The Stock Surfer

The Season Begins!

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[Note: Posted simultaneously at www.thestocksurfer.blogspot.com, with Monday Night Football theme music and charts.]

The NFL football season begins today, and thank God for that. Since the Olympics, my TV has been a wasteland of political conventions and reruns. Well, it hasn't been that bad--The Hills is back on MTV and college football had some interesting games, but nothing compares to the NFL.

Just as the pros are back on the field in football, professional traders are back from their vacations and the markets are taking on a new intensity. It won't be easy, so get your game face on. There will be winners and losers.

I'm not a doom and gloom type guy, but I think the bear market rally that began in mid-July is over and we are headed lower. I also think it's becoming clear that the drop in oil, which continues today, will not spur the market higher. These views will not be new to my readers, but they are finally starting to get some play on the financial news networks. Again, I can't take credit--Minyanville.com was way ahead on the oil call.

So what to do now?

I haven't been doing much in recent weeks. My trading positions on the long side have all been sold, so I have a lot of dry powder. I think shorting season is beginning again, so I'm starting to ease into positions where the risk-reward makes sense. It seems to me that small caps are due for a drop as investors realize the worst is not behind us. An unusual (as far as I can tell) divergence has occurred between the small caps and the large caps. Since mid-May, the small caps have outperformed the S&P by a wide margin (more than 10%). Here is a link to a chart showing the divergence. There are several possible explanations for this (a stronger dollar, small caps lead a recovery, etc.), but I'm not buying any of them. Instead, I'm buying the Ultrashort Russell 2000 (TWM). I'm betting this gap will close, and that small caps will fall harder than their bigger brethren.

That's all for now--play hard out there, the games count.

Disclosure: Long TWM.

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The Day After Uncle Sam Adopted The Twins

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[Note: This article posted on my personal blog at www.thestocksurfer.blogspot.com at 12:04 p.m. EDT.]

I don't know what was more irksome yesterday, Uncle Sam's adoption of the FM twins, the fact that I couldn't trade it because of my "real job," or the Vikings loss to the Cheeseheads on Monday Night Football. Perhaps you, reader, are also irked because you were short the market, you are a renter, you are a capitalist, you are a taxpayer, or your football team lost. Whatever the reason, let us not let irkedness prevent us from making money. An article from Bennet Sedacca made some great points along these lines. We (and I especially include myself in this exhortation) need to focus on making money, not on being "right" in our theories.

FINANCIAL JUNKIES?

That said, here comes a big, fat statement of stubbornness that may make you think I'm still trying to be "right." I held my Ultrashort Financials (SKF). Why? This market has proven time and time again that you will lose money if you panic and sell as something gaps down, or panic and buy as something gaps up. SKF gapped down yesterday, but is up over 12% since then. I still think the burden of proof lies with the financial bulls. Consider the action today:

Lehman Brothers (LEH) is down 30%.
Washington Mutual (WM) is down 18%.
AIG (AIG) is down 12%.

The financials, despite a big pop yesterday morning, are not rallying on the most significant government intervention since the Great Depression. Here's a question: What happens when government interventions of increasing size and scope fail to spark rallies? It's like a junkie who needs more and more drugs to get a high--when the high no longer comes, he's just an addict on the way to self-destruction. Has the market become addicted to bailouts? Please read this article by Kevin Depew on the next stage of the credit crunch. [By the way, I think Depew has used the "junkie" analogy in the past--giving credit where it's due (pun intended).]

TRADING IDEAS

While it's interesting to talk about the financial sector, it's very difficult to trade it. It's become crowded and prone to manipulation. Where else can we look? Here are some ideas I'm considering, for quick trades only (that's the only safe type of trade in this tape):

Research In Motion (RIMM) / Google (GOOG): These stocks have really been crushed, and may be ready for a bounce. Both have PEG ratios under 1, which is a sign of good value. RIMM at 100 and GOOG at 400 would be worthy buy spots with tight stops.

