In an appropriate sign of the times we’re in, the FDIC may have to “Borrow Money from the Treasury” according to the Wall Street Journal:

Federal Deposit Insurance Corp (FDIC) might have to borrow money from the Treasury Department to see it through an expected wave of bank failures, the Wall Street Journal reported.

The fact that the agency is considering the option again, after the collapse of just nine banks this year, illustrates the concern among Washington regulators about the weakness of the U.S. banking system in the wake of the credit crisis, the Journal said.

Yes, considering this option this early in the game after the failure of only 9 banks is a troubling development and a clear sign that worse is to come.

The immediate question that comes to my mind is what happens if the losses of the anticipated bank failures exceed the current $45.2 billion dollar fund reserves? Sure, the FDIC will dip into their Treasury credit line to cover expenses, but then what? Who will ultimately foot the bill if there is a shortage, and most likely there will be?

Of course, you guessed it: The deep pockets of the taxpayer will as always be a ready and available resource to bail out failed institutions.

Monday’s sharp drop of the major averages gave the bullish crowd a lot to think about and confirmed our bearish stance. Follow trough selling was contained yesterday as the chart (thanks to MarketWatch) shows, with most of the activity being directionless bouncing around the flat line.

Despite sharp rallies and subsequent market drops we are now just about back to where the S&P; 500 started the month. The underlying cause for this confusion is of course the price of oil but also the realization that the problems in financial stocks will be with us for a while longer. Rating agency Fitch put insurance giant AIG on credit watch, because they are concerned that more large write-offs are looming.

As I have repeatedly said, until all skeletons are out of the closet, we will not see any normalcy in terms of fluctuations return to the market place.

As of yesterday, our Trend Tracking Indexes (TTIs) have moved to the following positions with regards to their long-term trend lines:

Domestic TTI: -1.06%
International TTI: -8.64%

We continue to watch things from the sidelines and will stay there until a clear breakout to bullish territory has materialized.

Reader Fred shared with me his approach to investing, which has worked well for him over the past 10 years. Here’s what he had to say:

I subscribe to an advisory service called “The Chartist”. This service has had its subscribers 100% in cash since the middle of January 2008. So I am not invested in any mutual funds at the present time.

What do you think of my strategy?

Fred brings up some interesting points, and I am glad to hear that he has stuck with an approach that has worked for him for such a long time. I have found that most investors jump around way too much always in search of hoping to find the ultimate (and 100% correct) system. Of course, it does not exist.

Here are some comments I have about Fred’s approach:

First, I encourage any investment methodology that uses a discipline based on trend and momentum models along with clearly defined sell stops. The Chartist has done that for a long time and, while their approach differs from mine in some aspects, the core idea remains the same: Stay away from bear markets!

Second, if a 5% allocation works for you, that’s fine. I think that would be appropriate for stocks but is a bit of an over diversification for mutual funds.

Third, I personally don’t think much of the Morningstar ratings. I found them to be too much of a lagging indicator. From my experience, the result is that many rated funds are not necessarily in tune with current economic conditions at the time a Buy signal is generated.

Using momentum figures gives you a better picture as to which funds are showing superior performance at this time. After all, who cares what a fund has done 3, 5 or 10 years ago, I want to know how it is performing now.

Nevertheless, there is not just one method that is the correct one to use, because investing is not an exact science and every approach has its shortcomings and/or benefits. They key is to identify a method that aligns with your emotional make up and risk tolerance, and it appears that reader Fred has done just that.

As I elaborated in yesterday’s post, many readers seem to focus on future events trying to evaluate now as to what the best course of action for their portfolios might be, should this event actually come to pass. Here’s what reader Jerry had to say:

The threat of Israel striking Iran nuclear facilities seems greater as the elections are upon us. If Obama is elected, I believe Israel will strike Iran before year’s end, since he has said in the end he will support the Muslims.

How do I position my portfolio to take advantage of this event? Which oil ETF do I buy options for? What other ETFs would benefit from this also? I would appreciate your thoughts on this scenario.

