US Equities Take A Swift Kick

The bell rang to start the fourth quarter with domestic equities taking one right where no one wants to take one. My original opinion about what would happen was that stocks would bottom in the second quarter of 2009 (probably later than March though) then I added on that I thought there would be one more scare the hell out of them decline which has not happened (yet?).

Maybe it started yesterday, maybe it didn't or maybe that will never happen but as opposed to worrying about will it drop again in a painful way I would rather think about if it does happen what action should be taken, what is the view from 30,000 feet and what is it from 60,000 feet. Thinking about this stuff now while there has been no emotional reaction is a good way to avoid dumping all your stocks at the wrong time.

Over the last month or so I have added Suncor (SU) and iShares Emerging Market Infrastructure ETF (EMIF) for clients. At the same time the position in SDS has shrunk down to 1-1.3% of the portfolio, there is still some cash and a couple of small positions in absolute return funds (one of which is flat and the other is down 8 or 9% or so).

Excluding yesterday the portfolio has been moving closer to the market than it has in a while as a function in increasing the equity exposure by 4-5% with the two relatively volatile names mentioned above. As a function of the defense still in place though I didn't drop the same as the S&P 500 yesterday. Between 1070 and 950 on the SPX I would expect to track somewhat closely to the market and if it breaches 950 I think, but can't guarantee obviously, that the defensive holdings would kick in a little more and I would start to look less and less like the market. If conditions warranted I could also add to the SDS position which for now would be my preference rather than selling anything but that could change of course.

For me that is the view closer to the ground. At 30,000 feet the market rallied 60% in six months. Regardless of whether you are in the bull or bear camp what is the market likely to do immediately after such an essentially straight up move? Even if you're in the year end 1200 camp there is no reason it can't go there via 850 (year end 1200 is not what I think will happen).

Much has been made about the few times that stocks say one thing and bonds saying another with the result having been that bonds were right. The monster rally has overcome a lot of reasons of why stocks should not go up which is of course very normal (think the 75% rally in the early 1930s) but with that as the back drop a rest or one more run down that scares the hell out of everyone becomes very plausible. If it never happens, great!

From 60,000 feet, long time readers may recall by philosophical belief in never going 100% cash on a tactical basis (changes in life circumstances are a different story). 100% anything is a big bet as is 0%. Hopefully no one reading this blog back then did go 100% cash. That being said if you're at your target allocation and the market scares the hell out of everyone but you take no defensive action, ok but what will happen in the future? From the biggest picture sense we know the S&P 500 will make a new high again. Obviously we do not know when but it will happen. That will happen regardless of whether the S&P 500 goes down to 800 (or any other number) or not.

An indexer may respond to that comment that I am making the case for passive investing. Well I don't know about anyone else but I would rather not have my portfolio drop 30% in line with the market. The things I write about doing in the name of defense have no guarantee of working but I believe history is on the side of these sorts of things and certainly are an attempt to avoid the full brunt.

If you invest in stocks you are going to go down in value sometimes. Down a little is something investors need to live with but I want to try to avoid the full consequence of down a lot. If it works great, if not, it is not the end of the world.