Celgene (CELG) / Gilead Sciences (GILD): These stocks, once part of a nice biotech rally, have tanked. They are not reliant on credit or the consumer. CELG especially looks like it may have support around 65.

Continental Resources (CLR) / Ultra Oil and Gas (DIG): CLR has been my stock of choice to play any bounce in oil. DIG is another way, a bit less volatile. Crude is close to 100, and while this fits with the deflation theme, nothing goes down in a straight line.

Just ideas that I may or may not pull the trigger on. The point is that with this volatility, there are some great short-term trades out there if we're ready for them. But if you can't day trade, isn't doing nothing and staying in cash still a good idea here?

Disclosure: Long SKF.

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Is This The Bottom? Only For Lehman...

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[Note: Article posted simultaneously on my personal blog, www.thestocksurfer.blogspot.com, with charts and pictures.]

I wanted to do a "thought experiment" post on all the reasons to be bullish, but I don't have the time or energy or imagination to pretend this evening. So, I'll briefly ramble in response to a reader's comment:

The Fighting Polak said...

What do you think is going to happen to LEH? Unless someone steps in tomorrow, I don't think it survives the weekend. When you have $2.4B in revenues, but $5.3B in debt obligations, you are not long for this world.

It also occurred to me that there are going to be fewer buyers interested in LEH than were in BSC. JPM obviously isn't going to buy it, GS is too smart, and I would imagine other companies are looking down the line at getting WM or Wachovia cheap. If I'm going to take a risk on some junk, I would prefer it to be WM or Wachovia.

Thoughts?

Well, I do think Lehman Bros. (LEH) will get absorbed by someone, probably over the weekend, but your guess is as good as mine on how it shakes out. For speculation, check the latest on Bloomberg or the Wall Street Journal.

First question: What will the immediate market reaction be? For the answer, flip a coin. The market could bounce, only to plummet the next day, a la Fannie and Freddie. There's just no telling.

Second question: Is this type of thing indicative of a bottom? My best guess is no. I could be wrong. The government could help engineer buyout after buyout to stabilize credit, and we all live happily ever after (probably as renters). Dow 15,000! I would eventually sell my SKF at a loss and move on. But I see very little evidence to support that theory.

So I have my own theory: This is not the bottom. Bear Stearns, Indymac, Fannie, Lehman...that's the beginning. Why haven't the extraordinary government actions since Bear Stearns prevented the dominos from falling? Bear was bought by a bank, and the rally lasted a while. But Fannie and Freddie, the supposed core entities of the housing market, were essentially nationalized, and that rally lasted all of one day! Think about it, that was the beginning of this week. Now we're talking about LEH. Why would a LEH bailout mark the bottom?

I'd like to remind readers what I wrote 2 days ago:

The financials, despite a big pop yesterday morning, are not rallying on the most significant government intervention since the Great Depression. Here's a question: What happens when government interventions of increasing size and scope fail to spark rallies? It's like a junkie who needs more and more drugs to get a high--when the high no longer comes, he's just an addict on the way to self-destruction. Has the market become addicted to bailouts? Please read this article by Kevin Depew on the next stage of the credit crunch. [By the way, I think Depew has used the "junkie" analogy in the past--giving credit where it's due (pun intended).]

We are reaching the junkie self-destruction stage. After LEH, we'll be talking about others. Washington Mutual (WM) is sick. Merrill Lynch (MER) is trading as though something is seriously wrong. Click here for a 3-month chart of Fannie, Lehman, Merrill, and WaMu. What will this look like in a month? A week?

And yet, there seems to be complacency. The VIX is under 25, and many observers are saying the bottom is in and the economy is recovering (nevermind unemployment rising and massive bailouts being necessary). I think this complacency increases the risk of a big selloff. If I'm wrong, I'll lose a little on my bearish trading positions and perhaps miss a few percent on the recovery. But overall my positions are small (by design, not by decline) and I sleep very well at night.

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A Light At The End Of The Tunnel?

