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May you live in interesting times.
~ Ancient Chinese Curse

Okay, I guess we can check “live in interesting times” off of our “to do” lists. Wow, what a week. The best straight-shooting synopsis on the events, their causes and the ramifications I have read was Scott Kramer’s article last week titled What Is Causing the Worst Financial Crisis?. In the end, market investors breathed a sigh of relief as the government formulated some form of “bail out” from the mortgage mess, which finally last week culminated in a near collapse of our economic system. Have a nice day. And while I was as cheered as anyone to see the stock market rally, I can’t help but feel a twinge of anxiety regarding the long-term implications of all that has transpired. Apparently I am not alone in this sentiment as the market sold off again heavily on Monday.

Of Bailouts and Boondoggles: Your Government in Action

Forgive me if my faith in our government and its ability to “save us” is “a tad low” at the moment. I – like the vast majority of citizens today – am more than a little disgruntled. While I understand the populist notion that “greedy businessmen” are to blame for last week’s cataclysm, as a capitalist I believe that self-serving politicians are far more culpable. I generally try to avoid political discussions because – forgive my cynicism here – it is typically entirely pointless. Still, I feel the need to vent. So chew on these thoughts for a while:

• It seems to me that one of the biggest problems in this country over say the last 40 years is that the “standard goal” for politicians has changed from “serving the people, making the country stronger, more prosperous and – oh yes - upholding the constitution” to “spending as much of other peoples’ money as possible in order to get re-elected." And I don’t consider that to be a cynical statement. At all.
• I believe that the vast majority of citizens are somewhere in the middle, politically speaking. Nevertheless, there seems to be an ever-widening distance between the political left and political right in this country as those on either side seem to be gravitating toward the extreme. In other words, there is not a lot of “middle ground” because politicians who want to get re-elected (i.e., 100% of them), typically now must placate the base (i.e., the far left or the far right) first, and then “tack to the center” - which is code for either “lie to the citizenry in the middle” in order to garner their support or “tell the truth to the citizenry in the middle after having lied to those on the fringe in order to shore up the base.”  And politicians wonder why people hate them. The only good news is that I do think a lot of people see through this. The president has a very low approval rating (32%) yet his number looks absolutely spiffy compared to the abysmal approval rating for Congress (21%). Perhaps this is due to the fact that every time there is an issue that requires courageous and thoughtful action on the part of Congress, they shut down, turn out the lights and go on vacation.   
• While I rail about Congressional inaction, one of the great ironies here is this:  On one hand the bad news is that nothing seems to be getting done – think, energy, health care, the deficit, etc. On the other hand, the good news is that nothing is getting done. In other words, given their current propensity to hide vast amounts of pork in even the most innocuous of bills, the only thing worse than Congress not taking action these days is when Congress does take action. Seriously. Does anyone truly expect this Congress to pass an energy bill that will actually result in the production of more actual energy?  If so you are more of an optimist than me. Nevertheless, if they ever do pass any energy bill we can be pretty sure that some senator or congressman will come away with a building named after them in the process.
• Which makes you more uncomfortable? The anger you feel when Republicans and Democrats refuse to work together, or the queasiness you feel when they do (as this usually indicates that you are about to get the shaft).
• Both sides like to argue that the other side is “beholden to special interests." Ironically this is about the only time that both sides tell the truth.
• Where is the outrage over government spending?  I believe that one of the most damaging developments in the US over the course of my lifetime is the fact that the American citizenry has by and large come to overlook the fact that the government has no money of its own and must therefore extract it from the hard-working taxpayers. In fact things have evolved so far now that despite the fact that government spending is one of the most over bloated boondoggles of all time, the question remains when was the last time you heard someone loudly and forcefully complain about wasteful “government spending?”  Instead all we hear now is bloviating governors, senators and congressman berating the citizens into believing that they are not “paying their fair share." Spending has become a non-issue. The only real question is by how much will taxes have to be raised?
• Speaking of taxes, if you really wanted to wake up the citizenry from their slumber I think this would do it: abolish the payroll tax. Rather than silently, invisibly having money siphoned away, instead require every taxpayer to write a check once a year to pay their taxes. Talk about a shock to the system!  Being required to write a check for thousands of dollars just might cause a few people to focus and to ask “just where the heck is all of my money going?”  
• I don’t care what side of the political fence you are on, forking over more tax dollars so that some blowhard, self-righteous politician can spend it on whatever he or she thinks has the best chance of placating the base and getting him or herself re-elected is not “patriotic." What would be patriotic would be if government actively sought to reduce spending wherever it can. Unfortunately, given the current lot of politicians in Congress, they would certainly focus all of their efforts on cutting whatever spending is not essential to getting them re-elected and not necessarily on finding the actual wasteful spending.

