"Water shapes its course according to the nature of the ground over which it flows; the soldier works out his victory in relation to the foe whom he is facing. Therefore, just as water retains no constant shape, so in warfare there are no constant conditions."
Sun Tzu

Tuesday, February 26, 2008

Game Plan Week of Feb 24: The Core

We have seen some decent rally in the last two days and the market is set for more gains on the upside. The driver behind this seems to be the bailout of the big bond insurers MBIA and Ambac.

The current market action raises one question: what is the actual reason for the bad market in the last months? What is the core of the problem?

Well, it is NOT the bond insurers, whose potential downgrade has threatened major US banks with additional write-downs. It is also NOT the banks, who are BTW not out of the woods even with the positive news on MBIA/Ambac (remember: major banks where downgraded big time yesterday!).
The banks still have their portfolio full of funky CDOs. Their value relies on ordinary people who (hopefully) pay off their home loans. CDOs will keep loosing value as long as housing prices deteriorate. So here is the core of the problem: if you listen to housing market experts or homebuilder conference calls, most of them are NOT expecting a market recovery within the next two to four years!

All the talk of "the housing market has bottomed" is just plain hope from analysts, who probably are under water with their own personal mortgage payments and need to talk up the market.

One analyst wrote in a research note that "housing is more affordable now". I don't agree. Sure, housing prices have come down, but banks have tightened their credit standards BIG TIME: in order to buy a house, you now need to put 20% down and the house value cannot be more than three times your household income. This wasn't the case in the last years. So if you for example want to buy a house in Southern California, where you easily pay half a million for a shack, you need to make 160 Grand a year and put 100 Grand down. To give you a little perspective: in 2005, 94% of the US households made LESS than 150k annually. Finally: look at the following chart of existing home sales. Doesn't look like a bottom to me.

Bottom line: I give the DOW maybe another 200-300 points until he runs out of steam (BTW: I use this opportunity for some quick LONG swing trades (JEC, OI, CVD, MCD) but also to build up short positions for March).

The good news is: I am able to SHORT my favorite homebuilder,
Beazer homes (BZH), again. This wasn't possible months ago, because my broker ran out of stocks I could borrow for selling.

Monday, February 18, 2008

Game Plan Week of Feb 17: Sideways

When I look a this weeks charts of major indicees, I notice some decent sideways action, which actually makes sense: the S&P is still limited on the upside by major financial and housing market concerns, on the downside by hopes for more interest rate cuts: A breakout from these levels would probably trigger a major market up- or downside move:

Gold is entering heavy resistance territory around $1000 and seems to be overbought. Let's see if the bullion can consolidate through continued sideways action. A breakout to the downside would trigger my swing trade sell signal:

Some stocks where I'm looking into putting up some swing trades on the long side this week are Brocade and Calgon Carbon:

Saturday, February 9, 2008

Game Plan Week of Feb 10: Golden Times

Last week I wrote that I'm pretty bullish for stocks. I'm not so sure about that anymore.We seem to have two conflicting scenarios. One group argues that we will go into a recession, the question is only if we will land hard or very hard. The second group paints a soft landing scenario. In any case, prominent FED bankers mentioned inflation concerns last week, which puts the market's hope for a further 50 base point interest rate cut in jeopardy. Here is the good news: there is always a bull market somewhere. Guess this time it's gold. Check out the chart (It also marks my recent entries and exits):

I got gold (or the related ETF GLD) on my swing trade radar since some months. Nice uptrend and supporting fundamentals: even the Europe's Trichet starts to level the playing field for upcoming interest rates cuts. Well, the problem is that Europe already rides on higher inflation levels than the US. What happens if Europe starts cutting rates: Gold will go up even more. There are not many places left in the World where big guys can put their money. I bet that we will see Gold around 1000 Dollars by the mid of the year. I wish Gold will dip a little, though, so I can increase my position. Currently, 20% of my portfolio consists of the shining metal.

Besides that, I dumped everything related to financials and consumer spending. Some defensive/commodity plays that I put on last week:

Saturday, February 2, 2008

Game Plan Week of Feb 3: it's Groundhog Day!

Today is Groundhog Day (or how we call it in Germany: "Murmeltiertag") and the predictions are quite controversial so far: Punxsutawney Phil is forecasting six more weeks of Winter, Malverne Mel predicts that spring is around the corner. If Groundhog Day is a proxy for the markets, I would go with Malverne Mel. Never forget: when we trade equities, we trade the future. Subprime, housing bust, deteriorating consumer spending: all that stuff is priced in. Sure, we will see declining housing prices this year, but the market is now pricing in, what'll happen in the second half of the year.

I was quite on the bearish side until even last week's game plan. I believe that the Dow will be significantly higher at the end of this month. Here are my points:

1) We have seen a classical market reversal pattern with all the bells and whistles, such as higher volume (a similar situation occurred in August, history is repeating itself):

2) We had a tremendous amount of negativity in the market, which is a contrarian indicator of a possible turnaround: a lot of people on this blog were searching for terms such as "market crash" or "panic" two weeks ago. The number of views of my blog was at record high.

3) The troublemakers of the past (housing, banks, consumer discretionary) are leading the market higher. I have to admit, I was wrong on housing last week. Fortunately, I got stopped out of my short position pretty quick.

4) Money is cheap: the FED cut interest rates to 3% and is still running auctions to fund struggling banks.

5) The international economies are still on the growth path (There was an interesting article about China in the WSJ today) and could offset the US "mini recession".

So: how to play this?

We might see the market taking a breath in the next weeks, which I will use to close down my short positions, since I'm still pretty market neutral. Despite my bullish post, I expect to see the DOW at 12400 again somewhere in the next two weeks. There are still some potential negative surprises out there. If that happens, it'll be a great opportunity to add to any LONG position.

On the long side: here are some of the stocks I like:

had 2 sell off days of panicking investors. Still strong fundamentals.

Investment management firm, saw the subprime mess coming two years ago. They are swimming in money now.

Biotech is usually more a defensive play, but these stocks were beaten down a lot last year and seem to have some stuff in the pipeline. Good relative strength the last weeks.

Hudson City Bankcorp
Talked up by Cramer, but his arguments make sense: no exposure to subprime, regional bank benefiting from low interest rates. Technically: broke the $16 resistance level, so Hudson has room to run.

Premium consumer discretionary play. I like their sweaters :-) (better quality than Banana Republic IMO)

Happy Groundhog Day