Market Bottom?

I’ve had several folks ask me if we are at the market bottom… both in person and by email.  I’ll do my best to answer these questions.

I’ll start with disclaimer and an opinion.   The disclaimer is that I’m only about 50-60% confident in the following prediction.  The opinion is YES, we we at or very near the bottom on Friday with an inter-day S&P 500 level of about 844.

Here’s what I’ve done so far this week.  I bought 100 shares of SPY (SP500 ETF) Monday on the market open for $94.47 per share.  [BTW, this was a poor price for a market order place on the open… I think it should have cost me closer to $94.10 per share. I’ll have to talk to my online broker about the poor order execution.]    As of tonight I am up 5.57% on that purchase.  Secondly I wrote a covered Nov 102 SPY call Monday afternoon for $465.  These trades in my “play-money” account show me suddenly being a bit bullish, with the call write showing a bit of light hedging.

I might as well get specific about my play money account.  It started at about ~$17K in early 2005.  My oldest exact data shows was it was worth  $21,077  on Jan 1,2007.  As of today it is valued at $22,148.  Since I don’t add or subtract money from this IRA account it will be interesting to see how it fares in the months and years ahead 🙂

I feel compelled to note the VIX which hit a historic high on Friday of over 75.   Commonly called the fear index, the VIX measures the implied volatility inherent in the prices of S&P500 options.  The VIX was about 60 when I wrote my SPY call Monday afternoon.  The high VIX value meant I was getting pretty good “time-value” premium for my option.  The fact that I held SPY and wrote a slightly out-of-the-money call implied that I was slightly bullish on the S&P 500 for the next month.

So, yes, I believe that we are near a bottom.  Getting into the S&P500 for around 1000 (SPY for around 100) seems reasonable.  I’m doing so with my risk capital, but I’m hardly altering my larger accounts… neither doing much re-balancing nor changing my contribution elections.  I continue to max out my 401(k) contribution for the year (no change for the last 10 years… I always try to max) and I’ll max out my IRA contribution for 2008 (in 2009) before April 15 as I do my taxes next year.
Happy hunting!

To the Rescue: Black Swans and Moral Hazards

How many white swans must you see to prove that there is no such thing as a black swan?

That is a question put forward by one of my favorite financial authors Nassim Nicholas Taleb. It is even more interesting to learn that there are black swans, though most one us have never seen one.

Arguably, one such black swan is the current “mortgage crisis”. Some are calling this a credit crunch or an issue with illiquidity of assets. Most people, until recently didn’t expect such events to ever happen. If events like this were expected, few foresaw the magnitude of bank failures.

The thing about black swans is that they do show up occasionally. The other thing is that they are not entirely unexpected (at least by some). Black swans are why people buy insurance, and the relative rarity of such occurrences explains why insurance companies sell it.

I just saw the Senate on CSPAN pass the bailout rescue bill 74 to 25. This bill gives insurance claims to those that didn’t buy insurance in the first place. Oh, there is the raising of FDIC insurance to $250,000… and the banks have paid premiums to the FDIC, but that is more window dressing. As weird as it seems to me this bill appears to be a drastically amended bill involving, of all things, mental health coverage.

There are practical considerations for this bill and practical considerations against. The argument that sways my opinion against it is ideological. Simply put I this legislation crosses the line from regulating the market over to manipulating and attempting to manage the market. Secondly, it introduces a moral hazard. In this case it takes away (some of) the consequences of failure from banks and investors. In healthy markets failed ventures fail. There is a price for failure and that gives executives and business people pause and encourages prudence. If the congress takes away the consequences in full or part, doesn’t that just encourage more imprudent risk in the future?

Look, when Wall Street loses, often Main Street does too. Like it or dislike it, that’s the way it goes. But when the government puts $700 billion on the line… its our money on the line too. If all goes well the precedent is set. And if the economy goes south again, maybe 7 years from now, will there be another bigger bailout? How many times before the tax payers lose a big, big bet? This time, or the next, or the next?

Further, what if this bailout covers over structural flaws in the US (and global) financial industry? Perhaps these flaws should be allowed to continue to crack so that industry learns and adapts and emerges stronger.

My guess is that this bill will pass the House and become law in short order. My guess is that markets will like the passage and stock will bounce up perhaps 5-6%. I’m guessing markets open up 1-2% tomorrow morning (Thur, Oct 2). But I’m guessing that, long-term, this is merely a band-aid that covers up problems that will bite us in years to come.

