- Remain patient during bear markets;
- Lessons from Carl Icahn on “losing everything” in a bear market; and
- A pullback is not too far away
Things continue to trade per the script.
The S&P 500 closed 4151 – just below the 35-week EMA zone of around 4200 – a zone where I feel we might find resistance.
To be clear, it could easily go higher from there (e.g. 5%).
However, my perspective is the potential upside gains (from 4200) do not offset the downside risks in the near-term.
The risk/reward equation favoured us at 3600 – it does not with stocks some 14% higher.
Therefore, I would recommend trader’s exercise patience.
Here’s why…
Never Confuse a Bull Market for Brains
Watching the ebbs and flows of investor sentiment is a curious thing.
If nothing else – it’s entertaining.
For example, when the market traded down around the 3600 zone, many traders were probably on the sidelines – waiting for the bottom (more on this shortly).
The VIX traded around 35 and some feared this could be a repeat of 2008 (according at least to some reader feedback).
And the lower prices traded – the more bearish people became.
Such is the nature of things.
But now what do we find?
Prices are up about 14% off their lows. Q2 earnings were not as bad as feared. And we have some initial signs inflation – whilst still exceptionally high – could be peaking.
All of a sudden the bears turned bullish.
There’s just one problem… this isn’t a bull market.
Not yet.
Trading (and investing) is a much easier game in a bull market. As the old saying goes – a rising tide will typically lift all boats.
And that’s what we saw over the past few years.
It didn’t matter if you made money… lost money… stock prices were likely to go higher unless you did something silly.
And with that mindset – investors showed little discipline.
From mine, Cathie Woods’ ARK Innovation ETF was the poster child.
They bought anything and everything … paid 60x earnings…. 20x sales… and prices went up.
But you should never confuse a bull market for brains.
Here’s Carl Icahn on this lesson:
I started investing in ’61 (age of 25) when the market was hot… and I learned a lot from that because you never confuse a bull market with brains, and what I did was confuse it and I’m buying all these stocks.
I’m picking this and I’m picking that and I had a following of people who would listen to me. Oh wow!
But everybody was making money. You don’t realize that, and Jack Dreyfus would tell me, he’d come over, he sort of liked me, and he said you’re gonna lose every penny you have.
I’m telling you Carl before you’re through it he said…
I was up to about seventy thousand dollars (~$750K today inflation adjusted), which was huge.
He says you know what when this is over, six months – a year maybe less – he says not only won’t you have the 70 — you’ll be negative, everything you ever had, and he was right.
In three days in ’62 they cleaned me out and I learned… I will tell you what I learned from that experience.
You have to go through the pain, you have to go through it.
The market is not a gambling casino and too many people in this type of market, too many people think it is, and especially now with low interest rates, so it’s really a dangerous place today.
Amen.
I like to call trading losses your tuition fees. It’s the price you must pay to play. At some point you will have them. But hopefully, you won’t lose everything like Carl.
That interview was November 2021… with the market close to its all-time highs.
He warned investors something was not right.
As Icahn points out – when the economy faces little headwinds and GDP is strong – where unemployment is low – monetary policy is loose – virtually any company and/or investor can do well.
It’s like catching fish in a barrel.
But that doesn’t make you a good fisherman! In fact, it doesn’t teach how to fish at all.
As Dreyfus warned Icahn in 1961 “you’re gonna lose every penny you have” – the more important thing is protecting that money during bear markets.
Icahn lost it all in just three days in 1962.
Protecting your money during bear markets is the hard part of this game. And it’s the game being played right now…
Avoid Doing Just These Two Things
There’s no question 2022 has been one of the more challenging years…
For example, it was the worst 6-month start to a calendar year since 1970!
That’s something!!
Year to date my portfolio is basically flat – down just 1.4%
And I will take it… as there’s 25-years of trading lessons behind those numbers (which includes trading through the bear markets of both 2000 and 2008).
Staying almost 14% ahead of the market wasn’t via luck.
