The Inevitable 10% Correction

[clifp]

Might be a good time to mention Kahneman and Tversky's Prospect theory and how it relates to investor behavior in situations of losses or gains.

Briefly, if one perceives himself to be in a loss situation he will behave as a loss seeker- ie. not take a possibly smaller but definite loss but rather wait for a bounce back. The loss need not be an accounting loss, just perceived as a loss which usually depends on the anchor-ie. what former or attained price has become accepted as normal by the investor.

OTOH, in perceived gain situations there is a tendency to sell and nail down the gain.

I think this is a very powerful behavioral tendency that successful investors must find some way to control or adapt to.

Ha

Excellent point Ha. While intellectually I am aware of the theory, emotionally it is tough to overcome it. In my taxable account I am disciplined about selling loser before the end of the year and/or they turn into long term losses. But in my IRA, not very good.

For example my BIL was very high on biotech cancer drug. He is a smart guy who never makes recommendations (now we know why). I bought two small positions one in my taxable at $9 the other in my IRA at $11, by the end of the year the stock was down to $5 (a price point above where my BIL had bought most of his stock). I dutifully sold my stock in the taxable account, and while doing so I asked myself why do you own this company at all. I didn't really have a good answer. But I hated to lock in 50%+ loss.

I stopped asking myself that question in the next 3 years the stock has steadily decline from $5 to $.08 LOL. At this point I hate to pay the $9 commissions for a $45 holding... Of course sometimes you get lucky and one of these dead birds, rises Phoenix-like and soars very high.

 

[eta2020]

Excellent point Ha. While intellectually I am aware of the theory, emotionally it is tough to overcome it. In my taxable account I am disciplined about selling loser before the end of the year and/or they turn into long term losses. But in my IRA, not very good.

It is much easier to overcome if you own index fund versus individual security.

I wish I knew that when I was 20 plus.

 

[audreyh1]

S&P500 is already back over 1900. That was fast. Not that it is over or anything. Until we are out of October, all bets are off.

But it does increasingly appear as if the Ebola scare created enough panic, in a market unsettled for other reasons, that a 10% correction was finally achieved.

Most bottoms are "W" bottoms, so one still waits to see if another shoe drops before the tradition end of year rally.

 

[2B]

It is much easier to overcome if you own index fund versus individual security.

I wish I knew that when I was 20 plus.

Me too. It's easy to sell one version of a losing index fund in a taxable account and immediately buy something very similar immediately without triggering a "wash sale." Vanguard Total Stock Market Index is close enough to the S&P500 to move the same way. After 60 days you can go back to the original Total Stock Market.

 

[clifp]

S&P500 is already back over 1900. That was fast. Not that it is over or anything. Until we are out of October, all bets are off.

But it does increasingly appear as if the Ebola scare created enough panic, in a market unsettled for other reasons, that a 10% correction was finally achieved.

Most bottoms are "W" bottoms, so one still waits to see if another shoe drops before the tradition end of year rally.

I still think Running Man analysis is right S&P 2000 is strong psychological barrier. I also think the election is going to keep volatility high until then.
I believe the market expect Republican to win a modest number seats in the House, and enough in the Senate to create a virtual tie.
If the results are sustainably different, I expect a pretty major reaction.

 

[Lsbcal]

I sure would like someone to step up and tell me how to predict this stuff. Believe me I've tried to find methods ... and not been very successful. Just using pricing behavior it seems not possible. I think I mentioned 3 bad markets which were not correlated with restrictive Fed policy. Here are Yahoo charts of the SP500 for all 3 (sorry, it's kind of a big image):

You can indeed see a "double bottom" if you use your imagination.

 

[RAE]

I sure would like someone to step up and tell me how to predict this stuff. Believe me I've tried to find methods ... and not been very successful. Just using pricing behavior it seems not possible.

