Speed Bumps or Speed Wobbles

Are we hitting speed bumps or getting speed wobbles.

I would hazard that the current volatility is more like speed wobbles.

The market has risen substantially and really without much correction for more than 9 months. That is a long time in market years. The first inkling toward an arresting of that trend were speed bumps. Signs of a deceleration in market trajectory. We have been climbing the wall of worry, accumulating worrisome baggage even as the market reached higher levels. The previous all time high seemed like a talisman, calling us forward. The problem with a wall of worry is that worry eventually has an effect. Markets can live with self-delusion for quite a while.

It looks to me that we are now entering the next phase of correction. How big will it be? 10% 20%. Calling those things is a mugs game, but with full central bank support, I expect some kind of official response once we get down around 10%.

Breakout

Technically we broke out earlier in the week, but then we went back and tested the new support line. Today's big move is a confirmation of the breakout and is likely to draw shorts and cautionaries back into the fray. A comment by David Tepper that we're in a win-win situation (if the economy recovers, the market goes up, and if the economy tanks, the Fed will intervene and the market goes up), looks to have got things going. Volume is still enemic, but breadth is humongous. Even though we may be entering a new range, I doubt we're out of the woods and this could all be a little premature. Having said that, if the market gets its courage up, it could have a real nice end of year rally.

If you're looking for a fundamental spin on the breakout, about the best I can surmise is that some of the leading edges may have started looking beyond the current soft patch, and are anticipating greater recovery in the future (leading to sustainable earnings growth and expanding multiples). Right now, all we have are expanding multiples (risk on).

Defenses Probed

The market probed the 1130 defensive line on the S&P 500, but it was only a reconnoiter.

Expect another test on post-expiration Monday ramp. Could be a great jump-on point for a nice retracement trade.

These guys kill me

There are a lot of technical commentaries out there right now looking at the current pullback in comparison to all the other pullbacks since the low in March 2009. I've seen lots of means, medians, ranges, averages, % above/below 50 day MA, etc. bandied about, all inferring that the recent past is a good approximation for what is likely to happen this time.

Quite apart from conducting dubious statistical analysis with limited explanatory power on a meaningless sample size, what kills me is that they do it everytime and they invariably miss the forest for the trees.

The technicians are always very good at describing what has happened, but like all other prognosticators, they are not so good at telling us what will happen.

Addendum: It's all about the graphs. It also really bugs me when someone uses a volatile data series depicted in graphs to make their case. They invariably extrapolate some future scenario based upon (1) an historical pattern, (2) the current trend, or (3) both 1 and 2, but with so much noise in the data, it is a crapshoot.

Filling The Cascade Gap

I am a little surprised to see the market running so hard, so quickly after enduring the shock and awe that hit us in October and November of 2008, and the numbing malaise that laid us flat in Feb/March 2009. I can understand a big bounce off the bottom, given the magnitude of the decline, but then I would have expected the market to consolidate its gain and move forward in a more measured manner (especially given the cloudiness of the future). Strangely, this does not appear to be happening. Which leads me to think, maybe we haven't learnt anything from our recent brush with pure, unadulterated risk.

In trying to interpret these movements, the thought occurs to me that maybe as the Feb/March cascade was anomalous (and I think it was), perhaps the cascade move below 1200 in Oct/Nov was also anomalous (I'm not so sure about that). If that were so, then in essence, the market made not one, but two really big mistakes in risk assessment. And if that were the case, then we could possibly see a super spike back to 1200 to backfill the market's mistake. Such a thought is a red rag to the bulls, and a repudiation to anyone concerned with market efficiency and conservatism.

Cliches for the time

After a big move up, it always baffles me that people want to join the ride.

The main premise behind this action is the idea that the market is now signaling that it is safe to get back in, and the adage the trend is your friend. This is momentum investing at its best.

But if you flip it on its head, you end up with the disastrous situation we had last year. Investors selling the market late and eventually quitting at the bottom.

What is interesting to me is not only that momentum investing fits a certain psychological disposition, just as contrarian investing fits a certain psychological profile, but that you can make good money on both sides of the divide.

My guess is that really good investors manage to mix the two perspectives within a fairly flexible investment framework.

The Future - Unknown Unknowns

My sense is that there are plenty of folks still on the sidelines. Many of those folks have watched a 37%+ rally pass them by, and many have sold into the rally and are now sitting in non-producing cash. The skepticism is palpable, and as such will only continue to support the rally, as people are drawn into the rising market. When the last bear has been forced back into the market, then it will be time to reverse thrusters.

What I don't know is how much farther this rally can go (it has the potential to go 40%-50%), nor how long it will take (I've got no idea on this one but it could go through the end of 2Q09 and who knows maybe even 3Q09).

I'm skeptical, and that worries me. Anytime the market doesn't do what I think it should, it worries me. It worries me because I could be wrong (it won't be the first time and certainly won't be the last). Being wrong is an integral part of the occupation. How you manage that uncertainty will determine whether you separate yourself from the crowd, or simply get caught out.

I've raised a little cash, to bank some profits from the run off the bottom, and am faced with the decision whether to get fully invested, raise additional cash, or to run with what I've got and see where this market takes us.

The difficulty in navigating this market (and any market really) is in tapering your view/conviction on the fundamental outlook with feedback from what the market price action is telling you.

