Thursday July 26, 2012
I want to demonstrate a few examples of just how powerful psychology is in determining prices in the markets.
Back in the day, say the early 1990s, lots of small investors were buying Wal Mart. The rumor got started among this group that, and watch the wording of the rhetoric here,
after Wal Mart splits the stock,it always doubles!
Well stop the presses, the search for the golden goose has finally ended. Now appreciate that there is no more correlation between a stock split and the subsequent performance than there is between a tire blow out and a car battery failure, one does not lead to th other, it is purely random. But in the psychology of the small investor who cares about boring statistic rigor?
As one WMT stock split neared I started getting calls ( I was listed in the phone book as a broker). I did not know any of the callers but the conversation sounded liike something out of a B movie Film Noir, imagine two guys meeting in a dark alley to fence the stolen diamonds, neither knows or trusts the other ....
The caller always dropped his voice near whispering in the phone, what would you charge to seel me X shares of WMT? The question was delivered with the sort of sly you don't know what is coming next inotnation that would have made Peter Lorre proud.
My point is, that psychology drives the markets.
One Market Perspective reader made a point about CLF in an e mail.
CLF 15 Minute Chart
Note that CLF collapsed from 48 July 19 to 36 today July 26, that is a loss of 25% ot total market capitalization in five days!
CLF the big picture
The drop from 75 to 45 of 30 points was 40% of market cap. And it took five months! But the last nine points was a 20% drop in just five days, not five months. The point is that near the very end, investors panic out of a position in an otherwise fine company, in a true selling climax. This is why 'crashes' come at the end of a move, never at the start of a move.
Now to continue our journey into investor psychology, what was the reason for this big drop? Surely the company lost money, faces a major lawsuit over environmental or human damage, has lost a patent fight so the very future of the company is threatened, right? OH not at all, in fact CLF is making great money, read on.
Cliffs Natural reported after the closing bell Wednesday a 37% drop in second-quarter profit compared with a year ago. While its per-share earnings of $1.81 topped Wall Street expectations by 4 cents, the company warned costs at its Canadian operations continue to rise. Analysts at FBR Capital Markets cut their recommendation on the stock Thursday to market perform from outperform. Cliffs Natural shares were last down 7.8% at $37.94, extending the stock's 39% drop so far this year.
Not only did it make money it topped expectations, so it was sold down even further. As the saying goes, in a bear market all news is bearish, because that is the psychological imperative at the time, and will be until the mood change!
Our point here is that money in the markets is like sand in the hourglass, it runs all the way out, and then the hourglass reverses and it goes the other way. At least that is the case in a period of stagnation where values lurch violently from risk on to risk off.
The previous 18 years of bull market taught a generation to buy and hold. With 18 years of re enforcement ivestors were hardly prepared for a time when all their thinking needs to reverse every three or four years.
Everyone still clinging to buy and hold is making little progress! And so the advice from one generation to the next horribly prepares the next for what lies in store.
The Pain of Paper Losses
Buying lower and lower results in paper losses in the account, until the market turns. One way to judge how close we might be to the bottom is by my correspondence. When I get e mails wanting to know when I will recommend getting out, throwing in the towel, the bottom is liable to be near. By the way remember when I gave up on SJT, it is now back to about where I gave up, patience.
Friday I suggested the market had topped and a likely 4-6 day sell off would ensue, I named 1330-35 as a likely low. Well Wednesday was the fourth day, the low was 1330 Tuesday afternoon. But even I was doubtful, so go figure, the psychology of the moment is a tough challenge. That was the reason for the lengthy pre-market ratio charts this morning showing the rationale. Expecting I might have to wait another month, I was finishing the post when one of you logged on to notify me the markets had rocketed up from being five points down in the SPX just minutes before.
How's that for mood change?