Four in a Row?!

I'm knocking on wood, crossing my fingers, and picking four-leaf clovers as I write that title... I don't want to do anything to jinx an unbelievable four-day rally that it looks like we'll continue today.

The US markets look set to move after good earnings from here and abroad. Toyko markets moved up 3+%, the most since 2002, after Japan's economy grew much more than expected. The rest of Asia followed upward.

Europe is up more moderately, but that's fine with me... UBS reported a huge, terrible loss because of subprime writedowns. For them to report that and for the market to still be up.... I like that.

US futures are trending higher for all three major indexes. Comcast just released excellent earnings, and the NASDAQ should have some positive reaction after (so-called) good earnings from Baidu.com (BIDU) after the bell yesterday. (On a side note, I think that BIDU is a high-PE "pig" that needs to be slaughtered... but if it's gonna pull up my tech stocks today, i'll be ok with that.)

A nice move today will be very beneficial to my trading account here and my longer-term Ameritrade account... between the two accounts, I have February ATVI and SNDK calls that, as of yesterdays close, were about $.30 away from the strike price.... if the positive market momentum can push them above the strike prices in early trading, then I'll be able to break even (or maybe even sell profitably!) in trades I had written off as losses.

Looking forward, the MSFT options that I wrote a trade note about buying look like they'll work out well (still knocking on wood). MSFT closed a tad under $29 yesterday (the option's strike price) with an entire month left. As I stated before, as clarity increases concerning the Yahoo deal (and just as the market goes up), MSFT has a lot of ground to make up towards its high of $37. I also bought some $30 SNDK calls yesterday as the stock appears to be picking up some momentum.

So, if the market opens up big, I plan on profit taking on a few trades, just because I'm not sure about the sustainability of a weeklong rally. But the market is still dirt cheap, and if economic conditions continue to stabilize/improve, this could prove to be the beginning of the end of the best buying opportunity for years to come.

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A Weak Week?

Note: This is published before the markets open for the week of 11/12.

The performance of the major indexes over the past week can be viewed two different ways.

As I have said before, predicting the market is nearly impossible and (overall, for a long term investor) generally fruitless. However, when writing a blog about the stock market, it's necessary and fun.

This past week, the Dow and S&P 500 both shed about 4%, while the NASDAQ endured an 8% haircut. (The majority of these losses came on Thursday and Friday, with some of the indexes and many individual stocks actually posting gains between Monday and Wednesday).

Many of the high-flying tech stocks (that I shorted in my fantasy portfolio; read my previous post) led the market downward.

• Google lost over 10%
• Research in Motion dropped over 20%
• Baidu.com dropped nearly $100 from its all-time high around $430 early in the week to $340 on Friday
• Chipotle Mexican Grill, on which I stated I had a bearish outlook, lost about $20 from $140 to $120
• Even the blue-chip Cisco lost 10% after reporting good (but not spectacular) earnings

Both the S&P 500 and Dow are both within a few percent of their mid-summer lows, with the NASDAQ a little farther away due to a bigger run-up in recent months.

Many professional analysts cite those summer lows as an important level of support. If indexes crash through those lows, look for new, much lower bottoms. But if the markets tap the barrier and bounce back, the bull market may be revitalized.



However, looking at it simply instead of technically, I see reason for weakness to persist in the markets.

Oil, though now off of its highs, is still in the mid-nineties per barrel. Gasoline and other distillate prices are now only starting to catch up to the rise of the price of oil, so watch for consumers to now finally be effected by $90+ oil.

The dollar is crashing. Though such terms haven't been used yet, and though I'm not an international monetary policy specialist, I'm comfortable using that term. After reaching parity with the dollar within just the past month or two, the Canadian dollar now trades around $1.05. When currencies are appreciating faster than markets (with 5% monthly changes of 10+% yearly changes), I think that the depreciation is becoming dire. The dollar is hitting new lows against the Euro on a daily basis. As the Fed continues to weaken the dollar through cutting rates, it's making the problem even worse.

Lastly, the subprime problem is far from resolved. Major banks and investment houses continue to write down their books for losses in securities. Major corporations like Bank of America, AIG, and Morgan Stanley are plummeting in value. Homebuilders, though recently pushed out of the spotlight, may still be in danger of going bankrupt. As the cost of imported goods starts and continues to rise, Americans won't have money to buy houses.

