Here’s What To Do In This Environment

• July 23, 2004
• Mark Boucher

Sometimes
Cash Looks Good

 

What a frustrating mess these
markets have been all year and continue to be.  First the leading Emerging
Markets of 2003 fell apart in January.  Then gold stocks and resources took a
hit as the acceleration in the global economy started to deteriorate.  There was
deflation scare.  Then it became clear that inflation was starting to become a
problem when the labor market FINALLY started to kick in.  Rate expectations
started to discount a very sharp tightening in policy and the market and bonds
fell apart, as did commodities.  The dollar put in a bear market rally, oil
prices rose over 40, and bond prices broke last year’s lows — and it momentarily
looked as though the global economy was in real trouble.  Rate expectations came
back down to reality, oil prices eased about $5 in response to OPEC’s production
increases, and the dollar rally ended.  Market internals improved SOMEWHAT and
the market staged a brief rally.  The triple threat we talked about — oil,
interest rates, and the dollar, all eased back and gave the markets more
breathing room.

 

But near the end of July, oil
prices started a rally to retest their highs near 42.  The market began to ease
off.  Greenspan’s talk before Congress convinced the bond markets that rates
were still headed higher and perhaps faster than suspected.  Even the dollar
seems range-bound and has strengthened some.  Few dominant trends have developed
this year, especially in the absence of volatility.  Commodity prices have
rallied, especially indexes with a heavy weighting of oil.  Oil stocks have
moved erratically higher.  Many rate sensitives and overvalued techs have taken
consistent hits this year. Europe, especially Austria, has played catch-up
briefly, but now appears under the same pressures hitting US stocks.

 

 

 

 

 

And in this mess, very few
stocks have met our criteria for either buys or short-sales.  Traders often have
a tough time in periods like this when there are few reliable good odds
opportunities.  It is frustrating and tiring to sit in cash and watch and wait. 
But your choice is to participate long and short and get whip-sawed back and
forth and face larger than normal volatility for a reward that may not even end
up being positive.  Therefore with few exceptions, cash still looks good to us,
especially for investors.  Sometimes not losing money is the best you can do.

 

Investors should continue to be
quite cautious in here.  Volatility and trendlessness, combine with huge risks
to make this market environment pretty unfavorable from a risk/reward
standpoint.

Our model portfolio followed in TradingMarkets.com with specific entry/exit/ops
levels from 1999 through May of 2003 was up 41% in 1999, 82% in 2000, 16.5% in
2001, 7.58% in 2002, and we stopped specific recommendations up around 5% in May
2003 (strict following of our US only methodologies should have had portfolios
up 17% for the year 2003) — all on worst drawdown of under 7%.   This did not
include our foreign stock recommendations that had spectacular performance in
2003. 

This week in our Top RS/EPS New Highs list published on TradingMarkets.com, we
had readings of 22, 37, 33, 42, and 49 with 17 breakouts of 4+ week ranges, no
valid trades and one close call in OSG.  Upside breadth has backed off yet
again, and downside breadth is now expanding to nearly decent shorting levels. 
Position in valid 4+ week trading range breakouts on stocks meeting our criteria
or in close calls that are in clearly leading industries, in a diversified
fashion.  This week, our bottom RS/EPS New Lows recorded readings of 38, 45, 45,
21, and 33 with 21 breakdowns of 4+ week ranges, no trades and one close call in
GFI.  We’re still not getting a lot of trading signals in valid breakouts,
though the environment is improving.

For those not familiar with our long/short strategies, we suggest you review my
book

The Hedge Fund Edge, my course “The
Science of Trading,”

my video seminar, where I discuss many
new techniques, and my latest educational product, the

interactive training module. Basically,
we have rigorous criteria for potential long stocks that we call “up-fuel,” as
well as rigorous criteria for potential short stocks that we call “down-fuel.”
Each day we review the list of new highs on our “Top RS and EPS New High List”
published on TradingMarkets.com for breakouts of four-week or longer flags, or
of valid cup-and-handles of more than four weeks. Buy trades are taken only on
valid breakouts of stocks that also meet our up-fuel criteria. Shorts are
similarly taken only in stocks meeting our down-fuel criteria that have valid
breakdowns of four-plus-week flags or cup and handles on the downside. In the
U.S. market, continue to only buy or short stocks in leading or lagging
industries according to our group and sub-group new high and low lists. We
continue to buy new long signals and sell short new short signals until our
portfolio is 100% long and 100% short (less aggressive investors stop at 50%
long and 50% short). In early March of 2000, we took half-profits on nearly all
positions and lightened up considerably as a sea of change in the
new-economy/old-economy theme appeared to be upon us. We’ve been effectively
defensive ever since, and did not get to a fully allocated long exposure even
during the 2003 rally.

To add to uncertainties, China and the US seem to be squaring off for a battle
of sorts over Taiwan policy.  The likelihood of terrorist actions before
November is high.  Sometimes the view from the fence is better than the one from
the pits.

Mark Boucher