Buying
vs. Selling Opportunities
John Riley
Strategist
Mar 11, 2008
XYZ just dropped
20% this morning! Quick! What do you do? Buy or sell?
For over a decade,
Wall Street and the Fed have conspired to teach investors that every
blip downward, every big drop in prices, every decline was a buying
opportunity.
And thanks to
the moral hazard they have created, they have generally been right.
A couple of Wall Street’s mantras are “buy and hold”
and “buy the dips”. This has been made possible by the
Fed’s enabling actions. When there is a major decline, the
Fed comes along and lowers rates, flooding the system with liquidity
and buoying up a market that should have headed lower.
I say “should
have” because declines, major declines, are a natural part
of a stock market cycle and of an economic cycle. But the Fed has
become a populist bureaucracy, more concerned with their own legacy
than a healthy economy. So they continue to serve beer to an economy
drunk with too much debt. The normal economic hangover that every
cycle has is getting put off by the Fed’s interference. And
the longer it is put off, the worse it is likely to be.
At some point
in time, the Fed’s interference will not work at all. Some
can point to the past 9 months or so of the Fed dropping rates,
trying desperately to bail out the market, the economy and the banking
system all at once and failing to make a difference. Today’s
banking problems are getting worse, the economy is slipping further
into recession and the stock market is clearly rolling over. Forget
about a real estate recovery!
So investors
have to be smarter than the bartenders at the Fed. (This shouldn’t
be difficult!) They have to recognize that while some declines are
a buying opportunity, some are not. Knowing the difference between
a decline that is a buy and one that is not makes all of the difference
in the world!
Everybody is
focused on the here and now, what have you don’t for me lately?
They want to know that today is going to be okay, and worry about
tomorrow another day. This is why the Fed drops rates. They fix
today but add more debt to tomorrow’s mess, making it even
worse. Let somebody else worry about tomorrow.
We take a different
view. We look at trends and fundamentals. These two factors tell
us whether a decline is a buy or not.
For instance,
with global demand rising and supplies limited, would a drop in
the price of oil be a buy? Yes. The long term trend for demand is
rising and this translates into higher long term prices. But what
if oil were to drop 20%? Still a buy. The fundamentals haven’t
changed. A decline is a true buying opportunity, until the fundamentals
drastically change.
With a recession
looming, real estate still crashing, unemployment rising and banks
taking billions in write-offs, is this a good environment in which
to invest in stocks? So a decline in the stock market, is it a buy?
Of course not.
Not until the fundamentals have a huge turn around. What is our
single biggest factor preventing that from happening? Debt. And
since it is likely going to take years to solve our debt problem,
stock market declines are not buying opportunities, and they won’t
be for a long, long time.
Since the Fed
adds debt to the system every time they lower rates or put cash
into the banking system, are they helping or hurting the long term
health of the economy? They are hurting it.
So here’s
a trick question – Today the Fed made available $200 billion
in loans to banks so that they can loan more money. The stock market
reacted like it was Christmas, opening up an astounding 260 points.
Is today’s jump in the market a buying signal?
No. It is a
selling opportunity. Remember what the Fed did. They added more
debt to the already overloaded system. This is a negative for the
economy, not a positive.
But the market
reacted positively, why? Because they are short term oriented. They
are not looking at the long term impact. They just want to know
that the Fed has put a band-aid on the problem.
So the fundamentals
have gotten worse, but the market is up. What does this translate
into? A selling opportunity. This is a great time to get out of
the stock market. Stocks that were down yesterday have been given
a gift of a few points today. A smart investor sells into market
strength when the economy is worsening.
It takes a clear
head to sift through the noise of the market. You can’t let
yourself get caught up in the emotions of the day, whether is positive
or negative. Long term fundamentals don’t change on a dime
like investor sentiment does. Staying focused on the long term trends
will help investors distinguish between what is real and what is
just the crowd noise.
Fundamentals
tell you whether a decline is a buying opportunity or not and fundamentals
tell you if a rally should be sold or not. Mixing them up can have
devastating and long lasting consequences on a portfolio.
At Cornerstone,
we don’t let the noise of the day sway us. We remain focused
on the fundamentals and trends, and invest accordingly. We won’t
get fooled by the Fed’s panic bail-out schemes.
|