There are just too many logical reasons why the market could continue to go down, while there is little logic for an upside bounce. I own some puts in an ETF that tracks the S&P 500, and when they expire this week, I may buy an Ultrashort ETF. I could easily be proven wrong in the short or long term, as political, economic, corporate, and emotional conditions change, but I see no reason for the markets to immediately rebound in the context of today's environment.

SHORT!

I want capitalize on the current volatility.

Right now, my real-money portfolio is nearly 90% invested; I have some SPY puts, and then about 8 different stocks. I'm happy with all my positions right now, so I'm not really looking to actively trade that portfolio soon.

However, I just entered a trading competition sponsored by my university. Finally, I get to employ lots of risky strategies that I wouldn't do with my real money.

The competition opened today, and my first move was to short, short, short.

I shorted:
Apple
Bidu
AIG
Amazon.com
Google
RIMM
QQQQ
Petrochina
SPY
F

If the market continues to be sour (after the 3% loss on Nov. 7), the returns will be lucrative. All of the above stocks (except for the exchanges, F, and AIG) are high-growth momentum plays. If momentum stops, there's no telling where the floor will be.

Of course, I'm long stocks too (I'm about 1m more short than long in a $5m portfolio). I own:

BWLD
ANF
ATVI
TM
JAVA
and a few others that I'll update later.

Literally every stock, both long and short positions, fell today, but the shorted ones fell more, so I'm currently in the lead.... after the first day of trading.

As for my general take on the market:

It seems like there's a lot of reasons why there could be a correction now. The dollar is crashing, oil is still high, Morgan Stanley just wrote down $4B, WMU, Freddie Mac and Fannie Mae are under review for lending policies, and the market has just been strong lately.

Could the market rebound nicely tomorrow? Sure.
Could it fall 10% over the next two weeks? Believe it.

Predicting the market movement on a day-to-day basis is impossible and fruitless, so I cannot and will not say if the market will be up, down, or flat tomorrow.

But keep in mind that stocks like Apple, Google, and Baidu have P/Es that are 2 or more times higher than there rest of the market. When momentum runs out, it's a recipe for disaster stocks like those above. Google is itself a big enough entity to drag down the entire market; just keep an eye out for the potentially-dangerous situation that this can create.

If I had to guess: BIDU, MSFT

I don't closely follow Baidu.com simply because it's valuation is too high for me, but...

If i had to say, based on Amazon's earnings, there's a bigger chance of a decline than a big pop after tonight's earnings.

There's so much speculation already priced into BIDU that a on-target or modest positive surprise probably won't do much to prop up the stock's lofty price. However, a miss could be devastating.

I'm going to start trying to predict earnings on stocks I actually know about; Baidu is not one of those. However, I'll try to predict some movement. If it absolutely blows out results and raises estimates, I don't see more than a 10% increase within the next week. However, if it is on-par or disappoints, a 30% haircut isn't unfathomable.


One prediction: Microsoft will come in well today, because of Halo 3, Xbox 360 sales, and favorable exchange rates.

Back to Mindless Buying...

Pardon me if I sound a little bitter, because I am on the sidelines, missing out on the spectacular gains.

But the enduring bull run of the hot tech stocks like BIDU, GOOG, RIMM, AMZN, AAPL, and others truly baffles me.

Apple gets some leeway, because it did just report excellent earnings, and it seems to be the most fundimentally-solid out of the above mentioned companies. However, it was one of the laggards of the group today, up ONLY 7%. (Of course there's nothing to prove this next claim, but if my father is reading this he could agree: I actually thought Apple would blow out the quarter on good Mac numbers. In my opinion, that's going to be the the main (or only) thing that will allow them to keep up their hypergrowth.)

Google was up $25 to $675 on no real substantial news; it looks to blow through $700 easily. The momentum is simply unstoppable.

Amazon was up 10% today purely in speculation of good earnings. With at trailing P/E of 140 and a forward P/E of 70, the earnings are going to have to be unbelievably good to merit the gains.

And best of all, BIDU and RIMM were both up a solid 10% on no major news. I guess if you have a four-letter symbol and are either selling smartphones, a search engine, or have a website, the value of your shares will ALWAYS be too low at the current prices.