My 2 pesos. Adios, amigos.

Angst, action, and a modicum of perspective

So I must confess this market has me a bit nervous.  My main outlet for financial nerves is my “play money”  (aka mad money) IRA account.  Here are my recent plays:

  • Buying an SPY call to close my covered call.  (realizing ~$300 gain on the call)
  • Selling 100 shares of SPY (about $1100 loss realized over about 1 year, offset by about $700 in call gains and dividends)
  • Buying 2 OCT 123 SPY puts yesterday (~$490 profit on paper in a day and a half).

So far I am happy with these moves.  It frees up cash for future buys and gives me the feeling of security of cash (in a money market).  More importantly it makes feel active rather than feeling passive.  This is helpful as part of me wants to sell sell sell! shares in my broader portfolio.

For me getting out of shares (selling) is emotionally easier than getting back in.  Thus, staying in is important.  I must admit it is feeling harder to resist a bit of selling.  I am certainly discouraged by the lack of gains in the last 10 years in the stock market.

Which gets me to real estate.  My home has been a pretty solid investment.  It has appreciated about 4-5% annually inclusive of the recent slight housing downturn.  This is not bad considering :1) it is a leveraged investment, 2) tax-deductible interest payments, and 3) I enjoy my house and my neighborhood.  So I take some solace in the fact that while stocks have been mediocre, my other investments (house, bonds, money market, options) have provided decent (if not exactly spectacular) returns.

WTF — A Week to Remember

MTWTF — Monday, Tuesday, Wednesday, Thursday, Friday.   But somehow WTF feels appropriate.  That’s where crazy became really crazy.

Monday caught my attention.  A big decline.  Then Tuesday.  Opened low, but finished up.

Wednesday. Down.

Thursday.  Opens up slightly, then down massively.  Then up massively.

Friday. Egads!  Up!!

I the midst of the maelstrom I was tossed by the winds.  My emotions were tossed as I saw $10K+ daily movements in my portfolio.  Fear was palpable.  One moment I wanted to place big bets on the upside by buying SPY calls, the next I wanted to buy puts.  Logic and emotion duked it out.  It seemed like logic was illogical in the face of the forces of financial nature. If logic doesn’t work… then emotion is seductive.  But emotion is fickle pitting fear against greed in the classic tale of investing.

In the end, I kept my powder dry and didn’t make any large moves. I made two modest moves.  1) I sold half of my BCS shares at a very low $21 and change (roughly break even with my $22 and change purchase plus the dividend I will get Oct 1).  2) I bought to close my covered SPY 130 Dec 31 call.

In retrospect selling BCS looks wrong, and closing the call looks right.   These actions were with relative chump change… comprising perhaps a couple percent of my portfolio.  And these moves — in my “play money” account — allowed me to leave my other larger investments untouched.  And so far that seems to have been a wise move (or non-move!).

This is a big week in investing.  The consequences of massive government intervention will likely be debated and studied for years to come.  My gut feels uneasy about the whole thing.  Yes it saved me some money in the short run, but what will the long-term consequences be?   It is, IMO, too early to tell.

If nothing else, this week, and next will be very interesting.  Living and participating in history in the making!

All I can say is that at this moment life is good for me.  It’s not all about money 🙂  Ideally, I like boring, safe, investments that go up in a smooth and steady manner.  But, hey, a little excitement now and again is interesting too.  I do love the drama — in moderation.

After a week like this I think it’s about time for a beer.  Cheers, Mates!!

Schemes and Scams

I like to write, except when I must.   I didn’t post last week because the muse was not with me.  But now she is back, filling my head with questions about the line that tries to divide sound investments from downright scams.  Often that line is quite clear to many of us.  We can often spot an unsophisticated scam from a mile away.

Sometimes those who should know better get taken.  When a wise investor get had she is only taken for a small percentage.  For example, the collapse of Enron directly impacted my investments… to such a small degree it possibly lost in the round-off error.  VTI for example, because it is a market-weighted index, exposed me to a little bit of Enron.

Malfeasance

In principle, regulation exists to combat Enron-style malfeasance.  And it works to a large degree.  However, for individuals and corporations alike, prudence is a perhaps more important factor.  It occurs to to me that it is in my own best interest to periodically remind myself of this fact.