The problem with Jerry’s scenario is that it is strictly based on predictions. Whether this will happen or not is a totally unknown at this point. I am not a believer in using these types of projections, as realistic as they may seem, as a basis for investment decisions. Why? Because you can be dead wrong in your assumption or the anticipated outcome.

This reminds me of what happened in January 1991 when Iran invaded Saudi Arabia. The world was in shock, speculation ran rampant and the outcome was exactly opposite of what was expected. The domestic markets staged a 1-1/2 year long rally, which still stands as the best return on record we ever had with a Buy cycle for our Trend Tracking methodology.

Sure, times may be different now, but I still believe that the best course of action is to wait for trends to develop first before taking any positions. Going this route will let you confirm that indeed the momentum swings your way, which will enhance your chances of making a better investment decision.

Whenever a major event is shaping up, such as the current Olympic Games or the upcoming elections, investors seem to set their sights on these milestones as a basis for making decisions. I have heard arguments like “I’ll hold my China ETF till after the Olympics, and then I’ll sell,” or “I wait till after the elections, and then I’ll buy,” or similar points of view.

Sure, while milestones like these may or may not affect the markets, using them blindly as a guide is an exercise in futility. As MarketWatch points out in their article “Money managers size up post- election economy,” everyone is trying to get an early edge by attempting to figure out what may be the next hot investment item in order to get a head start.

Let’s listen in:

A clichéd view is that a Republican president helps sectors such as defense and healthcare and a Democratic president is good for, well, not much. The reality, of course, is more complicated that that – for instance, markets typically perform better during Democratic administrations than when a Republican is in the White House.

Doll says that both candidates will raise taxes, and most likely before the expiration date. As Bavoso pointed out, McCain will still need a package that meets the approval of a heavily Democratic Congress.

There you have it. Nothing is certain and neither potential outcome can tell you for sure which sectors might be positively affected by either candidate. It’s all a wild guessing game because the winning candidate will have to face certain realities after being elected that might directly oppose his pre-election (empty) promises.

Whatever the winning candidate decides to do to what extent is simply an unknown as is how Wall Street will react. However, any reaction will be reflected in the underlying trends, which I can measure.

That will give me an opportunity to determine which (domestic/sector) trends are breaking out to the upside (above their long-term trend lines) and will provide me then with an opportunity to take invested positions accordingly. Trying to make that assessment now without cause is simply speculation.

One newsletter reader, who wants to remain anonymous, called a couple of days ago and told me that his wife’s portfolio just lost some 46% dropping from $170k to some $91k in about 1-1/2 years.

Your first reaction might be “how could you let this happen,” but I believe that this is, unfortunately, not an isolated case. Whenever investors engage the services of a broker or an advisor, there is some trust involved by assuming that this person knows what he’s doing.

As the portfolio starts to sink into oblivion, you’ll hear explanations like “it’ll come back up,” “a turn around is about to happen,” or my all time favorite “the market can’t go any lower.” There are a host of other excuses, but you get the picture.

This investor’s portfolio was diversified, which means it was set up based on a buy and hold mentality, irregardless of whether market conditions were bullish or bearish at that moment.

The reader was kind enough to share one main component of his portfolio, which was a fund called RHY. Let’s take a look at a 2-year chart:

This is about as bad of a chart you can find if you’re holding a long position. The reader told me that he got in at $16 and finally out at about $1.30 due to his urging and not his brokers. It’s another sad story of total incompetence and lack of a plan to protect a client’s assets.

This illustrates what I have been writing about for years. When you select someone to manage your portfolio for you, the most important question to ask is “what is your exit strategy?”

If there is no clear answer or stammering and a bunch of excuses as to why he doesn’t use one, look for someone else. Once you find such a person, get it in writing by asking for an Investment Policy Statement (IPS), which should exactly describe the methodology employed to get in and out of the market.

No matter which investment approach you favor, losses are part of investing; keeping them small and manageable is the key to long-term investment success.