Meanwhile, there's companies like NutriSystem (NTRI), which trades at a current P/E of 9 and a forward P/E of 8, that are getting no love during the rally around them. Sun Microsystems (JAVA), a reliable producer of tangible software and goods, has been flat lately as the gains of the intellectual-tech companies are halfway to the moon.

Whenever people write articles like these, Techlovers will always reply that this is what people said when Google was at $160 and after AAPL and RIMM had merely doubled (both are up much more since then).

However, people were obviously still buying tech stocks at the height of the bubble in 1999 and 2000. There are huge difference between then and now; the above-mentioned companies all ARE making money, while 7 years ago, many techies were not. However, the above companies will not all grow at 30% or 50% indefinitely; if Apple can't think up the next "IT" product, or if Google can't enter a market besides search, growth rates will surely fall, and P/Es should too, back down to earthly levels.

Just think: If Amazon's forward P/E fell to the level of Apple's - a generous 30-35x, it would be trading at half of its current price.

Black Monday 2: October 22, 2007

Note: The chance of this actually happening is minute. This isn't a prediction of what WILL happen, but just speculation over an event that has a tiny chance of occurring.


Investors marked the 20th anniversary of Black Monday on Friday by selling off each of the major exchanges by 2-3%. Bad earnings may have initially triggered the downturn, but it seemed as though investors simply wanted to mark the anniversary with a decline.

However, as the official anniversary passes, I think that the conditions now are the most reminiscent of 1987. If there was or is a time to speculate about a crash, that time is this weekend.

Here's why:

During the week preceeding the crash, the Dow lost about 10% of its value. This past week was not nearly as bad, as the market lost a little less than 5%, or about 600 points. Though not as severe as a drop, it still bears a very eerie resemblance to what happened then. Here's a chart of the Dow over the past week:

Not a pretty chart.

As it's been stated in every other writeup about a potential 2007 crash, the general market conditions are similar; high oil, weakening dollar, and more.


So, why do I think that there's a slight chance of a crash (or correction) in the future?

First, the emotional aspect to this coming Monday. As I am writing this post, a front-page article on MarketWatch.com compares this past week to the week proceeding the crash. As analytical articles of 1987 state "investors had a weekend to ponder losses from the week before," now, today's investors are pondering this week's losses in light of 1987. There's certainly possibility of an irrational, emotionally-driven over reaction on Monday.

The other thing that increases the possibility of a crash, and concerns me, is the high valuations of certain stocks and industries. It's true that the overall market valuation today is less than it was in 1987, with P/Es then higher than they are today.

However, certain sections of the markets have rich valuations: popular tech companies like Apple, Google, VMWare, Amazon.com, and Research in Motion all trade at 30-80 forward P/Es. A 10-20% shaving off of the top of any of those stocks would not be uncalled for.

If Apple or Google were to lose 15% of its value, it could easily trigger a ripple-effect sell off through the broader market. Those tech heroes both represent the current bull market and actually hold lots of investors assets, many of whom may have purchased recently as companies are making new all-time highs. Investors may sell off early to minimize losses, and this effect could be worsened by stop-limit orders that some investors have in place.

Lots of Chinese companies are similarly situated; speculation over the high-growth stocks has created rich valuations, and as the recent 50+% decline in some solar stocks shows, losing a significant amount of value in a very short period of time could occur.


This hypothetical crash would probably begin the same way that 1987's Black Monday did: US investors wake up to news of major, but not crash-level, sell offs in Asian and European markets, in response to US losses on Friday and their own sky-high valuations. (With India's market losing 10% of its value in one day just a week ago, and with Shanghai doing the same earlier this year, a 10% decline on any Asian market isn't too unrealistic).

American investors, shaken by the 5% drop last week and the 5-10% Asian drop overnight, coupled with the emotional fear of a repeat of Black Monday, start selling as soon as the premarket opens. Baidu falls $100, or 33%. Google loses 15%. Apple (who releases earning after the bell, which everyone now forgets about) is down 15% too. Banks, who reported bad earnings this past week, would mirror this fall due to financial fears. Investment banks, with lots of money tied up in mortgages and tech stocks, would also begin to suffer.

A wave of selling has spread throughout the entire market by noon. The tech-heavy, high-PE Nasdaq loses 15%. The Dow and S&P don't fare as poorly, but both are down about 10% too. Things could get very, very ugly.




