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Market risk is the risk that the entire market will go down. When that happens, most of the stocks you own will go down too. The same is true for mutual funds. Buying shares in all companies listed on a stock exchange does not eliminate stock market risk. Think about it. Even if you invest in “the market”, you still have exposure to the risk that “the market” will fall.

The only way to reduce stock market risk is to invest some of your assets outside of the stock market. For instance, buying bonds is a good way to reduce your vulnerability to a falling stock market; so is investing in real estate or art.

Concentration risk. If you put all of your money into the stock of only one company, you leave yourself wide open to both stock market risk and company-specific risk because all is riding on one firm’s fate. This is especially common for employees of that one Company.

Spreading the same money among, say, twenty different stocks will go a long way toward reducing your portfolio’s dependence on any one of the companies purchased. In other words, simply owning many companies can dramatically reduce company-specific risk. Long before you and I were born, some wise person said: Dont put all your eggs in one basket.

There is event risk that could affect a specific company. For example, an article could appear in the newspaper that a companys product causes cancer or a plane crash could kill the entire management team.

Theres opportunity risk – that means that you could have done something better with your money.

Theres the risk of inflation. This means that your rate of return could have been lower than the rate of inflation over a period of years. Even if you made all the correct investment decisions, if the long-term rate of inflation was the same as your long-term rate of return, basically, you broke even in terms of buying power.

Financial risk can be divided into two parts. The first part is the probability of the stock declining. The second part is the potential magnitude of the decline.

Generally, risk and reward go hand in hand. If you take a greater risk, you should intend for a greater reward. You have to be careful though. Sometimes you take a very high risk and dont get the opportunity for a high reward.

If you want a high degree of safety, generally, you should expect a lower rate of return. If you want a very high rate of return, and take the risks associated with big returns, every once in awhile, you should expect to lose big.

We have all heard that stocks are risky in the short run but not for the longer term. How is it possible that short-term stock market risk largely disappears at long horizons? Where does the risk go?

The swings in the rate of return that reduce long-term risk is known as mean-reversion. It means that unusually high stock returns today lower the expectation of returns in the future. Bull markets tend to be followed by corrections. Bear markets tend to be followed by recoveries. Stock prices revert towards a long-run average or mean, and stocks are said to be mean-reverting. Under these circumstances, stock market risk declines as your investment horizon lengthens because the longer your holding period, the closer your return will be to the average.

During roaring bull markets, investors are attracted to the stock market by the prospect of future high returns, greed. They hope to earn high stock returns in the future similar to the high returns of the past. If instead, stocks mean-revert, future returns are likely to be lower.

During dramatic stock market declines, individual investors allow fear to overtake them and they sell their stocks, very often at or near the bottom.

A major problem here is that you might wait too long before getting back in. You would miss out on the good market that invariably follows the bad market. Its even worse, if you allow fear of a bear market to keep you from ever investing in the stock market again.

If you have a clear understanding of stock-market cycles, you might be more comfortable investing in bad times. When most things go on sale, more people to want to buy. Warren Buffett said: The stock market is the only business I know of, that when there is a sale, nobody comes.

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The White House has announced federal deficits that are far worse than any prior estimates; $1.6 trillion for 2010 and $1.3 trillion for 2011. We should expect continuing massive deficits. 2010 could be the year public debt among US states is finally internalized by equity markets, forcing equity valuations lower as public sector debt swamps more states than just California. A crisis of public debt could expose the central structural problems in the US economy; financing the difference between income and living standards, masking productivity loss with inflation and over-reliance on a credit fueled consumer. Complicating the current unpaid liabilities of the states are their unfunded long-term obligations in the public pension and health systems. These obligations will start to extort a major toll on state budgets in the coming years.

Even if a debt crisis would be postponed beyond 2010, there are still tremendous risks for growth. The expiry of Bush tax cuts will reign in private investment. Congress is examining a host of policy initiatives, any one of which could stall growth and add to long term obligations. As private investment gets crowded out and the public sector falters and contracts, the overall effect will be negative for jobs and consumption. Without a new asset bubble to inflate the market, defensive moves by companies to reign in cost structures will no longer be sufficient to manufacture profits. Valuations should begin to move in line with earnings. All of this argues for lower equity markets in 2010 and an expansion of volatility. Most of these externalities will induce a sell-off of the inflated value of stocks. 

