Around Christmas Eve nearly everybody you know was freaking about their account and the safety of their retirement. Now we’ve bounced up around 5% or so in the last five days and people already seem a lot more calm. When people are terrified, buying is generally what you want to do. When complacency sets in, things may still be shaky. We covered this briefly in our recent article about Apple’s fall. It’s called a sentiment indicator.
So we just fell off a cliff in December and now we’re bouncing up a bit. The Wall Street term for this is a “dead cat bounce*” typically used by as*holes who want to sound like they’re market technician geniuses. We find it’s better to picture a tennis ball. You throw the ball way up in the air (or you drop it from high up) and what happens? It’s going to fall at high speed, hit the ground, bounce back up (never quite reaching as high as the first peak) then fall and keep on bouncing until it stops completely. So the question is, the ball already getting thrown back up into the air? Or is it just bouncing from that big drop?
Nobody can say. Anybody who says they know 100% is full of it. Our “educated guess” is that the market is going to get thrown back into the air very soon, but this is probably just the bounce. If it stops at the levels we’re seeing now, that’s nearly a 50% bounce off the fall (which is a pretty typical pattern to see.) But we need to know if that December low you see above is “the ground”
Buying back in right now may be buying into what’s called a bull trap. The drop down of December made the bulls cry (people who think the market is going up.) This bounce makes the bears cry as they lose money thinking they’re wrong (people betting the market is going down.) The bulls now laugh at the bears and kick them in the d*ck while buying back in. Then the bears take back over and the market falls back down and the bulls lose all hope. When the bulls lose all hope is when you REALLY want to buy. Might wanna pad that crotch…
So how the hell does anybody make decisions if we don’t know what’s going to happen? Simple: you buy in chunks. It’s what’s called dollar cost averaging. Let’s say you have $5,000 you want to put in to Apple (AAPL). You could put all that money in right now, but if the market falls back down again you’re going to be one of those crying bulls. Now if you buy as many shares as you can around $1,250 right now (you’d get 8 shares for about $1,216) then in a month you buy as many shares as you can for another $1,250, then another the next month etc. In 4 month’s you’ll have around $5,000 worth of Apple that you bought at 4 different prices. You’ve then averaged in to your position and taken much less risk than just buying a huge chunk at once and risking a huge drop. If you make contributions to your 401k or IRA and it automatically buys into mutual funds, you’re essentially already doing this without realizing it.
For people who think the market is going to drop more and possibly pass the previous lows, this may be a good time to take on a small short hedge position while hedges are a bit cheaper (if you haven’t already). If you don’t know how to do this, we’re not going to cover it here, because you’ll almost certainly end up doing something too risky at this point.
Right now, stocks are the best value that they’ve been in quite a few years. We’re getting into crazy sale prices on some stocks and others are just reverting to their long term averages (based on price/earnings) Either way, the market is no longer way overpriced like we’ve seen for the last few years. It’s not an exact science, but most estimates are showing the market is now around a forward P/E of 14 – 16. Basically the historical average. If you don’t at least have a watch list of things you’ve been wanting to buy: FIGURE IT OUT NOW. This time zone right now is probably the last time you’ll see things this cheap for quite a while. It’s completely understandable to wait for a return to the uptrend (with confirmation of that bottom) but to us it’s looking like a damn good time to average in.
UPDATE: Sentimentrader just posted a very similar analysis of the market movement. Highly suggested reading.
Note: If you’re a beginner and wondering why the chart says SPY that’s an ETF (exchange traded fund) that tracks the S&P 500. The prices aren’t the same as the index you see on the news, but that fund is made to match it exactly. It is the most commonly bought ETF for people who want to “buy the market.”