It for this reason that I looked up the classic Ponzi scheme to check my facts:

Wikipedia:Ponzi

Then there is the legally grey red/black roulette scheme.  A financial adviser collects 10% return on all investment profits.  He takes the investors money and bets it on black.  If the roll looses he tells the client “sorry”.  If the roll wins he collects his 10 percent and does the same again at a later date… and demonstrates a 90% after expense return.    Now in real life the investment vehicle isn’t literally a spin at the roulette wheel, but a similarly functioning derivatives play or plays.

There is also the advising scam.  Start with 1024 target email addresses.  Predict, say, the outcome of an NFL football game.  Email the Colts prediction to 512 addresses and Panthers to the other 512.   Send the next prediction in a similar manner to the 512 folks who were send the correct answer (ignore the others to whom the wrong prediction went).   After, say 5 times, you have 32 folks who have all seen your prediction come true.  Hit them up for $99 to hear your next insightful pick.  If half these folks bite, there’s almost $1600 of ill-gotten gains at your disposal.  Until the cops come knocking. 🙂  [Note repeat again with the 8 folks who took your advice and you advised correctly, however this time the fee is $495.  Repeat again with the four remaining folks, then new fee is $995.  You get the idea.]

Prudence

It is smart and generally easy for most people to avoid big scams and cons.  It is sad to hear about folks losing money at Indymac bank.   Deposits over $100,000 ($250,000 IRA) will likely lose most of the excess.  However, may I pointedly say “Duh!”  It is helpful to get your FDIC facts straight folks.  Yes, banks are safe, generally.  But, come on, spread it around $100K at a time ($250K IRA).  That’s pretty easy… and wise to do.

Personally, I’m asking myself “What are the risks”.  Some are market-risk.  Some are company-risk.  There are many flavors.  The US stock market is pretty well regulated.  It is among the best managed markets in the world.  However, stock brokers, they vary.   My number 1 pet peeve is excessive fees including high expense ratios and (any!) loads.  Other key peeves are lack of diversification, bad annuities (not that I know much, but someday I will do more research),  and setting up or failing to adjust investor expectation.

Sadly, I’ve barely broached the topic and ideas that are coming to mind.  Suffice it to say that it behooves an investor to aware of and wary of scams and schemes.  A good place to start is with big, classic ones like the Ponzi.  There is, I believe, a continuum of such investing parasites (parasitics?) that can drag down investment return.  High fees and loads are the most obvious example.  These are legal, but should be avoided.

Parting words for now… loads are just that– a big load of *%$#!   Best investment wishes, and to all a good night.

Topics

Here is a quick collection of ideas for future blogs:

  • Personal Finance 101.  It all starts with savings.
  • Personal Finance 102.  Compound interest.
  • Personal Finance 103.  Quit paying rent.
  • Taxes and investing: What I have learned so far.
  • Note to self… (series)
    • Start a business.
      • Get a license. Form an LLC.  Get a tax ID. Get a PO Box/bank account/etc.
    • Manage taxes better.
      • Foreign dividend tax exclusion. (research)
  • Continuing stock pick/investing updates.
  • My favorite financial books.
  • Negotiation: An important financial skill.

This should be a good start for the next week or two.

Paydirt

BAC and BCS (Bank of America and Barclays ADR) have been good to me in the 2.5 days I have owned them.  They are up 28% and 15% since I bought them.  This kind of sudden paper gain is pretty rare.  All sorts of thoughts and emotions enter my mind:

  • I’m a financial mastermind.
  • I’m just lucky.
  • I should have bought more.
  • Maybe I should hedge… BAC is announcing Monday.

(Actually the last idea, about hedging, is a bit impulsive;  I may yet do it Monday morning.  These stocks are in my smaller IRA which functions as my tax-deferred mad money account.  Playing and being impulsive is OK with these funds.)

All of these thoughts, I realize, are silly and fleeting.  I don’t take them too seriously.  However, part of me thinks I should be beyond such unprofessional emotions and thoughts.  I’ve been investing since I was about 10 years old… to one degree or another.  I have over 20 years of investing experience.  I’ve studied finance in college and discuss finance all the time with a variety of successful people.  I’ve read and absorbed book after book after book about money and investing.  And still I have reactions that I consider a touch foolish.

Gambling: Keeping it at the Casino and away from the Brokerage Accounts.