Stocks are cheap to cash when the fed funds rate is near zero. Corporate profits will continue to look good, bolstered by low cost structures, not by growth. But in order for stocks to move higher or maintain their 2009 gains throughout 2010, an engine of job growth must emerge. However, the growth scenario is less likely. The midterm elections could change the tone of policy coming out of Washington. If Washington would change the course of policy, it is likely to come at the expense of stimulus for 2010. This would cause the equity market to decline in 2010. In almost every past recession and bear market U.S. corporations has delivered solid values to investors. Price-earnings ratios (P/E’s) use to be in single digits. Solid stocks has been selling for five or six times earnings. It has never happen before that the U.S. government panicked. Now P/Es are already back up again to grossly overvalued levels.

States drowning in debt may be able to summon the political will to correct their fiscal course at the state level. The US government has successfully covered-up the decline in personal income for many years. There is no reason to assume this year is the year the market takes its medicine.

The Foundation for the Study of Cycles, a nonprofit research think tank founded 70 years ago in the wake of the Great Depression, have sorted through historic data going back 5,000 years. They have put together data series on most major markets during the latest 300 years. Since 1971 the Foundation have in advance accurately identified cycles and nearly every major shift in market direction. Monty Agarwal, partner of the hedge fund MACM LLC, has analyzed the Foundation’s research with great interest and fund that the accuracy rate is far superior to any other approach he has ever seen. The Foundation predicted the timing of the Crash of ‘87. It predicted the timing of the bear market of 2000-2002. It predicted the market’s rise through 2007. And it nailed the top of the market prior to the big plunge in 2008. Its cycle work predicted the great bull market in gold of the 1970s. It predicted gold’s downturn starting in the 1980s. And it was suggested to get back into gold in 2001.

The research suggests that most U.S. stocks are likely to fall in a zigzag pattern froths year and for nearly three long years. The Foundation also forecast that gold will skyrocket far higher than $2,000 per ounce by the end of 2011. In the last few years gold quadrupled in value, despite two big stock market declines and the worst recession since the Great Depression. Richard Mogey point to that gold parallels the cycles in the U.S. dollar. And for the dollar the Foundation have cyclical data going all the way back to 1680. Its cycles predicted the dollar’s plunge from 1971 to 1980, the dollar’s surge peaking in 1985, the dollar’s decline bottoming in 1992, the dollar’s rally through 2001 and the big plunge since.

The real decline in the dollar, and all other currencies, will show up more clearly in the doubling of the value of gold. Measured against gold, the dollar’s purchasing power will fall by half or more, depending, of course, on the intensity of the global selling that hits the greenback. The U.S. Dollar Index will begin to sink in 2010 and will not hit bottom until early 2012.

Cyclical data on GDP and on consumption points to a material improvement in the U.S. economy through the first two quarters of 2010. However, starting in the second half of 2010, GDP growth will start to sink fast and negative growth could be expected by the beginning of 2011. The U.S. economy will suffer a severe double-dip recession in 2011! The worst period for the economy will hit in the fourth quarter of 2012. For year 2012, the Obama administration is making some aggressively optimistic assumptions for the U.S. economy and forecasting a deficit of $828 billion. Instead, with the economy sinking, it could be over $2 trillion!

Richard Mogey believe that 2012 will be the year of maximum turmoil in markets and has also pegged it as the year of the “Perfect Storm.” The Foundation have the dollar cycle, stock market cycles, consumption cycles, and GDP cycles all bottoming in this same approximate time frame, between late 2011 and 2012. Year 2012 is also the middle of a sweeping transition in the longest and probably most important cycle of all. The 500-year geopolitical cycle. The Foundation have mapped it back to 670 BC. It is a broad and far-reaching shift in power, wealth; earlier from East to West, and now from West to East. There will also be a major wealth shift from old fortunes that are destroyed to new ones that are created. This wealth shift will be seen from countries, companies, and families that were dominant for many decades to new ones that replace them on the other side of this massive upheaval!

Lead the process from planning to commercialization of the largest production unit for Optical Disc’s in Northern Europe; at the time a leading edge technology. He was the founder of the art music record company in U.K.

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]]> http://www.ultra-internet-income.com/wp/equity-market-outlook-2010-to-2012/feed/ 0 http://www.ultra-internet-income.com/wp/ira-investing-my-3-keys-market-timing-money-management-and-equity/ http://www.ultra-internet-income.com/wp/ira-investing-my-3-keys-market-timing-money-management-and-equity/#comments Thu, 24 Jun 2010 07:37:38 +0000 admin http://www.ultra-internet-income.com/wp/ira-investing-my-3-keys-market-timing-money-management-and-equity.html Yet Another Related Posts Plugin.]]> I’ve traded stocks since I was 16, and have gained and lost more than I am willing to admit. Twelve years ago, a friend asked me to develop a computerized trading system for him. He supplied me with trading software, piles of books and hundreds of articles.

