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Priced In?

            Did I mention that September is typically a tough month for investors?  This one has been no fun.  Thankfully, in the process of 10-15% declines in several sectors, asset classes and international indices, we are seeing some real value opportunities develop.  The market has done a good job of pricing in some future realities over the last month creating some potentially good looking entry points for a 4th quarter rally.  The next two weeks are critical.  Here’s what I’m watching.


Possible Buys


            Energy, commodities, gold, small caps, Emerging markets, China, India, high yield bonds and real estate funds have been crushed in the last 30 days.  We can all probably point to the massive move in the US dollar against foreign currencies as the pain driver (+7% since early July).  As I said, last week, this type of move in a global currency over such a short period of time is very rare and very noteworthy. Why?  Well for anyone who has been at this for more than a decade, you understand the concept of reversion to the mean or more simply, too far too fast.  The move in the US dollar has probably moved too far too fast and it is highly likely that the current rate of change will not persist either in magnitude or direction.  Meanwhile, being the super efficient discounting machine, the market has beat up all the sectors mentioned above effectively pricing in the current level of the dollar, possibly more.  Interest rates have also moved up in sync with the US dollar, driving down the value of REITS, real estate funds, bonds, high yield corporate debt, utilities and anything directly interest rate related.  Last Friday, I think we saw the first signs that things could be in the verge of a change, perhaps in the first two weeks of the new quarter.  I did a one day rank on very basic performance across the entire universe of sectors and indices both domestic and international looking only at Friday’s market action.  The strongest groups where almost exactly those mentioned above, the same groups that have been hammered the most since the peak in early July.   Likewise, some of the biggest losers were sectors that have seen virtually no selling yet in 2014 (healthcare and internet). Relative strength watchers take note, this could be the beginning of a worthy rotation but it’s still too early to make any significant moves.  One day certainly does not make a trend.  There were some exceptions.  Gold, silver and most mining stocks continued to sell off and saw no bounce.  Likewise, high yield bonds saw no love and continued lower.   


            There is a reasonably good chance that stocks in general will find some temporary support at this level and possibly chop higher into the first week of October but we’re not expecting the real low, even a lower low, until the end of the second week in October (10th) based on the very blunt trading instruments of cycle work and seasonality.   During this bottoming process, if it happens, we will be carefully watching the performance horse race to help us get positioned correctly for the 4th quarter.  Now I will insert some stern words of caution.  The market uptrend dating back to the early days of 2013 is in jeopardy.  Make no mistake, there have been significant technical breakdowns in the last three weeks, including a total failure in High yield bonds and small caps both of which often serve as jumpy nerves for the market in general.  Sector leadership is barely hanging in there and strangely consumer sentiment has not yet hit the type of bearish extremes that I would expect following the carnage in September.  Maybe people don’t know yet?  I am expecting more downside in prices before the possibility of a 4th quarter rally emerges.  Selling can often beget more selling in the financial world so let’s continue to respect the downtrend for what it is, live by our stops and take defensive steps as necessary regardless of what we think might happen. 




            I think the energy complex is especially interesting right now.  At the upcoming annual meeting at the DCC on October 9th (Did you RSVP yet?), I’m going to give you four reasons why energy COULD be one of the best buys out there, right here, right now.  So far, the trend is still down but I’m watchful of a turn at any time.  Energy services companies like those in the pipeline space often seen as MLPs, continue to chug higher regardless and we own them.  But I’m talking about the equity side of the sector, those in oil and gas, drilling and exploration.  Many of these names have seen some heavy selling in recent months but as of yet, these still look more like correction patterns within longer term up-trends, than an actually change of trend (see below) .  Meanwhile, I think there is a good chance that the price of oil just very quietly put in a bottom.  Time will tell.





Gentle Reminders


            It’s been a long time since anyone has lost money in the stock market on a monthly basis.  September will be the first in a while and your first reaction will be something must be broken!  Nothing is broken.  As the stock market moves up over time and this aging bull market just gets a little older every day, it’s very natural to see weekly and monthly volatility creep higher.  Volatility is a natural part of investing and it takes the form of losing money every once and a while.  These are situations that we want to tolerate to a degree.  When such volatility turns into risk, as our various positions are moving below stops, we want to control that volatility and sell or move to more defensive positions.   If we do not, then our volatility becomes risk, risk of unrecoverable loss.  Risk is something we all try to avoid. We’ve been doing just that since mid July.  When we see losses of any kind we usually have two thoughts.  The first is to quantify our losses in terms of something that we could have bought.  “I just lost a car!”.  Yes, that will drive you bananas, try not to do it.   The other thought is an urge to cash out feeling some sense of clairvoyance about the future. 


Repeat after me-


“I do not know the future, I am the weakest link in the investing chain, and I will not make emotional decisions on the basis of my gut instinct because I know that my gut instinct is almost always exactly wrong at exactly the wrong times”.


I have said this many times in the last 18 months but here it is again; The market do not typically go up 30-40% without as much as a 5% periodic correction.  Rarely is a better word.  More often, during such a run higher we see 2-4 corrections of 8-10% each.  Let’s all remember that fact and expect to see more normal conditions in the months and years ahead.  I’ll step down from the pulpit now.  


Have a great week; you’re in good hands