Personally, I don't think it's all that useful to look back at past market behavior to predict how this market will perform over the next several years. The reason I say that is that there has never been anything like the Fed's QE program over the past 6 years, which has (in my opinion) artificially propped this market up, despite generally the generally poor economy over that period of time. Once QE ends next month (supposedly), no one really knows how the market will react. My view (and I may be all wrong) is that the economy is still not strong enough to grow by itself (without govt. life support), which could then easily result in the US sliding back toward recession. When the Fed realizes that is happening, they'll have no choice but to implement "QE 4", and the merry-go-round will continue.

For this reason, I am being very cautious through the end of the year, at least, until I see how all this starts to play out.

 

[eta2020]

But if we were at the end of 20 year "secular" bear market I would be optimistic since it will likely be followed by lengthy secular bull market.

Cyclical bulls and bears are less interesting. Corrections even less.....

 

[haha]

If god came to me in a golden chariot and said sacrifice one crow, go long SPY, and hold for exactly 465 days, I would be optimistic.

I'm sure it will happen, especially if the charts are in accord and Kramer is silent on this so that only I know it.

Ha

 

[Lsbcal]

Personally, I don't think it's all that useful to look back at past market behavior to predict how this market will perform over the next several years. The reason I say that is that there has never been anything like the Fed's QE program over the past 6 years, which has (in my opinion) artificially propped this market up, despite generally the generally poor economy over that period of time. Once QE ends next month (supposedly), no one really knows how the market will react. My view (and I may be all wrong) is that the economy is still not strong enough to grow by itself (without govt. life support), which could then easily result in the US sliding back toward recession. When the Fed realizes that is happening, they'll have no choice but to implement "QE 4", and the merry-go-round will continue.

For this reason, I am being very cautious through the end of the year, at least, until I see how all this starts to play out.

I don't have any confidence in my ability to assess macroeconomic policy as it relates to stock market or bond market price movements. I'm certainly not the first to observe that all this is assessed second to second as events unfold by millions of market participants.

Also I'm not saying efficient market theory is all correct, just that I do not see myself getting making money decisions this way. There will always be clouds on the horizon and occasionally some of them will even grow into storms.

 

[explanade]

Actually there's talk that early next year, we'll encounter another debt ceiling confrontation, with possible shutdown of govt again.

 

[Lsbcal]

Actually there's talk that early next year, we'll encounter another debt ceiling confrontation, with possible shutdown of govt again.

Wasn't the last debt crisis in 2013? Up 30% for the sp500 that year.

 

[explanade]

You may be right. But I recall some choppy days in the market in the days and weeks leading up to the deadline.

 

[jebmke]

Actually there's talk that early next year, we'll encounter another debt ceiling confrontation, with possible shutdown of govt again.

Just in time for tax season. Tweak those estimated payments to avoid a refund.

 

[Brat]

One lesson I learned as a result of this episode is that when I am having a great year it is time to harvest some profits or sell stinkers to have some cash to invest for when the market swings down.

 

[mrfeh]

One lesson I learned as a result of this episode is that when I am having a great year it is time to harvest some profits or sell stinkers to have some cash to invest for when the market swings down.

How will you know when to sell? Then, how will you know when to buy?

 

[Lsbcal]

One lesson I learned as a result of this episode is that when I am having a great year it is time to harvest some profits or sell stinkers to have some cash to invest for when the market swings down.

Markets are constantly changing. Looking at the 1990's market, you'd have wanted to be fully invested as it was tough to sell and then buy back profitably. Even in this market of 2014, the SP500 is currently doing fine with a YTD of 4.6% for the Vanguard 500 Index (VFINX) as of Oct 20.

On the other hand, if you have already made your stash then selling to reduce risk is a hard strategy to criticize.

 

[2B]

Actually there's talk that early next year, we'll encounter another debt ceiling confrontation, with possible shutdown of govt again.

Unless you were wanting to visit a national park, who cares? Even that was totally unnecessary. It's made out to be a much bigger event than any of them have turned out to be. All hype. There's threats of not sending out SS checks and other equally idiotic things but nothing like that happens. I think Wall Street has figured that out too.