All right enough of that, now let’s turn to the financial markets.

Keeping Our Eye on the Ball

My belief is that we have hit an important, at least intermediate-term low. Hopefully this belief will hold true for more than a couple of days. The primary word of caution is that if you study previous market bottoms (and trust me, I’ve studied a lot of bottoms) what you find is that sometimes the market bottoms out and heads higher, and sometimes the market bottoms out, bounces higher and then comes back down hard again to retest the original low. So while I am hoping for the best I would suggest that you don’t be surprised if the market gives us another good scare soon.

If the market does head lower, here are some things to keep an eye on:

• Diverging indicators such as MACD and the 3-day RSI (versus the Dow, S&P 500 and Nasdaq 100). If the markets head back toward last week’s lows, look for these indicators to fail to confirm and to then turn back to the upside as a signal that the worst is over.
• The number of stocks making new lows on the NYSE and NASDAQ – if the market retraces lower, look for sharply fewer new lows as confirmation that the downside has been “washed out."
• The VIX Index – I would certainly hate to see it get back to where it was last week (north of 40%), but another market decline accompanied by another sharp spike in VIX would be another sign of a major bottom.
• Crude Oil and interest rates – I touched on these two factors in last week’s article (“Kaeppel’s (Bonus) Corner: What an Ugly Bottom Looks Like”)I still think at some point people will realize that lower crude oil prices (yes, I understand that the price advanced sharply on Monday and that it remains relatively high and could head higher again at anytime, still 40% off of a high seems like a significant break) and lower interest rates are good things.

Here are two contradictory thoughts:

• Now is not the time to take risks, given the volatility prevalent today – The chances for things to go south very quickly suggests that investors would be wise to play it “close to the vest” until things calm down a bit.
• Now is a great time to take a risk, given the volatility prevalent today - Market environments such as the one we are in now offer the opportunity to generate the types of phenomenal profits that are typically not available. To wit, last Monday I wrote an article about gold stocks (FYI: articles I write on Monday don’t get published until Wednesday). On that day PMPIX was down 9.3%. In the five trading days since, Profunds Metals UltraSector fund (PMPIX) has advanced just a shade under 40%. Likewise, early Thursday morning I wrote an article (“Kaeppel’s (Bonus) Corner: What an Ugly Bottom Looks Like”) highlighting some reasons why the market could be nearing a bottom. After opening higher on Thursday then plunging to new lows, the market turned higher. After a bounce and a brief pause, the E-mini S&P 500 futures contract advanced 100 points in about 24 hours. These are the kind of money-making opportunities that don’t come around very often.

The key is to risk only a reasonably small portion of your trading capital. Intelligent risks are risks worth taking so long as you don’t open yourself up for disaster.

Summary

I don’t know that it is possible to “sum things up” this time around. There have been so many things that have taken place and so many things still up in the air that it does not seem possible to tie them all up into one nice neat summation. So here is my “anti-summary”:

Based on the cataclysmic events and market sell-off (and subsequent rebound) of last week, it is quite possible that we have seen a major stock market bottom. So while most investors tend to freeze up in this type of environment, I am actively looking for buying opportunities.

At the same time, as good traders we must always bow to the market gods and acknowledge their ability not only to make us look foolish, but also – and more importantly – to remove money from our trading accounts.

So feel free to take a risky position – but only do so with a small portion of your capital.

And maybe write your congressman or senator a letter and ask them what they are planning to do to reduce government spending. Har. That’s a good one.

To search for previous articles written by Jay Kaeppel, please click here.

Jay Kaeppel
Staff Writer and Trading Strategist
Optionetics.com ~ Your Options Education Site

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