google, Apple, Amazon, Facebook... AI Tech Stocks Buying Levels and Valuations Q3 2020 - 31st Aug 20
3.The Inflation Mega-trend is Going Hyper! - 11th Sep 20
4.Is this the End of Capitalism? - 13th Sep 20
5.What's Driving Gold, Silver and What's Next? - 3rd Sep 20
6.QE4EVER! - 9th Sep 20
7.Gold Price Trend Forecast Analysis - Part1 - 7th Sep 20
8.The Fed May “Cause” The Next Stock Market Crash - 3rd Sep 20
9.Bitcoin Price Crash - You Will be Suprised What Happens Next - 7th Sep 20
10.NVIDIA Stock Price Soars on RTX 3000 Cornering the GPU Market for next 2 years! - 3rd Sep 20
Last 7 days
INVESTING IN HIGH RISK TECH STOCKS - ALL OR NOTHING - 16th May 21
Is Stock Market Selling Madness About Over? - 16th May 21
Crypto Bubble Bursts! Nicehash Suspends Coinbase Withdrawals, Bitcoin, Ethereum Bear Market Begins - 16th May 21
Budgies Birds of Paradise Indoor Grape Vine Singing, Chirping and Flying Parakeets Fun 3D VR180 UK - 16th May 21
Wall Street Roiled by Hot Inflation Data: Is This REALLY “Transitory”? - 16th May 21
Inflation Going Stag - 16th May 21
CHIA Coins After 1st Week of Plotting 140 Plot 14tb Farm. Crunching the Numbers How to Win - 15th May 21
Tips to Create the Best Cross-Functional Teams - 15th May 21
Gold: Lose a Battle to Win the War - 14th May 21
Are You Invested in America’s “Two-Hour Boom” Fast Shipping Stocks? - 14th May 21
Gold to Benefit from Mounting US Debt Pile - 14th May 21
6 Solid Signs You Should Have Your Smart Device Repaired Right Away - 14th May 21
Ways to Finance Your Business Growth - 14th May 21
Cathy Wood Ark Invest Funds Bubble BURSTS! ARKK, ARKG, Tesla Entering Severe Bear Market - 13th May 21
How Much CHIA Coins Profit from 100 Plot 10tb Farm? Hard Drive Space Mining - 13th May 21
Stock Market Bulls Getting Caught in the Whirlwind - 13th May 21
Legoland Windsor Mini land and Sky Train Virtual Tour in VR 360 - UK London Holidays 2021 - 13th May 21
Peak Growth and Inflation - 13th May 21
Where’s The Fed? Watch Precious Metals For Signs Of Inflation Panic - 13th May 21
Coronavius Covid-19 in Italy in August 2019! - 13th May 21
India Covid Apocalypse Heralds Catastrophe for Pakistan and Bangladesh - 13th May 21
TESLA! Cathy Wood ARK Funds Bubble BURSTS! - 12th May 21
Gold Price During Hyperinflation - 12th May 21
Stock Market Extending Phase Two? - 12th May 21
Crypto 101 for new traders – ETH or BTC? - 12th May 21
Stock Market Enters Early Summer Correction Trend Forecast Time Window - 11th May 21
GOLD GDX, HUI Stocks - Will Paradise Turn into a Dystopia? - 11th May 21
Cathy Wood Bubble Bursts as ARK Funds CRASH! Enter into a Severe Bear Market - 11th May 21
Apply This Technique to Stop Rushing into Trades - 10th May 21
Stock Market Entering Early Summer Correction Trend Forecast - 10th May 21
CHIA Getting Started SSD Crypto Mining by Plotting and Farming on Your Hard Drives Guide - 9th May 21
Yaheetech Mesh Best Cheap Computer /. Gaming Chairs on Amazon Review - 9th May 21
Breaking US Trade Embargo with Cuba - Build 7 Computers in 14 Hours Before Ship Sales Challenge - 9th May 21
Dripcoin Applies New Technology That Provides Faster Order Execution - 9th May 21
Capital Gains Tax Hike News: Was It REALLY to Blame for Sell-off? - 7th May 21
Stock Market Transportation Index Continues To Grind Higher - 7th May 21
SPX Stock Market Correction Arriving or Not? - 7th May 21
How to Invest in an Online Casino? - 7th May 21
Gold & Silver Begin New Advancing Cycle Phase - 6th May 21
Vaccine Economic Boom and Bust - 6th May 21
USDX, Gold Miners: The Lion and the Jackals - 6th May 21
What If You Turn Off Your PC During Windows Update? Stuck on Automatic Repair Nightmare! - 6th May 21
4 Insurance Policies You Should Consider Buying - 6th May 21
Fed Taper Smoke and Mirrors - 5th May 21
Global Economic Recovery 2021 and the Dark Legacies of Smoot-Hawley - 5th May 21
Utility Stocks Continue To Rally – Sending A Warning Signal Yet? - 5th May 21
ROIMAX Trading Platform Review - 5th May 21
Gas and Electricity Price Trends so far in 2021 for the United Kingdom - 5th May 21
Crypto Bubble Mania Free Money GPU Mining With NiceHash Continues... - 4th May 21
Stock Market SPX Short-term Correction - 4th May 21
Gold & Silver Wait Their Turn to Ride the Inflationary Wave - 4th May 21
Gold Can’t Wait to Fall – Even Without USDX’s Help - 4th May 21
Stock Market Investor Psychology: Here are 2 Rare Traits Now on Display - 4th May 21
Sheffield Peoples Referendum May 6th Local Elections 2021 - Vote for Committee Decision's or Dictatorship - 4th May 21
AlphaLive Brings Out Latest Trading App for Android - 4th May 21
India Covid-19 Apocalypse Heralds Catastrophe for Pakistan & Bangladesh, Covid in Italy August 2019! - 3rd May 21
Why Ryzen PBO Overclock is Better than ALL Core Under Volting - 5950x, 5900x, 5800x, 5600x Despite Benchmarks - 3rd May 21
MMT: Medieval Monetary Theory - 3rd May 21
Magical Flowering Budgies Bird of Paradise Indoor Grape Vine Flying Fun in VR 3D 180 UK - 3rd May 21