Three things put me in this strong position:
- lowering my exposure in Q4 last year;
- maintaining exposure to only quality companies; and
- tactful option strategies (e.g. covered calls)
What’s more, I’ve been accumulating positions in “core” quality long-term positions when (I felt) valuations were very attractive (e.g. Apple, Amazon, Microsoft).
These positions have rallied of late (which helps) – but I expect them to give back some (not all) of these gains over the weeks ahead.
But I don’t have a 3-month or 12-month lens with these trades… I will look at where I am in 3 years. As I expect these positions to return CAGRs well in excess of 10% minimum
But let me talk to the two basic errors that many traders often make in times like these… and both can be avoided.
#1: You Will Never Know the Bottom
If you ever hear anyone claim they picked the bottom – they were either lying or just lucky.
Most of the time I have not been lucky – where my positions are down as much as 10-20% not long after I enter.
And that’s fine…
For example, I saw each of my four large cap tech holdings get belted this year!
But here’s the thing:
Readers will often ask me “where the bottom is?”
If I only knew!
Right!!
But the mistake you should avoid is trying to time your entry thinking you know where the bottom is (and the same for the top)
That’s a mistake.
For example, if you asked Carl Icahn where the bottom is… he will say who knows.
Same for Warren Buffet.
But they will tell you when a quality business (e.g., like Apple or Amazon) looks like it’s a strong long–term risk reward trade.
What’s more, they will also know when the environment is nothing more than an accident waiting to happen (as Icahn indicated November last year).
That’s more important than trying to forecast some kind of bottom.
#2. Don’t Confuse this Market for What it is
With the market some 14% off its June lows – you will hear many ‘talking heads’ claiming this is the start of the next bull market.
And look it might be – but I think that kind of call is incredibly premature.
From mine, there are all the hallmarks of a bear market both technically and fundamentally
Let’s start with the latter:
- Interest rates are going to continue to rise well into 2023 (despite many falsely assuming the Fed are now ‘doves’ – cutting rates as early as Q1 next year);
- The Fed are only just starting to reduce their balance sheet (quantitative tightening) – as they ramp to $95B per month;
- CPI and Core PCE (the Fed’s preferred measure) continue to rip higher at 40-year highs; and are unlikely to materially move lower (eg. CPI with a 5-handle) this year;
- Global supply chains have not meaningfully improved; and
- Consumers are making ‘ends meet’ on the back of greater credit – where household debt just topped $16 Trillion for the first time; and finally
- Consumer sentiment remains close to its all-time low.
What’s changed here?
Nothing.
Sure, inflation may have peaked at 9.1% CPI.
So what…
Let me ask if you inflation be at 2% by the end of this year? Or even the end of 2023?
I don’t think so.
Anything higher is likely to inflict pain on the economy (especially opposite higher rates)
Further to previous missives, I think we will be lucky if CPI starts with a 5-handle by the end of 2022.
And if that’s correct – the Fed’s work is nowhere near done.
Expect the Fed to raise between 50 or 75 basis points at its September meeting… and then again at its following meeting.
What’s more, forget about an interest rate cut in Q1 2023 (as some now suggest)
But what does the technical set-up tell us?
Aug 04 2022
Nothing on this chart (to me) screams “pin your ears back and buy”.
Further to previous posts – I expected the rally to the zone of 4200
I called that many weeks ago…
And look, it may push beyond this zone a little further.
However, my best guess is a reversal over the coming weeks.
My question is not so much the reversal – it’s how far it recedes?
Put another way, can the S&P500 make a higher low.
This would help shift my bearish thesis a little if we were to see it (technically).
For now, we are simply rallying (in a weekly bearish trend) from what was close to an oversold market (especially in tech) – not unlike what we saw during the total 50% retracements of 2000 and 2008.
Putting it All Together
Patience is the best trade for now.
Let’s see how the market trades around the 4200 zone… and go from there.
If you are trading this market – consider this opportunity to
(a) get rid of lower quality holdings at much better prices; and
(b) buying some put protection for the move lower
But if you added to quality companies with the market trading around the 3600 zone… you’re probably in good shape for a strong finish to the year.