My occasional risk-seeking tenancies are one reason I took up poker (and other gambling) about nine years ago.  I figured it would be a good way to familiarize myself with my potentially unhelpful emotions.  Mathematically, gambling is a bad deal.  Arguably there are only two games that potentially make mathematical sense: poker and blackjack.  Assuming one is skilled and patient enough.

So I started with blackjack.  I bought a book and practiced counting cards at home.  I developed a passing proficiency.  I then played for real.  I more or less broke even.  But I found it very boring.

I moved on to poker.  Primarily seven-card stud and Texas hold ’em.  I found some good poker books (Boy are there some bad ones!  However, I recommend anything authored by Sklansky.)  Over years I developed some skill.  I found that I did best with tight play — staying out of most hands.  When I consistent play tight and with focus, I do reasonably well.  I also found that I can be my own worst enemy.  Two emotions can cause me particular harm at the poker table.  Anger and boredom.

Boredom eventually causes me to take marginal bets that I shouldn’t to avoid the tedium of sitting out hands.  Anger clouds my judgment and leads me to careless, impulsive decisions.  Over the years at the poker table I’ve learned a variety of skills and techniques to mitigate and manage the impact of anger on my game.  I have been generally unsuccessful so far at finding techniques to mitigate my boredom at the table.  The only thing that I have found helpful to target boredom is taking myself away from the poker table for a break — usually at the craps table.

Craps

Craps is a stupid game.  It can also be a ton of fun.  There are simply no workable systems to make money playing craps.  One could put twenty dollar bills into a shredder, but craps is simply a more fun way to waste money. Playing craps lets me address my temporary poker boredom, and have fun.  When I return to the poker table down 20 or 30 bucks, I play better poker because I am no longer bored.  This can sometimes save me 100 or more and sometimes helps me make back my craps losses and more.

It was some pretty circuitous logic that took me from investing to blackjack to poker to craps.  There are some decent reasons I bring up these things:

  1. Investing can easily spill over into gambling and speculating.  Trying to take the gambling aspect out of investing is a worthwhile goal which should be sought but is never fully achieved.
  2. Any gambling is dangerous.  Especially if one cannot differentiate between luck and skill.  A player can be eaten alive at the poker table if he incorrectly assumes he is more skilled than the others.  Same thing can happen with stocks and especially with more exotic things like options, futures, and commodities.
  3. Investing in stocks, index funds, and quality bonds is like playing poker or blackjack.
  4. Trading options (and futures, etc) is more like playing craps.
  5. Moderation and caution are paramount.  Without these virtues one risks losing everything.

Loose Ends

I’ve only scratched the surface of my eclectic perspective on investing vs. gambling.  I’ve temporarily made some nice bling on my BAC and BCS buys.  I strive to be a rational investor, but acknowledge that I am not yet a Vulcan.  I’ve briefly explored some ways I channel and manage my emotional, impulsive energies.  Hopefully, the paydirt I hit this week is not simply making some money on these two stocks.  It is perhaps in finding different ways to explore the money/emotion connection.  Hopefully soon I’ll get this blog open and running such that I get reader comments.  I look forward to hearing from you.

Millionaire or No Deal

I was watching an exciting episode of Millionaire this morning (Ogi/Meridith) and realized that this game has elements in common with investing (psychology & decisions).  The other game that came to mind is Deal or No Deal.  I started to ponder which is most like investing.

The main difference between Millionaire and Deal is knowledge.  The right knowledge is critical to Millionaire while knowledge is essentially irrelevant to Deal.  What they have in common is large sums of money, decision making, and uncertainty, risk, and reward.

Investing is somewhere in-between.  Knowledge is helpful, but not THAT helpful.

Millionaire is progressive and often abrupt.  Deal is a volatile up and down ride.

Emotionally I think Deal is easier.  I’d have less fear of making a fool of myself on Deal.  However, if i missed a question I should know on Millionaire I’d fear that it would haunt me long after the show.

Maybe my initial query is not the most interesting part of this discussion.  Each show is a way to see a wide range of human behavior compressed into an entertaining package.  Literally millions of such financial decisions, quandaries, and sometimes struggles happen on a daily basis without such TV coverage.  Most of us make such decisions at least a few times a year.  That is perhaps why so many of us can relate to game shows.  They can be a window into the more dramatic aspects of money.