Market Oracle FREE Newsletter

How to Protect your Wealth by Investing in AI Tech Stocks

Stocks Bear Market- How Bad Can It Get?

Stock-Markets / Stocks Bear Market Mar 20, 2008 - 04:35 PM GMT

By: Hans_Wagner

Stock-Markets Best Financial Markets Analysis ArticleTo beat the market you need to invest with the trend. The stock market is down and continues to fall almost every day. As of March 19, 2008 the DJIA is down 8.8% for the year, the NASDAQ is down 16.7%, the S&P 500 is down 11.6% and the Russell 2000 is down 13.3%. Most investors are looking at their portfolios and they are very unhappy. The initial problems with the mortgage market started this tumble. Will it continue to get worse and is it spilling over into other parts of the U.S. economy? So how bad can it get?


We are in a Recession

First of all, we are in a recession. Yes, we need to wait for the National Board of Economic Research (NBER) to opine on whether we have two consecutive quarters of decline in the Gross Domestic Product (GDP), but that will not happen for up to a year after the fact. Here are some of the economic factors that lead me to this conclusion:

1. The jobs outlook is deterating. For February the government reported that the economy lost 63,000 jobs. Actually, the private sector lost 101,000, meaning that government hiring continues to increase. Due to the way the government counts the impact of births and deaths, this factor supposdly added 135,000 new jobs. This bit of statistical chicanery probably means that the real loss in jobs was probaly much larger. Moreover, the unemployment rate fell slightly to 4.8% from 4.9% due to a sharp contraction in the total number of people looking for work. This is not a good sign.

Generally, employment is a lagging indicator and is is highly unusual to see two months in a row of job losses and not experience a recession. Yes, that is right, jobs fell in January as well.

2. The U.S. dollar hit new lows against the basket of ninteen currencies, trading as low as 72.46. The dollar's weakness is one of the reasons we are seeing the price of most commdities climb higher, since it takes more dollars to buy such commodities as oil. A falling dollar is considered good for any companies that expors from the U.S. as their goods and services are less expensive each time the U.S. Dollar falls. On the other hand, a falling U.S. dollar depreciates the value of the U.S. government, so investors and countries that are holding this debt may sell part of their holdings to find higher returns. If this happens it tends to raise interest rates on this debt, which can cause the U.S. to experience higher inflation and raises the cost of our own debt. The best scenario is stability in the U.S. dollar which allows investors to have more confidence in their holdings.

