2010Feb12 Winter in the Market?
2010Feb12 Winter in the Market?
It is no closely guarded secret that this winter has already been one for the record books with places like our nation’s capital receiving nearly 30 inches of snow the first weekend in February, and expecting more. Depending on whom you ask, this act of Mother Nature is either a blessing or a curse. For avid skiers and school age children it couldn’t get any better. However, those in charge of removing all of the snow off the roads, sidewalks and driveways are not exactly happy. No matter what your opinion of the snow, it changes the way you go about your day.
For instance, if there is a foot of snow on the ground (or even a couple of inches for that matter) you are not likely to drive to work the same as you would if the roads were completely dry. It’s common sense that when the weather conditions worsen, we give ourselves more time to drive from point A to point B. We drive a little slower and don’t follow so closely to the car in front of us. This is all intuitive, but why? The simple answer is that the chances of having an accident in the snow are substantially higher than on a clear, sunny day. It takes much longer to bring the vehicle to a stop and the car does not have nearly as much traction, not to mention the unpredictability of other drivers. So, doesn’t it make sense to be much more cautious driving in the snow than on a clear day? Absolutely.
So, doesn’t it make just as much sense to be cautious with your investments if it is “snowing” in the equity markets? The biggest problem that investors have today is they think that it is always a clear, sunny day in the market. (“Stay the course. Markets always go up.”)
In reality, it is not always sunny on Wall Street. Sometimes it is clear, sometimes it is raining, and sometimes it is snowing. The challenge is to know the weather. If you didn’t know it was snowing, would you take your ice scraper with you? Probably not. However, if you knew there was snow on the ground, you’d probably make sure you had your ice scraper, gloves, hat, and possibly put chains on your tires.
Successful investors evaluate the financial markets in much the same way. There are times when it is sunny on Wall Street and rewards owning more equities. The tools we use to evaluate markets become our weather forecast indicating whether the chance of bad weather is high or low.
In the March/April 2009 time period the “meteorologist” and “radar scans” for the market were suggesting that, after the “blizzard “of 2008, the sun was beginning to shine again. It didn’t mean there weren’t any potholes left behind by the storm, but the ice on the roads was melting and the sun was starting to shine. In the Spring of 2009, investors were rewarded for shifting from wealth preservation to wealth accumulation. Since then, the equity market has experienced a notable move off the March 2009 lows.
However, after a nice long “summer” the clouds have been rolling back in over Wall Street. An important indicator is the NYSE Bullish Percent Index, which measures the percent of stocks trading on the New York Stock Exchange that are being controlled by demand (buyers). Over the past few weeks the NYSE Bullish Percent has shown that supply (sellers) is becoming dominant. This is stronger than any other general market pullback over the past 11 months. In other words, not only are the clouds rolling in, but there are some flurries beginning to fall from the sky.
What we do not know is whether the flurries are going to accumulate into a foot of snow, or whether they will simply melt on contact. What we do know is that the chance of a major accident is much higher. So, we are currently taking the necessary steps to manage any unnecessary risk in portfolios. This risk management review is similar to the things you might do before you go driving in the snow. Clear a path around your tires in order to achieve maximum traction, scrape the windshield, turn the radio down, and put both hands on the steering wheel.
The first place that we have started with is the exposure to the international equity market. International stocks have come under more intense pressure than their domestic counterparts. The MSCI EAFE Index (EFA), which is the most widely followed index or benchmark for international equities, violated a notable area of support with the move to $52 earlier this month. This action suggests that the balance of power in the price of this index has shifted from buyers to sellers.
Currently, we see some snowflakes falling on Wall Street. You may want to consider making some changes in your portfolio in order to help protect your assets in the event this “storm” takes a turn for the worse.
The indicators we follow measure what is happening in the market, not what should be happening. If the sun breaks out from behind the clouds, then we will “take the chains off the tires.”
If you have questions about your portfolio or want a second opinion about your real risk exposure, give us a call.
P.S. If you think this type of analysis would be of benefit to anyone you know, please share this communication with them.
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