My latest No Load Fund/ETF Tracker has been posted at:

http://www.successful-investment.com/newsletter-archive.php

The bears feasted on a bullish carcass, and the major indexes lost heavily.

Our Trend Tracking Index (TTI) for domestic funds/ETFs remains below its trend line (red) by -2.66% thereby confirming the current bear market trend.



The international index now remains -9.96% below its own trend line, keeping us on the sidelines.

For more details, and the latest market commentary, as well as the updated No load Fund/ETF StatSheet, please see the above link.

Reader Joao has been watching our Trend Tracking Indexes (TTIs) for some time now and had this to say:

I am observing your TTIs very carefully, and plan to take action when you recommend.

I have a question however on the slope of the TTI: how relevant is this slope (as compared, for instance, to a 200 day moving average)? Looking at the US domestic TTI, the slope is now tending downwards for the first time in several years (since 2003).

Would this signify a down trending (bear) market, and therefore, should one not take “shorts” in tune with the falling market rather than go long when the index line goes above the TTI line? I am saying this on the assumption that you’d concur with the strategy of investing “with the trend” … and if the trend is sloping down, then why go long?

Thanks for your insights; I am trying to get a better understanding of your proprietary TTI system.

Let’s take a look at a blown up portion of the domestic TTI to better understand what Joao is saying:



Since our Sell signal on 6/23/08, the trend line (red) has been in fact sloping down confirming that we are indeed in a bear market. As you can also see, prices (green bars) have been on the rebound and may very well break through the trend line to upside into neutral territory. I define the neutral territory as an area between the long-term trend line (red) and a point, which is 1.5% above it (blue). Once prices pierce the blue line, a new domestic buy signal is generated.

To answer Joao’s question, I have to say that in the past 20 years I have not found that a buy signal generated via the piercing of a falling trend line vs. the piercing of a rising trend line has shown any different results.

Sure, a falling trend line would support a bearish viewpoint; however, you still need to apply caution when entering short positions. Why? Bear market rallies are a powerful counterforce to be reckoned with. If you had any short positions initiated based on our last Sell signal, you most certainly would have been stopped out had you worked with a sell stop (which is a must).

Looking at the big picture, I suggest you review my post “Is Short Selling Worth It,” which makes the argument based on a lot of research that, in the long run, short selling may not add as much to your bottom line profits as you think.

Yesterday, the bulls came charging out of the gate pushing the Dow up almost 250 points in the early going. But, to the shock of traders and the bullish crowd, the rally faded and the major indexes ended up in negative territory.

It’s too early to tell whether this total turn-around was a one day event or the resumption of the bearish tendencies, which have been interrupted by rebound rallies during the month of August. Our Trend Tracking Indexes retreated as well and are positioned relative to their long-term trend lines as follows:

Domestic TTI: -1.20%
International TTI: -7.77%

To me, the bear is alive and well and will most likely strike again. Yesterday’s reversal can’t be attributed to any one factor, there was simply no support for the bulls; even lower oil prices weren’t any help at all.

Commodity prices sold off along with oil, which many traders finally realized is a result of slowing economies around the world. Whatever the reasons, it does not really matter, the trend is down, and we will remain on the sidelines.

Some readers have asked me to comment on the upcoming elections, the possible outcome and the effect on various investments. I try to stay away from commenting on politics in general, since I despise the way most positions go about their business. Empty promises and total lack of integrity would be some of the reasons among many others.

However, yesterday Random Roger posted a nice piece about his take on the elections, and I must admit that his view pretty much resembles mine. Here are some highlights:

I’m a Libertarian so I don’t really care for either candidate (have not been of any candidate for quite a long time). They both have flaws galore and they probably each have positives too.

The drilling in ANWR is another absurd debate. It won’t add oil for ten years. If they had started ten years ago we’d have it now. If they started eight years ago prices now might be less with the realization than ANWR would start producing in two years. The land in question is a massive, barren tundra. If you have been reading this site for any length of time you know what sort of animal person I am. With that said, does it make any sense whatsoever that the wildlife that would be displaced or otherwise harmed by commencing drilling ops on a speck of that massive barren tundra is more important than the American economy?