After mastering the software, I started testing many of the ideas presented in the books and articles. To my surprise and disappoitment, I discovered that most of the examples illustrating the writers’ theories were anecdotal.

Not one of the trading systems could stand up over time! This made me a cynical analyst. As a result, many of my trading principles are contrary to commonly accepted investing practices.

Beware Of Optimization
I developed hundreds of trading systems. They would work well with one stock or index, but not others. They would work well over one period of time, but not others. Each of these systems relied on a number of parameters such as the length of various moving averages or the number of standard deviations required for an entry or exit. Finding the best set of parameters is called optimization.

Most market timers and computerized trading strategies employ optimization. I believe this is the main reason for their unreliability and the failure of my early trading systems. I had to develop sound trading principles before any of my systems would to be sufficiently robust to work over time.

My Focus
My focus has been on 3 areas: Market Timing, Money Management and Equity Selection. Market Timing is the most important. Income Averaging and guessing bottoms are not credible strategies. It makes no sense to buy long when the market is declining. Equally, to expect an equity to drop no further is like believing in the Tooth Fairy.

Market Sentiment
A good Market Timer must include Market Sentiment to be effective. It needs to tell you when to be long, when to be short and equally importantly, when to be out of the market. In addition, it needs to be responsive to changing market conditions. What’s that saying about closing the barn door? Market Sentiment is the vital ingredient that makes a market timer responsive.

Money Management
Money Management follows closely behind Market Timing in importance. Many advisors recommend adding to positions as your equity rises in value; generally, I recommend the opposite. I prefer to watch my money go into the bank rather than evaporate. There are too many instances of market bubbles. Look at any market chart and you will see repeatedly steep drops following big rises.

Guessing a top is as dangerous as guessing a bottom. With my approach, now and then you will make less profit and have fewer home runs. However, you will sleep much better at night – you’ll need a lot less Alka Seltzer.

Preserving Equity
I’ve come to this ‘Take the Money and Run’ attitude after observing the sharper the rise in value, the deeper the subsequent pull-back. Money Management is to preserve equity. Few investment advisors recognize that good Money Management minimizes draw-down.

Picking Stocks
When it comes to picking stocks I’m as unreliable as Cramer. If someone asks me about a particular stock, More than likely, I don’t have a clue. Usually, if I find something that looks attractive, it’s too late.

Pick a Basket of Stocks
Instead of picking stocks, I employ searches that produce multiple baskets of stocks each according to a different set of criteria. There is no magical formula for the criteria. I favor three distinct sets of criteria that I employ only when the market is bullish:

The criteria used for the first search is based on stocks exhibiting a high product of growth times earnings.
The second search seeks high value stocks that are oversold.
The third search looks for stocks that have a negative product of growth times earnings, but are showing strong evidence of recovering.

Some stocks in these baskets will do very well, others poorly. My experience is that by having multiple baskets, draw-down is minimized — I like sleeping well at night. I use an online service bureau to do these searches.

Ultra ETFs
Combined with these baskets I like to be invested in the Proshares Ultra ETFs. All their Ultras are leveraged 2:1. If the price of an index the ETF is tracking changes by 1% the ETF will change 2%. Proshares also offers inverse ETFs. As the index falls, its ETF rise in value. These allow me to safely trade the broad based market indexes both when the market timer is bullish and bearish.

Imagine you can earn 10% per year trading only during bull markets. At the end of 5 years $10,000 would grow to $16,105. Say you could trade in the bear markets and earn only 2% per year. This combined with your trades in bull markets would net $24,883 after 5 years.

Until the inverse funds were introduced I could not trade in my IRA during bear markets. Being able to trade in both up and down markets has added tremendously to my Annual Rate of Return [ARR]. Since I’m trading broad-based indexes combined with a market timer, my draw-down has been minimal even though these ETFs are leveraged. Furthermore, their ARRs have been excellent.

Summary
It is imperative that you obtain a robust market timer that will work well in bullish and bearish markets. Not only does it have to work well over a wide variety of time periods, but it has to be solidly founded so that it will work in different markets.

You need to employ proper money management. Take your winnings off the table and don’t keep risking larger and larger amounts of money. You must preserve your equity so that you can continue to trade.

