SEPTEMBER OF 2011: A HORROR MOVIE FOR THE BEARS
This article also featured on Forbes
There are two distinct frames of thoughts with respect to the current state of the stock market:
1. We fall from current levels more or less unabated, in a horrific fashion that resembles 2008.
2. We fall from current levels more or less unabated, in a horrific fashion that resembles 2008 following a small bounce.
The key here is the reference to 2008. The Fall of 2008 left such an impression in the minds of the financial community that traders, investors and fund managers alike are in various stages of panic for fear of extreme losses. Furthermore, opportunistic investors are now salivating at the prospects for creating monstrous gains via shorting the market thinking that a free fall from these levels is a virtual slam dunk.
It's not only far from a slam dunk, the bullish side of the trade is setting up for a move that will wipe clean the gaggle of bears that currently populates Wall Street.
2008 has become like Camp WalaWala. You know, the campground that populated horror movies from the 80's and 90's. A masked man shows up with a machete, chainsaw or blunt object. Obnoxious guys who like beer begin to vanish. Scantily clad women who like guys who like beer also vanish. Eventually the entire campground is emptied of bad actors and what's left is the makings of a great movie franchise.
It's as if all of Wall Street has taken to Camp WalaWala for September. You have a large group of investors huddled around a campfire telling stories of all the bad things that happened at Camp WalaWala. At the first snapping of a tree branch or sudden gust of wind, everybody runs into their cabins armed with baseball bats and kitchen knives waiting for a killer that will never come.
There are certain truths about the markets that have stood the test of time since the first bid and offer were posted. One of those truths is that deception is an integral part of the functioning of any market where prices lead to profit or loss. There are points in an assets lifespan where the deception mechanism of that market will break, creating abundant wealth for those who ride the trend. The key is identifying markets where the deception mechanism is broken. The recent uptrend in gold is one example of the trend and the euphoria surrounding it taking precedent over normal market function. That function is to deceive.
If we are in a new bear market, as many suggest, then there will come a point in the trend where the deception mechanism breaks causing the downtrend to accelerate. Judging by market behavior, we are not at that point. Being that we are not at that point one must look at the data available and see where the greatest number of traders have the potential to be deceived. Given the overallocation into cash, bonds, gold and any other asset that creates a sense of security, not to mention all the short sellers out there, one must assume that the greatest harm to the most number of investors will be done through a sizable move to the upside over the next 6-8 weeks.
I can't give any fundamental reasoning for why the markets will move up from here. Sure, I can twist numbers and make wild guesses about the future of employment, interest rates, Fed policy or the banking system. I don't want to be that guy, however. Fundamental reasons for a move up or down don't exist in a conscious stream of thought during important turning points. The fundamental reasoning for the move up or down becomes a part of the overall consciousness of the investment community at the point where the potential for profit is minimal. Fundamentals fail for picking short to intermediate turning points in the markets for that reason.
What is important to realize is that there is a large population of professional investors who are underwater for 2011. Furthermore, a majority are protecting their assets by either sitting in cash or fully hedged positions to prevent their heads from exploding as a result of further poor performance. Should the market put together a run lasting several weeks there will be an awful lot of fund managers who are underallocated and underperforming their benchmarks. Underallocation and underperformance in the face of a market that is suddenly resurrected from sure death is an explosive combination during the final months of a calendar year.
Due to the excessive pessimism causing a floor underneath the market, this type of chasing performance scenario gains increasing credibility. A move to 1300 or thereabouts on the S&P 500, as unlikely as it seems now, becomes extremely likely given the herd mentality and cookie cutter asset allocation models that fund managers follow in today's version of Wall Street.
The scariest part of Camp WalaWala may turn out to be the crickets.