Now that my scenario is outlined, do I believe that this WILL happen? No. If I did, 70% of my money wouldn't currently be long in equities. I do own puts in ConocoPhillips and the SPDR ETF, so I have slightly insulated my positions against a big loss. But if I thought a crash was inevitable, I'd be 100% cash, or puts, or shorted stock.

The possibility of a 1% gain tomorrow is much, much bigger than the prospect of a 10% loss, but I just figured I'd chronicle my thoughts as every investor is nervously awaiting Monday. Do I want a crash to happen? Absolutely not. But, as my position in SPDR puts suggests, I do expect a correction in the reasonable future, and wouldn't be absolutely shocked with a more sudden drop.

Cramer's hype and two lessons on 10/11

I am not a fan of Jim Cramer's mad money show. I have to credit him for being a great investor during his hedge fund days, but he has been reduced to a cheerleader on his television show.

Take, for example, what he said on his show just yesterday. Here is a direct excerpt from the TheStreet.com writeup about the October 10th show:


"At this point you have a duty to yourself and a duty to your wealth," Cramer said, "never to take financial advice from anyone who doesn't recommend Google." Analysts that knock Google can only be so wrong about a stock for so long before admitting they're wrong, he said, and it's time for investors to stop paying attention to the bears.

Cramer said his price target for Google has always been lower than where he actually thinks it's going to go.

Cramer then raised his price target to $750. "This is a total and unequivocal lowball estimate," Cramer said.

This estimate might seem overly exuberant, but Cramer believes it's based on genuine arithmetic. If Google earns $20 a share next year and continues its trend of 30% growth, it should hit $750. He then said that a nonconservative but rational price estimate would be $900.

It's truly irresponsible and unprofessional for a man of Cramer's reputation to pump up a stock like that. Calling analysts that do not recommend Google sissies or idiots is disrespectful and uncalled for.

Let's see how well Cramer's "four horsemen" did today:

Google, -.5%
Research in Motion, -8%
Apple, -3%
Amazon.com. -6%.

Those numbers don't necessarily show how bad a Cramer-follower could have done; all but Amazon rebounded from intraday lows. At one point:

Google traded at prices as low as $609, after an intraday high of over $640. An ameture trader could have really gotten burnt.
Research in motion spent much of the last two hours of the day down over 10%.
Apple also fell almost 10% before recovering some ground.

It's also worth mentioning that Baidu.com, another stock Cramer pumps, lost over 10% of its value today.

My point is that Cramer's constant pumping reminiscent of the market sentiment in 1999 will only hurt his beloved viewers. As his four horsement hit daily highs, Cramer hit "Buy, Buy, Buy." If these stocks correct to appropriate levels, average, ignorant investors that fell victim to Cramer's antics will be left holding the bag.

So my two lessons:

Don't by into hype; do your own independent research. Are Google and Apple good companies? In my opinion, yes. Are they good investment ideas right now? Maybe not.

Secondly,
Don't be as yellow-bellied as I am; have a little courage.

I bought an Apple October 160 put contract for $1.60 on Octover 9th, looking for a pullback that I believe is due. I sold them early today for no gain, because I was worried about a continued rally.

The options closed at $3.60 today, after a few trades above $6. If i had followed my CORRECT investment instincts, I would have made out handsomely while the market got punished. However, I bought into the hype myself and it cost me a couple hundred dollars.

And, because I love being kicked while I'm down, I decided to personally add some insult to my injury.

After I sold the Apple puts, I bought Google's October 560 Puts for $.90. I sold them for a modest gain after the stock dipped for $1.20.

Once again, I should have followed my instincts; the options closed at $2.25 today after trading above $3. I would have realized returns of hundreds of percent today if I would have just believed in my ideas.


So enough rambling. My point is, I made to very, very stupid trades, influenced by the sentiment that I was trying to play against - the overhyped, artifically-inflated hysteria that had been sweeping the market.

Just to clarify, Those two trades represented less than 2% of the money that I manage; my equities were actually up today. So, I didn't lose money, but stupid, sheepish trading prevented me from making a couple hundred dollars today.

My message to you is this: be braver than I am. Do your own research, and when you come to factual conclusions and believe in your idea, stick with it.

Don't be influenced by Cramer, any talking head on TV, or even myself. I encourage independent, smart investing.

I'll admit my mistakes, and chock this one up to a powerful, yet unfortunate, learning experience.