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This has been an incredible few weeks. Fannie and Freddie have been effectively nationalized, Lehman Brothers (LEH) is apparently going into bankruptcy, Merrill Lynch (MER) is being absorbed by Bank of America (BAC), and American International Group (AIG) is desperate for cash. Goldman Sachs (GS) and Morgan Stanley (MS) are probably on deck. I'd like to just write about interesting stocks to buy rather than this financial crisis, but these are historic events that, like it or not, affect all stocks. As of 10 p.m. Sunday, the Dow is set to open around 270 points lower on Monday morning. But who knows where it will go from there?

Recently, a reader commented that my negativity was growing tiresome. Yes, I'm bearish on the financials and on the market in general, and this view has served me well in the preservation of capital--a proper goal in a bear market. Negativity, at least in an emotional sense, has nothing to do with it. If you want emotional negativity, ask me about the offensive scheme of the Minnesota Vikings.

I'm not an economist or a certified financial analyst, so I rely mostly on others for the nuts and bolts of financial data. When I sift through all the information, I simply find the bearish case more convincing. Today I watched a Bloomberg interview with Nouriel Roubini, and he says the light at the end of the tunnel is that of an oncoming train. Roubini and others (especially Bennet Seddaca, Kevin Depew, and Todd Harrison of Minyanville) have been proven correct on the severity of the credit crisis. That's why I listen to them, although I always try to read up on other points of view. Since the beginning of the crisis, others have been suggesting that it's time to buy financial stocks. They have been, for the most part, incorrect. For someone like me with limited capital, I can't afford to average down on a stock forever and wait for it to bounce back (nor do I think that's a good strategy).

I was asked by Investor Place Blogs to comment on Merrill Lynch (MER) for the Bull/Bear report this week. I'm glad I waited to write, because it seems there is no such thing as an independent Merrill Lynch--it's now part of Bank of America. It seems the investment banking business model, with its exteme leverage, is over. A commercial bank with a stable deposit base (read: access to capital) will get that business. When the dust settles, Bank of America and JP Morgan (JPM) could be the winners. This process of separating the stable banks from the unstable ones is part of a cleansing purge (hopefully) that can set the foundation for a recovery. I look forward to being bullish again at some point. There will be a light at the end of the tunnel after all, I just don't want to be the first one to jump in front of it.

[No position in stocks mentioned. Short financials via SKF. Article posted simultaneously on my personal blog, www.thestocksurfer.blogspot.com.]

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Warning: Capitulation Not Yet Confirmed

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Warning: Capitulation Not Yet Confirmed
In my Monday Night Recap on blogspot, I highlighted volatility and said the following:

The VIX is back above 30, but be careful. This year, a VIX reading above 30 has been a good signal to buy. But be careful, it can go higher. Here's a chart of the VIX going back to 1990, and you can see that it went above 40 in 1998, 2001, and 2002. I can't pull up a chart that shows it going back further, but I've read that fear has been much higher in the panics of the past.

Well, today the VIX closed above 36, near its highs for the year. The intraday high was January 22, at 37.57. January 22 was a "capitulation day" marking a short term market bottom, and I've written about how I sold some stocks in a panic, only to realize my mistake as the market reversed.

Some are saying that today was a capitulation day in the financials. With all due respect, I'd wait to make that call. Capitulation could be close, it could even be tomorrow, but there's no reason to try to guess. There was no meaningful reversal today, and that light at the end of the tunnel could be that of an oncoming train. As I've said before, What happens when government interventions of increasing size and scope fail to spark rallies? We now know what happens: more fear.

Frankly, with the unprecedented events taking place right now, volatility should be as high as it is, if not higher. Remember these wise words from Keynes: "The market can stay irrational longer than you can stay solvent." And these wise words from Todd Harrison of Minyanville:

Is "this" capitulation? Not through my lens. Not with the VXO at 37. Not with the BKX 35% above the July lows. Not with everyone asking if it's a capitulation. I've lived through capitulation, my friends--it occurs when you don't care, when you stop trying, when you wet your pants.