No matter what the outcome of the elections, there will be some effect on Wall Street. Historically, there have been sharp rallies and declines no matter which party got top billing. As we’re heading into the final stretch, market trends (especially in sectors) will develop and point to the direction of potential investment opportunities. Establishing any positions now based on hypothetical assumptions is a risk I would not want to take.

I have touched on the subject of hedging before, but one reader posted this question:

Can you please clarify what hedging means?

In one of the posts I read:

“The safest and most responsible way to use reverse-index ETFs is to hedge or protect your equity portfolio in a bear market.”Suppose I hold $ x worth of an ETF. How are the following two different from one another?

1. Buying $ x worth of inverse ETF? (This means, whether the market goes up or down, the value of my portfolio remains the same – am I right?)

2. Selling the $ x worth of the ETF and having it in money market.Are not 1 and 2 above the same in terms of value after so many months? (In the case of 1 above -Till the time I liquidate the long or inverse ETF are not 1 and 2 above same?).

In theory, you are correct. The value of a short position is supposed to make up the losses of a long position—if we’re going through a bearish period. This is 100% true if you have two accounts and in one you hold 100 shares of IBM, while in another account, you sold short 100 shares of IBM. The gains and losses will cancel each other out.

However, the story is different when you mix mutual funds and inverse ETFs where the relationship is not exactly definable. That discrepancy can lead to profit opportunities while limiting downside risk. I have done a lot of research in that area, but I can’t share all results yet, since my work is not finished.

However, I will give you two small opposing examples of how hedging could have produced profits. A few months ago, we’ve had 2 subsequent 3-week periods, one bullish and one bearish, during which I held 2 mutual fund positions, which were hedged with SDS.

First the bullish period:



Please note that during this period, the S&P; 500 gained sharply by rising +6.31%, while the hedged position went up by +3.50%. A month later, the bottom dropped out and during the subsequent bearish period, the numbers changed as follows:

The S&P; 500 lost -5.86%, while the hedged position gained +1.99%. On balance, the hedges produced a profit, while the S&P;’s gains and losses pretty much canceled each other out.

When I picked these periods during my research project, they were selected only because of the market’s sharp rise and fall and not because the hedge results turned out positive. I have looked at hundreds of examples and, while using a hedge like this will not always result in a profitable outcome, the downside risk was sharply reduced, while, at the same time, upside potential was limited.

However, when used over longer periods, including bear markets, the results have been quite impressive because of the reduction in volatility. So hedging will not necessarily put your portfolio in a 100% neutral position, it can also be used to produce profits no matter which way the markets trend.

I currently have no holdings in any of the funds/ETFs mentioned.

I just finished reading Charles Morris’s “Trillion Dollar Meltdown,” which describes the recent years of easy money, high rollers and the great credit crash.

According to Morris, an acclaimed financial writer, the sub-prime crisis is only a preview of the havoc that will play out across the full spectrum of financial assets. Arcane credit derivative bets are now well into the tens of trillions. The astronomical leverage at major banks and their hedge fund and private equity clients virtually guarantees massive disruption in global markets.

The book explains the arcane financial instruments, the chicanery, the policy misjudgments, the dogmas, and the delusions that created the greatest credit bubble in word history. Paul Volcker slew the inflation dragon in the early 80s, and set the stage for the high performance economy of the 1980s and 1990s. But Wall Street’s prosperity soon tilted into gross excess.

Now global confidence in American securities has been shattered, the dollar debased, and the crown jewels of American industry put on auction to foreigners. Continued denial and concealment could cause the crisis to stretch out for years, but financial and government leaders are still downplaying the problem.

This is where things can get ugly for your portfolio, if you don’t realize that a Black Swan event could be lurking around the corner. While you can’t do anything about the facts as Morris describes them in his book, you can take simple measures to protect your portfolio should the crisis accelerate. Have a disciplined entry and exit strategy and never ever work without the use of a sell stop.

The book is an easy read and will get you up to speed, in case you missed some of the developments leading up to the unwinding of the greatest credit bubble in history.