3. Oil is trading around $105 a barrel. As mentioned part of this high price is due to the falling U.S. Dollar, as oil is priced in that currency. Part is due to concern that Veneuzela, Ecuador and Columbia will exclate the current sabre rattling and actually go to war. It looks like this risk is now over as the presidents of the countries involved have backed asay from their threats and now seem to want to avoid further confrontation. But such is the story of oil. There seems to be new problems poking its head up all over the world when there are large reservors of oil.

And part of the higher price in oil is due to speculators buying on expectation of higher prices. Opis Speaking of Oil by Tom Kloza provided this insight. The following is from the government report (published weekly by the Commodities Futures Trading Commission or CFTC).

The CFTC refers to speculators as non-commercial entities -- there is about $24-billion more money bet on higher crude oil, gasoline, and heating oil prices than is wagered on a lower price outcome. The typical large speculator that has bet on higher crude prices holds a position of 3,000 futures contracts, or a nice tidy clean number of 3-million bbl worth of WTI or more than $300-million worth of crude! 

There are 99 of companies that comprise this group. And as Tom said, “In the casino business, they would be known as whales.” The whales can and do move the market. Then they move on to the next thing that interests them and the market gets back to normal.

We will see when and if the price of oil falls as predicted by T. Boone Pickens.

4. The index of Leading Economic Indicators (LEI) continues to plunge, and is not far away from levels last seen in 2001. Such a drop by the LEI has always been accompanied by a recession. U.S. leading index decreased 0.1 percent which is the fourth straight month of declines.

5. Personal income for the average U.S. consumer rose by the same amount as inflation, around 0.4%, and with rising energy and food costs, it is no wonder that retail sales are down and falling. The savings rate is still negative, which means consumers are using savings to maintain their consumption.

If this doesn't convince you then the world's richest man, Warren Buffett recently said that any reasonable person believes the U.S. is in a recession.

Going Down from Here

The Federal Reserve has some of the best economists, so it pays to listen to what they have to say. The table below is from the minutes of the Federal Open Market Committee (FOMC) held January 30-31, 2008. As you can see the average Fed member is more bearish now than they were in October. For those of you inclined to read the minutes they are available at this link. http://www.federalreserve.gov/monetarypolicy/files/fomcminutes20080130.pdf

The Fed's Central Tendency forecast indicates that the U.S. GDP will be 1.3 to 2.0 % for 2008 down from their forecast of 1.8 to 2.5 in October. It looks like their forecasts are trending down which is not a good sign, especially given the further weakness we are now seeing. I suspect we will see an even lower forecast in the release of the minutes from their next meeting in March.

Of further concern is the upward trend in inflation as measured by the Core PCE now projected to be 2.0 to 2.2 up from 1.7 to 1.9. First, this is now above the Fed's own target for inflation which is believed to be below 2.0. Second, with the January Consumer Price Index reports in at 4.3% tells us that inflation is rising not falling. However, the Fed expects inflation to fall further later in 2008. Perhaps this is because the economy will be much weaker than it is now, which will cause downward pressure on prices, helping to reduce inflation. This is usually what happens during a recession. If so, then that means they really expect much slower growth. An interesting conflict in their forecasts.

If we see further rate cuts, and many analysts believe there will be, then it is a sign the Fed is even more worried about economic growth and not as worried about inflation. Moreover, do not expect the Fed to predict we are in or about to enter a recession. First, the markets are likely to react much more negatively to such an announcement and the Fed would not want to take the blame. Second, even though the Fed is an independent agency it still must report to the Congress. The Fed needs to keep its independence, so it is very unlikely to forecast the economy is going into a recession. If they did so, many in congress would want to take away some of their power, thinking the elected representatives could do better. Talk about out of the frying pan and into the fire, or how to make a bad situation worse. 

Looking for the Bottom

The bear market started with the problems in the mortgage industry that are spilling over into other parts of the credit arena. Banks and investment firms must have the necessary liquidity to meet their margins calls and provide sufficient capital to remain a going business. As a result, investors keep trying to determine if the problems in the mortgage business will end any time soon.

As of November, housing was down 8.4%. It is certainly worse now, but that is a place to start for this discussion. The question is, how much further down can it go. Goldman was the firm that saw the problems in the mortgage business coming and managed to short some of the market, thus avoiding the hit to earnings that other financial firms encountered. According to Goldman if there is no recession, the housing market will fall by 15%. On the other hand, if there is a recession, then housing prices could fall by 30%. Ouch! That is substantially more than the 8.4% experienced up through last November.

