Insights & Advice

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Is It Time to Jump Ship?

My answer in one word is no. That’s not to say the markets won’t go lower. They will. But it appears to me that we are testing the bottom for the third time this year and three is usually a magic number.

It appears the “sell in May and go away” slogan was simply postponed a month this year. June witnessed over an 8% decline so far in the Dow Jones Industrial Average reaching a level last seen in 2006. On Friday it crossed into official bear territory with a full 20% decline from its peak in October of last year. That’s important because once an index declines 20% it is officially in a bear market. The NASDAQ has already attained that dubious position leaving only the broader, more representative S & P 500 still officially “only” in a correction although it was down almost 9% in June.

As I wrote last week, the next stop on the S&P is 1256. I fully expect that target to be reached. If it holds there, it would be the third successful re-test of the lows first tested in February and then again in March of this year. And what if it fails? The next support would be around 1180-90, another 5% down from here. That would put the S&P 500 25% below its peak, about average compared to past corrections the S&P has endured. If that occurs you may want to use some inverse ETFs to hedge your portfolios (see this week’s “Inverse Securities—How to Protect your Portfolio in Down Markets”).

But don’t forget the “Bernanke Put”. That’s the name investors have given to the government’s intervention each time the markets appeared on the verge of deep crisis. In February, the Federal Reserve announced a cut in both the Fed Funds rate and Discount rate just as it seemed the market would break 1270 support. Then again in March, when we reached that level again (thanks to the Bear Sterns crisis), both the Treasury and the Federal Reserve announced their now-famous bail out deal. If any market decline appeared to becoming a free-for-all, I would expect intervention.

And there are still plenty of weapons in the government arsenal. Congress, for example, could eliminate the tax on dividends, allow investments in the stock market to be deductible on a temporary basis or maybe give public companies a tax break for buying back their own shares. All of the above and many more options could turn this market around on a dime if necessary.

But so far this appears to be a classic recession-type correction and nothing more. What we have not seen on this third re-test yet is panic selling on high volume. We need that in order to put in a convincing bottom. It is also usually an excellent time to buy if you have the stomach for it. My hope is that once we reach that level the markets will simply meander about for the rest of the summer before moving up in September.

Why September? It usually takes 12 months from the date of a Federal Reserve rate cut before the effects of that stimulus start turning up in the economic numbers. Since the first interest cut was in September 2007 the math is obvious. By fall, I expect an increasing stream of good economic numbers. At the same time I believe that investors will catch “election fever” as the presidential elections draw near. Promises of change from both candidates will create higher expectations and hope that the new president will tackle the array of problems that beset the nation. These factors will combine to propel the market upwards into the end of the year. So take heart, stay the course and even if we have some dark days ahead remember it’s always darkest before the dawn.

Posted in A Few Dollars More, At the Market