Yesterday I myself was in the hot seat.  I heard about BAC and BCS (Bank of America and Barclays ADR) yields given their precipitous drop.  A classic value play. I decided to buy some right away with my “play money” account.  But I didn’t get to it Tues.  I bought today, but not after they were up 15% and 6% respectively in less than a day.

Q: Did I feel foolish?     A: Not really.

Q: Did I feel anything?  A: Yes, right… but a touch slow Laughing

Q: Am I right?             A: Yes, until proven wrong.

So a little bit of Millionaire (possible knowledge about value) and a bit of Deal (do I feel lucky?).  And emotion.  It was exhilarating to buy stock after a one year hiatus.  Sure I’ve been writing covered calls against index ETFs, but that is not the same rush as getting into new stocks. It felt good.  Such emotion, ideally, would not enter into my decision making and response.  Generally I have less emotional reaction to re-balancing my primary portfolio.  It should be careful and generally boring and infrequent work.  My play money account is an outlet into which to channel my more impulsive financial energies and help keep my primary money-management decisions calm, deliberate, and sober.

I haven’t really answered my initial question. I have, however, had a fun romp into an investing tangent.  Perhaps soon I will stroll into gambling and investing (poker vs. craps).  I hope you had fun going on this short journey.  I did.  Until next time, dear intrepid reader.

Retirement: Is It Contagious?

Today one of my friends and coworkers is retired after 20 years in the tech industry.  Not such an unusual thing, except that he’s only 44 years old.  He’s doing so about one year after another friend and co-worker, also way, way under 50 retired as well.

At his going away party it was interesting to see and hear the folks wishing him well.  For some there came a verbal statement of envy; for others there was a look of, perhaps, longing for a similar fortune.

For myself… I feel a bit of longing for such a possibility.  I’m 33 years old. I have enough assets to live relatively comfortably for 7-10 years without working.  But what good would that do?  I guess I could take a year or two off, learn a third language (probably Spanish) and tour the globe.  Then I could go back to school and finish my graduate work in finance with a Financial Engineering and Risk Management Master’s.  Depending on where I went to school tuition could set me back about $12,000-60,000 (state vs. private).  At which point I’d probably go back to work, either back to work as an Engineer or entering a new job in Finance. Either way any retirement at this point would be temporary.  I have not yet achieved escape velocity from planet Work.  I can achieve low-Work orbit, but any such launch would decay after 10 years or so.

Looking forward I see my median work escape window (or WEW) as likely to wax and wane depending on time at work and my investment performance.  My current WEW, which I guesstimate at 7-10 years, currently has a median expected value of 8.5. In a high-return year my median WEW can grow about 3 years.  In a strongly negative-return year my WEW stays about constant or can even retract (say by 0.5).  On average my WEW has grown about 0.77 years per working year over the last 11 years.  11 years ago, when I started my engineering career, my WEW was about 0 (perhaps closer to -0.2).

So for now my financial immune system is fending off the (early) retirement bug.  For others, in their forties and fifties, [and with bigger WEWs] early retirement may indeed be contagious.  As with many other future looking statements, only time will tell.

Hot Days, Cold Stocks… Cool Logic?

My retirements accounts are down 12.3% and 10.1% YTD (as of 7/11).  The market is down again today so these number are likely to be a shade worse when the YTD return on the website updates later today.

At the same time the weather has been hot.  In the 90’s and flirting with 100 degrees.

Today the S&P closed at 1228. Not much different from where it was 10 years ago at 1177. At less than half a percent appreciation per year plus about 1.5% yield that’s a whooping 2% per year return for a 10-yr investment window.  Taking a look at the chart is unlikely dollar-cost-averaging would have significantly altered the return up or down over that period [hmm… sounds like an analysis for a future blog].

Not exactly a PSA for the merits of stock investing.

So, how’s my personal investment strategy going to change?  Not much.  My “fun” money account has been doing better because I’ve been selling SPY calls high and re-buying to cover low.  This has been a helpful hedge so far and something I may wish to write about further.  My “core” money allocation is unlikely to change… a mix of large/small/international low-cost index funds, some bond funds, and some cash.

Cool logic reflecting on history suggests that over any 20 year period stocks beat bonds… and likely commodities, cash, real-estate, etc.  Perhaps the S&P500 values 1177 and 1228 are some worthwhile data points to start my blog with and to test against over the next ten years.  Maybe these numbers will be part of an unprecedented counter example.  Time will tell — but for now I’m putting much of my money on the bet that stocks will outperform in the end.