Probably A Good Level To Lighten The Load

Just looking at the S&P 1000.

Hit a high of 3317 today (a 49% bounce from the March 6 low of 2225). The last time it hit that level was November 5th (and that was at the top of a significant bounce from the Oct 28 low of 2727).

Technically resistance would appear to be around 3308 (the 200 day MA). But eyeballing it, I would say a level closer to 3350-3400 is more like it, given that it reflects the new level from the early October cascade.

In the big scheme of things, 3300+ is probably not a bad level to take profit.

Prospective Support

Okay, I confess. I don't have a clue whether today's move is the beginning of a correction or not, and I don't have a clue as to what might be reasonable downside targets or levels.

Fortunately for me, there are much wiser people than myself who provide those kind of insights, and one person who I respect points to the following support levels on the S&P 500: 875, 827 and 780 (don't ask what is next after 780).

Now I can feel better about myself, because I have a framework for reference.

Note: I took an eyeball look at the graph myself and I would pitch pretty strong support around 800.

Searching For Perspective On Bounce Potential

Been searching for a little perspective on this here rally.

For background, when I went searching for perspective on the market implosion I came up with what I thought was a reasonable level for a decline, given the uncertainties and severity of the issues we were dealing with. It made sense to me that it was going to be somewhere between 50%-70%, given the premise that its severity would be sandwiched somewhere between the catastrophe of the 1929-32 period (-86%) and the mercilessness of the 73-74 bear market (-48%).

On the flipside, I'm searching for perspective on what kind of rally we could possibly see. For perspective, I would pitch the potential bounce at being somewhere between 25%-50%, given an avg. bear market rally of 20%, a high of 60% in 1938 and the next highest rally being 48% in 1929-30. For my money, if we experience a 40% bounce (930), that is a pretty good place to get off the equity market express. The scary thing is, I think that if we reach 930, we could easily go through to 1000 (50% bounce), but 1000 is only 7.5% higher than 930, and finessing these things is pretty hard to do.

Next up, I'm searching for perspective on what kind of retracement we might get.

Note: The magnitude and duration of bounces and retracements is very much connected with whether we are in a bull market or a bear market. I'm still in the bear market bounce category.

"The Squeeze Is On"

The squeeze is on, but I'm not buying it.

Doubt resides in the dual unknowns of what level the market will reach, and the magnitude of its retracement.

This is what makes investing difficult.

For a little perspective, here is a potential scenario:
Trough = 666
Peak = 930
Trough to peak bounce = 40%
Retracement = 15%
Retracement level target = 790

I kind of want to see the market getting "nuttily happy" before I reverse position - it's getting there but it needs a few more days to attract more moths to the flame.

I bet there is a fair amount of regret sitting out there among investors who cashed up and stayed on the sidelines.

The Second Derivative

The market has been responding to the 2nd derivative of decline recently - celebrating the fact that the economy is falling apart less slowly (and showing relief that global implosion is a much reduced probability). I can see the market staying positive through the 2nd and even into the 3rd quarters as it remains hopeful of a recovery (newsflow will likely highlight slowing declines). But the rubber will meet the road in the 3rd and 4th quarters as the market's courage is tested by whether a recovery really is likely or renewed concern over continuing weakness (ongoing deleveraging, rising (albeit at a slower pace) unemployment, ongoing debt/solveny issues among financial institutions, consumers, etc.). Q. How much more rally is left in this market? Ans. Potentially quite a bit. If the market remains in its current positive disposition, then it is quite possible to see 1000-1100 on the SandP 500. I think we're currently in the middle of a long term trading range of roughly 700-1100.

RF Micro Devices (RFMD) in my sights

This company has been a perennial underperformer and therefore a disappointment to me. The stock has rallied off its low of $0.70 on December 12th to around $2.85 presently (300%+ gain). Balance sheet concerns (the company has levered up in recent years backing off its debt against a large cash stash...garnered when it went public and not from operating profits) and evaporating market demand for its products undercut the company, leading to the stock falling from a high of $7.46 in October 2007. Technically, the current level ($2.85-$3.15) forms a resistance barrier, with the next resistance barrier around $4. Personally, I think there are assets here that are worth more than $3, but I am not sure whether the company will ever get back in a position where it can demonstrate that fact. To their credit management has been chopping into the cost structure (belatedly...boy is it frustrating to watch tech companies wallow in a state of cost structure denial, just because they have the cash to do so) and is putting the company in a position to take advantage of any improvement in its markets. I'm just not sure those improvements are going to come along any time soon. Nokia might be interested, but they've got their hands full with their own problems right now. Apparently RFMD have developed a new process for improving the efficiency of producing LED bulbs (certainly sounds promising, but still at least two years away from commercialization, and it is unclear whether they own the intellectual property on it). It seems that just as you are about to pull the trigger and sell something, some new piece of "exciting" information crops up to defer the decision (hope springs eternal). Stock is undervalued relative to peer SWKS, but not so against other peer also-rans TQNT and ANAD. It has the cash to survive and is getting its internal house in order. Much will depend upon the external opportunities in extending its RF chips beyond handhelds and if the China hope is overdone, and whether there is any value in the LED opportunity.

Disclaimer: At the time of posting, I had a professional position in this stock but sold it before the end of the trading day.