Raise your hand if you are waiting for the Federal Reserve to lower interest rates in order to diminish the impact, psychologically and fiscally, of the global credit crunch upon market bourses worldwide.
Now, go stand in a corner in the back of the room.
Look, the key to the entire market volatility predicament does not lie with the Fed or the regulators. It falls squarely at the feet of the speculators who, using borrowed money, rode up the ladder of capital gains and now are falling from their untenable perch. Just like the dot.com bunch that rode hyperbole and hope to the market summit, this crew took their greed into real estate speculation, stock-buying on margin, and hedge funds to accelerate a normal bull market cycle (2003) into something it wasn’t.
And like the group that preceded them, these ne’er-do-well investors might experience the same fate, with the same “what happened?” look on their face.
Without exaggerating the significance of these late-term aggressors, bear in mind that all markets are cyclical, all have ups and downs, and that this last bull phase was nearly five years old when the reversal began. Nothing goes straight up, and it surprises me that we can’t remember that. However, I will be the first to admit that the premise of quantitative market statistics and Arlington Econometrics is that events can be measured and phenomena have statistical and measurable probabilities of occurring and reoccurring.
In the aftermath of this decline we can look around and theorize, but now is the time to fall back on methodology and science.
Obviously, as “the market” weakens, certain sectors perform coincidentally to the market’s direction. I would avoid Consumer Cyclicals and Financials, as they are the primary negative beneficiaries of the current economic climate.
However, within the realm of counter intuition, I would overweight my portfolio today in cash, Utilities, and short-term fixed income securities, at least until we hit a measurable bottom in probability averages.
It is impossible to “sell everything” and sit on the sideline to ward off the negative influences of investing. Further, “market timing” is not what quantitative statistics is about. Rather, the goal of my theory is to calculate asset allocation strategies predicated upon probabilities of direction and magnitude of certain vectors, factors, and economic statistics.
I know, it all sounds so antiseptic. But would you rather measure your probabilities of performance, or guess based upon hope and hyperbole, as if walking in a dark room across to the kitchen?
Bear phases happen, and we must accept that. The current capitulation might destroy any forward progress made so far this year. That raises the old “why didn’t I just throw everything into Treasuries” argument. The answer, I believe is simple. At the beginning of the year (2007) your maximum expected return in treasuries was 2.5%. Today, that might seem attractive on a relative basis. Eight months ago you would have fired me for making such a suggestion.
The best one might do today is to weather the current predicament with solid asset allocation methodology and hands-on portfolio management practices, not something you will get in an impersonal mutual fund that “tracks” the direction of the market.
I am not always comfortable predicting downturns. They are never happy events. Buy my regular readers and clients know that by using my models we have already predicted these events well in advance of their occurrence and made the necessary rebalancing effort to mitigate the negative effects.
I am always looking to own rather than to sell. Our foresight will pay off when bottom junctures are indicated. If we can weather into the fourth quarter, most indications will be clearer regarding a plan of action for the next bull leg.
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