Also please note this chart from Minyanville that compares the current S&P 500 track to the 1971-1976 track. As they said, the fundamentals behind the move are different, but the psychology is the same.

Risk right now is two-sided. If you are long, you could continue to get punished. There could be a significant market dislocation (as if 800 points in the Dow isn't enough for you already). On the other hand, if you are short, you could get squeezed very quickly. If you can't sleep at night, by all means sell something or hedge, but don't add more risk. This is a bear market. We are down around 26% from our highs last year, but we can go lower (even much lower) as we have in past bear markets. We don't need to predict the next move, but we should be ready for anything. There's nothing wrong with cash until the dust settles. Good luck out there.

Note: Posted simultaneously on my personal blog, with charts and pictures.

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Crazy Days

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The market is a wild, wild ride.

YESTERDAY

--Into the morning pop, I bought some Ultrashort Nasdaq (QID) and Ultrashort EAFE (EFU). Those were day trades, and I sold each of them with a 3% gain. All of this seemed quite rational, because big premarket jumps like that have been consistently faded (sold) for several weeks.

--When the UK ban on the short selling of financial stocks hit the news, everything got a little wacky. I was reading my Minyanville Buzz & Banter, and the reaction was pure incredulity from professional traders.

--The market started to jump and I sold my remaining Ultrashort ETFs, the Financials (SKF), Real Estate (SRS), and Russell 2000 (TWM), with nice gains on all of them. But this was no cakewalk. This was akin to jumping out of a burning building. SKF, for example, peaked at 150, I got out at 145, and closed at 115. It's going to open in the low 90s if not lower. Wow.

--When I saw the market jumping on the government announcement of an RTC plan (or some type of big government plan), I bought some Google (GOOG) and ICICI Bank (IBN) before the close. Even though the intervention concerns me, even disturbs me, the goal is to make money so going long is the only choice at this point. Literally. As Jeff Macke reminded me today, "Trade the market you have, not the one you wish you had."

TODAY

--Honestly, I have no idea what to do. The rules of the game have changed.

--Regarding the ban of short selling, reasonable people will disagree on it. The one aspect I worry about is that some very smart traders have commented that to ban short selling is to remove an important source of liquidity in the stock market. It may increase the chance of a big drop if buyers don't keep pushing the market up. [Note: The ban is on 799 financial stocks]

--The most compelling reason not to blame short sellers: Companies around the world looked at the books of Lehman Brothers when it was facing bankruptcy. No one wanted it. The company was not sound.

--Philosophically, I'm disturbed by the now common practice of neglecting or even blaming the responsible market participants, while bailing out the irresponsible. I can't imagine how this affects people who trade for a living, but I can imagine how it affects me personally. My portfolio was prepared for the crisis, and I barely escaped with my head. I will be mostly on the sidelines while the market jumps several percent. I made the correct choice to continue to rent rathat than buying property during the housing boom. I will be on the sidelines while the government helps people stay in homes they can't afford, with my taxes. I'm not bitter, just disturbed.

LOOKING AHEAD

--There will be a HUGE rally today, at least initially. Britain's FTSE is up over 9%! I'm not sure how I'll trade it, if at all. I'm very flat at the moment. I'm reminding myself that even after we get 400 points up in the Dow today, we're just back to where we were Monday. As Todd Harrison says, "Opportunities more easily made up than losses."

--I still think this needs to be viewed as a bear market rally, because I'm not convinced that this government action will stave off recession and deleveraging. I'll remind readers that bear market rallies so far this year have looked like this (posted before the most recent rally which began July 15): The S&P 500 has gone up an average of 7.5% over an average period of 45 calendar days. The shortest rally was +4.3% over 28 days, the longest was +10.8% over 65 days. Remember that, when all seems well. It's still a bear market until proven otherwise.

--This rally may last longer because of the incredible government intervention, but I do think it will inevitably fail. I reserve the right to change my mind if the government buys the stock market and bans all selling.

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