Along comes First American (FAF), who has calculated how many homeowners will be experiencing negative equity in their homes if the prices fall 15% and then 30%. It is not a good picture as the table below shows.

TOTAL % DECLINE IN HOUSING PRICES
PERCENT MORTGAGES WITH NEGATIVE EQUITY
8.4% (today)
13.5%
15% (No Recession) 
21%
30 % (Recession)
39%

If this forecast from Goldman and the analysis from First American is correct, then by the end of November 13.5% of the mortgages outstanding are backed by homes with negative equity. This not much of a surprise, since many of the mortgages that have been written in the last few years were with little or no money down. All parties counted on the appreciation in homes to continue. When the value of the house falls, the borrower is paying for an asset that is worth less than the outstanding loan(s). This causes people to walk away from their commitments and the house goes into foreclosure. 

If Goldman's prediction of a 15% decline in the value of housing , then 21% of the outstanding mortgages will be backed by negative equity. Moreover, this is without a recession. However, we are in a recession, so, according to Goldman, we will see a 30% decline in the value of homes; and with it, 39% of the mortgages will be backed by negative equity. 

This means the financial crisis we are now experiencing has more to go. There are going too be more unhappy surprises coming from the financial sector as this problem works through the system. Keep in mind that more defaults on these loans cause the banks and other owners of these credits to experience losses that must be written off. These write offs cause the the institutions to either sell off their good loans or sell additional equity to meet the minimal capital requirements. But no one wants to buy these loans, since they are having the same problem. It creates a vicious cycle that brings down the good firms along with the bad. It also makes borrowing more difficult as rates climb even for the firms with the best of credit. The recent implosion by Bear Stearns is just one example.

The Fed sees this, which is why they are providing $200 billion in emergency credit and backing the bail out of the Bear Stearns investors. But so far that hasn't fixed the problem. I suspect that we will see more failures that will then cause them to buy more of these securities to get them off the books of these firms. In the mean time the economy will suffer even more.

What Should You Do

This situation will create the best buying opportunity in a decade. So you should remain invested. But the question is where and how to protect your portfolio from a complete meltdown.

Investors should look for companies that have solid fundamentals with global exposure, so the problems in the U.S. are lessened. Many of these companies have already lost much of their stock price value and are likely trading at discounted prices. Perhaps, they are forming a strong technical base while they continue to grow their earnings. They seem to be holding their own as everything around them continues to melt down further. Should the market turn they are likely to move up nicely. Cisco Systems (CSCO) is one such firm.

Once you have identified such companies and decide to take positions, you should protect your positions from further moves down.. Covered call options are a low risk way to provide some down side protection while generating an additional return. You could also buy puts that provide more dpwn side protection in case the price of the shares of your stocks fall further. These protective puts provide more down side protection much like insurance. And finally set stops at points where you do not want to experi3nce any more losses incase the market takes everything down.

In addition you can short the market using many of the Exchange Traded Funds (ETFs) that short either a sector or the market overall such as the Proshares Short S&P 500 (SH).. There are even ETFs that will give you twice the move in the market such as Proshares Ultra Short S&P 500 Exchange Traded Fund (SDS), the Proshares Ultra Short QQQ ETF (QID) and the Proshares Ultra Short Russell 2000 (TWM). These provide further down side protection for your entire portfolio. Sector specific shorts like the Proshares Ultrashort financial (SKF) is just one example. Look to enter these short funds on any riase in the market to an interim high and/or resistance level.

This approach will position your portfolio to be ready to take advantage of the move up when it finally comes. In the mean time you have down side protection and you might even grow the size of your portfolio in a bear market.

Vitaliy Katsenelson's book Active Value Investing: Making Money in Range-Bound Markets (Wiley Finance) helps to break down into three key pieces what you need to look at when analyzing a company: Quality, Valuation, and Growth (QVG). For some ideas on how to use options you might consider Options Made Easy: Your Guide to Profitable Trading (2nd Edition) by Guy Cohen. It is an easy read that helps investors understand options.

By Hans Wagner
tradingonlinemarkets.com

My Name is Hans Wagner and as a long time investor, I was fortunate to retire at 55. I believe you can employ simple investment principles to find and evaluate companies before committing one's hard earned money. Recently, after my children and their friends graduated from college, I found my self helping them to learn about the stock market and investing in stocks. As a result I created a website that provides a growing set of information on many investing topics along with sample portfolios that consistently beat the market at http://www.tradingonlinemarkets.com/

Hans Wagner Archive

© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in