You need a sound sets of search criteria that will pick a baskets of stocks that will perform well. If you plan to invest in indexes you can comfortably trade the ProShares Ultra ETFs or the Direxion ETFs – they represent leveraged baskets of stocks.

The SPXTimer is a market timer that will work in various markets over various time periods – it is robust.  Use time tested money management techniques to preserve your equity and sustain your trading over time.  Lastly, invest in the right underlying investments using the proper set of criteria and techniques.

For the past few years I have served as an analyst to a hedge fund.

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]]> http://www.ultra-internet-income.com/wp/ira-investing-my-3-keys-market-timing-money-management-and-equity/feed/ 0 http://www.ultra-internet-income.com/wp/whats-really-going-on-with-the-markets/ http://www.ultra-internet-income.com/wp/whats-really-going-on-with-the-markets/#comments Thu, 24 Jun 2010 01:42:32 +0000 admin http://www.ultra-internet-income.com/wp/whats-really-going-on-with-the-markets.html Yet Another Related Posts Plugin.]]> Sometimes things happen in the financial market and you are left scratching your head asking, “How can that possibly be?” And that’s how most investors feel right now about the flight to the U.S. dollar.

Here’s what the media (incorrectly) is telling us:

Investors are flocking to the U.S. dollar because of fears that Spain, Portugal and Italy will follow Greece’s lead and face a financial crisis. This is placing immense pressure on the euro, forcing the U.S. dollar to rise.

Make sense? Not really.

If we look at the U.S., its finances, in my opinion, are in worse shape than all the European countries put together. The U.S. just posted its biggest single monthly budget deficit on record. In April, the U.S. government spent about $83.0 billion more than it took in! How long
can we stay on this path?

Here’s what is really happening:

I believe that some traders are making a fortune as the euro collapses and the dollar climbs. The bond vigilantes target the European Community and the currency traders reap the benefits, playing the U.S. dollar against the euro. Imagine how much money you would have made over the past two weeks if you were a currency trader betting against the euro. A fortune.

It’s all one big fallacy. The U.S. national debt is projected to reach 90% of U.S. GDP by 2020, as our total government debt almost doubles between now and then. But, in the meantime, people are flocking to the debt-plagued U.S. dollar. Just a game.

If the U.S. dollar was truly regaining its strength as the world’s lead currency, the price of gold would be collapsing. Instead, the price of gold has risen from $300.00 U.S. per ounce in 2002 to $1,200 per ounce today and has not given much back over the past two weeks as the U.S. dollar rose.

I can see the Hamptons very busy this summer with currency trader wealth. The debt rating agencies downgrade Greece’s bonds, the traders walk away from Greek-issued bonds, fear sets in about more European Community countries seeing their debt downgraded, the euro collapses and the currency traders make the big play, shorting the euro and going long on the U.S. dollar. Great job if you can get it.

I guess I’m still stuck trying to figure out why U.S. bonds haven’t been downgraded yet by the debt rating agencies. Oh, I forgot. If that happened, gold would go to $5,000 an ounce. I don’t think the powers that be want to see that happen right now.

Michael’s Personal Notes:

We’ve received a few e-mails lately asking for “clarification” on editorial opinions in PROFIT CONFIDENTIAL. One customer wrote to ask yesterday why Michael Lombardi is saying that “…the bear market will rear its ugly head after it brings enough investors back into the market, eventually retesting the lows of March 2009,” while Mitchell Clark says, “…there will be good opportunities to buy the Dow (index) in the near future as stocks go through a correction.”

For the benefit of our new readers, we do not work as an editorial team, taking one opinion that we all share. The beauty of PROFIT CONFIDENTIAL is that each editor has his or her own opinion that they can express. We present these various opinions to our readers so they can take our opinions and combine them with their other research, readings and findings, to make their own conclusions on investment trends.

We also have many readers that “adopt” a favorite editor. I have my followers (mostly big-picture investors), George Leong has his (mostly the technical folks), Mitchell Clark has his followers (mostly value investors), and the intellectuals flock to Inya Ivkovic.

Hence, we are not presenting a consensus opinion in our editorials. We are presenting varying views from financial analysts we believe have something valuable to say to our readers.

Thank You:

PROFIT CONFIDENTIAL is gaining momentum as people spread the word on our thoughts about the economy and investments. So far this year, in less than five months, we’ve picked up 38,305 new readers of PROFIT CONFIDENTIAL. Welcome and thank you for joining!

Where the Market Stands:

The Dow Jones Industrial Average swung to loss territory for 2010 yesterday, with the index now down 3.5% for 2010. According to wsj.com, the Dow Jones trades at a price earnings multiple of 14.64 and a dividend yield of 2.74.