 

[2B]

One lesson I learned as a result of this episode is that when I am having a great year it is time to harvest some profits or sell stinkers to have some cash to invest for when the market swings down.

I proved my brilliance by moving my Etrade accounts to Vanguard over the summer. As the in-kind moves were done, I rebalanced into Vanguard Admiral shares which pulled several percent of equities out and moved them to CDs.

 

[audreyh1]

S&P500 already above 1900, and now it is above the 200 moving day average again. The level that so many folks warned about dropping under. There may be another shoe, but this is looking more and more like an Ebola market panic event, on a market that was vulnerable because it was already unsettled due to oil trades gone bad and traders having to sell liquid positions to cover losses.

 

[dallas27]

With oil cheap, energy booming in the US, and companies ripe with hoards of cash, i just dont see any reason to think the future of business will be anything below average. Other countries are adopting technlogy and societies to beginning to influence their governments through faster communication. Small wars and revolutions will inevitably cause hiccups, but they will be over reported and the GDP of the human race will continue to grow.

What i really hoping for is europe to come out of its funk and catch back up to the US returns. I'm heavy in international and still buying.

In addition to cheap energy and cheap capitol, labor costs are really low. If human ingenuity cant find profit in this short term, id be shocked. It's a perfect situation for profit maximization on the production side.



Sent from my iPhone using Early Retirement Forum

 

[Lsbcal]

S&P500 already above 1900, and now it is above the 200 moving day average again. The level that so many folks warned about dropping under. There may be another shoe, but this is looking more and more like an Ebola market panic event, on a market that was vulnerable because it was already unsettled due to oil trades gone bad and traders having to sell liquid positions to cover losses.

I've got a nice spreadsheet to check out the 200 day moving average method. It stinks. Siegel did a good study of it in his book (don't know about his current edition). There are decades like the 1990's where it didn't beat buy-hold. Using this method you get lots of whipsaws. Most people wouldn't like this and you'd have to be very disciplined to use it. A better method is something like a monthly but still some whipsaws.

 

[audreyh1]

I've got a nice spreadsheet to check out the 200 day moving average method. It stinks. Siegel did a good study of it in his book (don't know about his current edition). There are decades like the 1990's where it didn't beat buy-hold. Using this method you get lots of whipsaws. Most people wouldn't like this and you'd have to be very disciplined to use it. A better method is something like a monthly but still some whipsaws.

Oh I wasn't saying anything about using the 200 day moving average to time the market. I was simply talking about the current correction lifespan. A lot of folks warned how dire it would be to break below the S&P500 200 day moving average which hadn't been crossed in a very long time. Well, it was dire for a short period, but now it's above it and has breezed through some other even higher resistance levels that now become support.

 

[Lsbcal]

Oh I wasn't saying anything about using the 200 day moving average to time the market. I was simply talking about the current correction lifespan. A lot of folks warned how dire it would be to break below the S&P500 200 day moving average which hadn't been crossed in a very long time. Well, it was dire for a short period, but now it's above it and has breezed through some other even higher resistance levels that now become support.

I figured that's what you were saying.

If we start to think "200 day moving average" we should be aware of such a methodologies pitfalls i.e. lots of whiplashes depending on how you set the get out and get in points. Just wanted to make that distinction for those who are unaware of this.

Probably I'm trying to be a bit too precise for some (who have already rejected this technique out of hand). Perhaps it's my engineering background and please believe I'm not trying to be a know-it-all. I just need something to analyze once in awhile and stock movements are interesting.

 

[NW-Bound]

I think that the successful traders have the ability to sense the sentiment of the crowd. They may use more than these mechanical methods, and also intangible indicators like the "Wheee", or the number of posts in the "FIRE Milestones" thread for example.

I guess it is not an analytic method, but requires some people skills to sense the investor psychology. They can translate headlines and predict the crowd's action, and front-run them.

Just a theory, because I do not know how they do it.