Never break the golden rule

(Note: I wrote most of this Thursday)


First off, some comments regarding market action. It continues to be poor for the most part despite upside progress this week. Yet another gap up and run day yesterday (Wednesday). Since peaking in late April the market resembles George Costanza....neurotic and impulsive. 2% moves one way followed by 2% moves the other way is not a healthy market, it smacks of a market dominated by short term technical type traders playing a game of chicken with each other while the "long term" smart money is still watching on the sidelines. The results of the "stress test" in Europe will be released tomorrow and I suspect it will be favorable given how strong the euro has been lately. But this is a just a distraction if you ask me and shouldn't be given much merit because in the end all that matters to the market is earnings.

Earnings season has been good so for but with leading indicators rolling over at the same time companies are "raising guidance" and thus expectations, the market may be setting itself up for disappointment next time around. In the meantime, without any concrete evidence of a slowdown just yet, the bulls could have their way for a while still but I suspect yet another major retracement lies ahead somewhere so if you play this rally keep one foot out the door although that can be tough to do when you see the market gaping up and down large like it has been doing lately.

Have you also noticed how currencies are now trading like equities? It's becoming normal to see the Canadian dollar moving up or down 1 penny or more every day. It wasn't too long ago whereby a half cent daily move was considered large. Now a half cent move per day is a given. I have to admit as bullish as I've been over the past several months, the way equities, commodities and currencies have been trading in lockstep for about 3-4 years now, disturbs me from a long term perspective. I realize part of this has to do with the notion that commodities are now more than ever a barometer of global economic activity but for them to have such a strong correlation to equities, which is a completely different type of asset, just doesn't seem right. Equities throw off earnings/cash flows and have underlying assets and liabilities while commodities don't.

It seems to me that that equities, commodities and currencies are largely dominated by automated technical/program trader types. If you look at the flash crash for example you will notice that currencies had the exact same gyration as equities did at the exact same time which proves how linked they are all by automated program trading. Perhaps this is the true "new normal" which doesn't necessarily bode ill and is simply a reflection of today's technology....perhaps.....but something just doesn't feel right about this...it's the missing human element and it smacks of a market becoming more of a casino full of gamblers rather than a collection of rational investors. As a result, there there be a lot more market "noise" compared to the old days. That can be both good and bad. Good, because you can possibly exploit such noise (if your timing is right). Bad because it may cause you to misread the market and get burned. The key is distinguishing between what is noise and what is not and that's never been easy...now it will be harder than ever. By using market sentiment and what I've been calling "market action", it helps filter out the noise.

Switching gears now.....As I mentioned in a recent post, I have a list of rules, guidelines and adages that I follow religiously. I call it the "investing/trading bible". The first and most important rule I have is called the golden rule it goes as follows:

NEVER EVER go all in on one idea/trade such that if you get it wrong you get wiped out.


You can get it right 90% of the times but if you disobey the above rule, all it takes is one time for you to be wrong and you are out of the game. The actions of a friend of mine provide a good example. He recently confessed to me that he lost about $100K investing in Fannie Mae which got delisted from the NYSE about a month ago. Not only did he go all in on one stock, he did so using borrowed money....and even worse....he borrowed from a credit card! There was a low teaser rate being offered by the credit card company and since he figured he would make big money in the stock quickly, he went for it. Now he's in the hole $100K with a 20% interest rate! I was so flabbergasted when he told me this...I was almost speechless. Not only was this bonehead decision completely out of character for my friend but he didn't consult me whatsoever before doing it. Not to say that I'm a market genius, but he knows investing is what I do full time and he knows and admits that I have a ton more experience and knowledge than he does (he is your typical joe blow retail investor). At the very least he could have asked me what I felt about Fannie Mae (I would have told him not to touch it with a 10 foot pool given that it's essentially a zombie company).

I asked him why he didn't consult with me first and he said he wanted to be responsible for this own actions. That's honorable of him but I think the real reason is that he knew I would tell him not to do it which is something he didn't want to hear. Like all newbies to this game, he wanted to make big money quickly. My friend is in a situation whereby he's living with his gf renting out a basement-like apartment. They both have decent jobs and plan to get married and have kids soon (given their age) but I don't think they are quite ready financially given significant debt burdens. I believe my friend made this move not so much out of greed but because he wanted to be able to break free of his financial shackles so that he could move ahead with this life. Now he's in trouble. Big trouble. I doubt his gf know about what he did and he now has this crushing debt burden hanging over his head which can destroy him both personally and financially.



I believe he confessed to me because he needed a catharsis and he wants my help although he's too proud to ask. If I had the money I would lend it to him because I know he's good for it. I have many friends who I've known much longer than him but I wouldn’t lend most of them $1. His best bet at this point is to ask his family for help. If he has any capital left to invest aggressively I will offer to manage his account for free to try and make back some of his losses. I mentioned this idea to him briefly and he said he would only consider it if I was paid some sort of a commission. He's a proud man that's for sure. I told him absolutely not. Even though he hasn't asked me, I intend to sit down and talk to my friend in much greater detail regarding his situation. I know deep down he wants me to and even if he doesn't, this is one of those rare times when one needs to stick his nose into his friend's business. He needs help and if he needs to face his problem head on.... and fast.