Has the bear market rally that started in March 2009 ended? I’m still not convinced. Ninety-day U.S. T-bills yield considerably less than one percent, but you can get 2.74% on the Dow index. And I don’t call a P/E multiple of 14.64 expensive considering the cost of
money.

Regardless of whether the bear market rally is over or not, and we will see how that pans out over the next week, whenever the market sells off as rapidly as it has over the past two weeks, a bounce always follows.

What He Said:

“Despite all my ‘yelling’ and ‘screaming’ about gold, I believe only a few of my readers and a small fraction of the general public has taken a position in gold. Why? Because gold’s not trendy…buying condominiums for investment is! If you are an investor, you need to seriously look at investing in gold stocks, because gold bullion prices will likely continue to rise.” Michael Lombardi in PROFIT CONFIDENTIAL, September, 21, 2005. Gold bullion was trading under $300.00 an ounce when Michael first started recommending gold-related investments. Many gold stocks recommended by Michael’s advisories gained in excess of 100%.

Michael Lombardi, MBA bought his first stock when he was 17 years old. He quickly saw $2,000 of savings from summer jobs turn into $1,000. Determined not to lose money again on a stock, Michael started researching the market intensely, reading every book he could find on the topic and taking every course he could afford. It didn’t take long for Michael to start making money with stocks, and that led Michael to launch a newsletter on the stock market. Today, Michael only employs the top market analysts and editors. Some of our recommendations have posted gains in excess of 500%! Michael has authored and published over one thousand articles on investment and money management. Along the way to building Lombardi Publishing Corporation, now with over one million customers in 141 countries, Michael became an active investor in real estate, art, precious metals and various businesses. Readers of the daily Profit Confidential e-letter are offered the benefit of the expertise Michael has gained in these sectors. Michael believes in successful stock picking as an important wealth accumulation tool. Married with two children, Michael received his Chartered Financial Planner designation from the Financial Planners Standards Council of Canada and his MBA from the Graduate Business School, Heriot-Watt University, Edinburgh, Scotland.

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Investors are moody creatures and just about anything will spook them and send them scurrying back under the rocks they crawled out from under in the first place.

Investor Intelligence Survey

A good indicator of whether the market is ready to turn around is the weekly survey called the Investor Intelligence Sentiment Survey. I know, investor and intelligence in the same sentence might sound like an oxymoron, but this survey is important. When the spread between the bulls and the bears is -20 or so, this means the bottom of the market is either close at hand or upon us.

Redemption of Mutual Funds

When investors start to redeem their equity mutual funds, it’s a pretty good indication that the market has bottomed out and investors are poised to re-enter the game again.

The VIX

The VIX is a CBOE Volatility Index. It basically measures the amount of fear among investors who trade on the S & P 500. There’s also a similar index for the NASDAQ market. These indexes measure option contracts on these markets. The more investors buy options the more you will know the bottom is not here yet. As the options decrease, investors are becoming more optimistic and getting ready to jump back into the market.

The question on everyone’s mind from Wall Street to Main Street is: Is it over? Has the bear market finally reached rock bottom? While there is no clear answer to this, there are some indicators that can help you determine if the market is ready to turn around and the Bulls are ready to send the Bears packing.

Market Indicators for Techies

If you really want to get technical, you can gauge market indications by using historical data, the RSI, and other indicators.

Historical Data

By analyzing past market declines and how long they have lasted, some people feel they can then predict with some accuracy how long this market decline will last. Personally I wouldn’t use this as my only indicator, as the United States, and the global economy are in uncharted territory as far as this financial crisis is concerned, but the data would be worth looking at.

The RSI

The RSI stands for Relative Strength Index. This index tracks the average gain or loss of a stock or other index on a daily basis.

Market Sectors

There are certain sectors in the market that are good indicators as to whether the stock market has bottomed out yet or is still on its way down. Financials, technology, consumer goods, and transportation are the sectors you will want to watch.

Other Indicators

Prudent investors will also monitor the credit markets, Consumer Confidence Index, and other economic indicators such as housing inventories, Baltic Dry Index, and consumer goods.

There are clear signs of a market ready to turn around if you do a little research and know what to look for. While this article is not all inclusive as to market indicators, it will give you a general idea of what to look for and where to look.

To read more articles from REI Circle, please visit www.reicircle.com

REI Circle is a Real Estate, Entrepreneur & Investment Community where members empower members through Networking, Investing, Education, Support, and Resources.

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