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Mark's Market Blog

10-7-08: Tarp Passes, Panic Ensues

By Mark Lawrence

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Well, another day, another three hundred billion dollars evaporated by Wall Street. A few hundred billion here, a few hundred billion there, pretty soon you're talking real money.

Pension funds are down $2 trillion in the last year, half of that in the last month. Gee, don't you wish Bush had gotten his way and allowed Social Security to invest in the stock market?

Bernanke, chairman of the Fed, says he is open to reducing interest rates further, as the economy faces a financial crisis of "historic dimension." Bernanke did his PhD thesis on the great depression, he obviously would like credit for avoiding another one. The interest rate drop would be purely symbolic, so far as the economy goes: money market and CDs would pay a bit less interest, old ladies would have a bit less income to buy their cat food with, banks would make a bit more money. But, we're currently in what's called a "liquidity trap:" there aren't any customers the banks want to loan money to, so no matter how much Bernanke lowers interest rates, there will be no money available to borrow. In a liquidity trap the only way to jump start the economy is pure Keynesianism: the government has to start spending money, like FDR did with the WPA. Of course, this would mean we were actually investing in our infrastructure - highways, water systems, electrical grid, communications grid - who wants that?

Of course, no such thing will happen.

Today the markets dropped another 4% - 6%, depending on where and how you look. But today it was different: although it started out in Asia, swept across Europe, then hit New York in full swing, the difference is there was little enthusiasm for it in the US. Thirty years ago, if you wanted to understand what was happening in the market, you looked in the newspaper at the "odd lot" transactions. Wall street likes to sell stocks in blocks of 100 shares. A typical share costs about $50, so it costs a few thousand dollars to buy a block. People with a few hundred dollars would buy a few shares at a time, a so-called "odd lot." The significance of this is that there are excellent statistics showing that the odd lot transactions always get it wrong: they peak their sales at the bottom of markets, and peak their purchases at the top of markets. These days no one reads newspapers, I don't even know where to find the odd lot reports. Furthermore, due to 401k's and such, people have more money to invest.

Today I bought a bunch of GM stock. I placed a limit order - buy when the price hits a particular level. It took almost three minutes for my order to be filled, and about a quarter of the purchases the computer made for me were odd lots. In the past my orders have been filled in one second in a single large block, meaning the other end of the transaction was most likely an institutional investor. Today I bought from Ma and Pa Kettle and friends. Odd lot transactions like this tell me that the market is due for a turn. Also, volume, the number of shares traded, was light today. Institutional investors are sitting on the sidelines watching and waiting.

In a typical recession, the market loses 25% - 35%. Today we're down 34% on the Dow, 37% on the S&P (the S&P has more exposure to banks and such). I don't think this recession is all that bad compared to some others, like '81 and '92, but the market has dropped more. I think this market is over sold and due for a correction upwards. And, right or wrong, I put my money on the line.

So far, I'm down about 12% for the last month. I was taken by surprise by this past week, I really didn't expect that the bailout would pass and everyone would panic at the same time. However, I expect by the end of the month I will be in positive territory. I have used this last week as a buying opportunity. This is sometimes called "dollar cost averaging." I bought some GM at $10.65, more at about $9.50, more at $7.90. My average cost for my GM stock is $9. Of course I would much rather have called this perfectly and bought all of it at $7.60, today's close, but it doesn't have to come up very far and I'm making money.

At this instant I own some SPY, a synthetic stock that tracks the S&P 500. I also own AAPL, GOOG, and GM, which are Apple, Google, and GM. SPY is a conservative investment. Apple and Google are higher risk / reward investments, I stand to make or lose more money on them faster than the S&P. GM is exceptionally high risk / reward. Standard investment theory is that if you are very close to retirement, or could not easily make more money to replace your losses, then you need a low risk / low reward strategy. If you have more time to retirement and / or have more income to replace lost money, then you can consider a higher risk / reward strategy. I'm betting more than moderately that in the next 18 months this stuff will go up a whole bunch, as opposed to drop dead. The risks: a protracted recession could kill off GM and a bunch of banks; advertising revenue could drop dramatically and Google could suffer; the death of Steven Jobs would be a huge blow to Apple.

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