-- Posted Monday, 24 July 2006 | Digg This Article
| Source: GoldSeek.com
Rick’s Picks
Monday, July 24, 2006
For investors who’d rather be smart than lucky
The stock market would be collapsing right now were it not for short-squeezes triggered by our intermittently dovish Fed chairman. However, it should be painfully clear after last week’s histrionics that each successive goosing of share prices is attracting fewer suckers. Indeed, when the Dow Industrials surged 212 points last Wednesday, inspired by Helicopter Ben’s most recent, timid effusions, who other than a CNBC pundit could possible have believed the rally would be the start of something big? And other than for reasons of short-covering, what could conceivably have motivated a sane person to buy shares with such evident enthusiasm? I ask that question in all seriousness, since a plausible answer completely eludes me. Could there be more than a mere handful of investors who still believe the rosy statistics that the government’s economists put out each month? I know of only two dimwits who earnestly embrace this ongoing fraud myself, a couple of lurkers who send me “good” news each day concerning the housing sector. Get real, guys! Ponder the Dow Home Construction Index below and tell me what you see.
Meanwhile, I’ve been quite strident lately in telling you that stocks have nowhere to go but down. But that doesn’t make them any easier to short. To the contrary, we’ve found the task bedeviling, for a couple of reasons. For one, there will always be vicious short-squeeze rallies to contend with. As a case in point, we laid out shorts in Citi just as Wednesday’s bear trap detonated on the opening. This turned the August and September 45 puts that I’d advised you to buy from bargains into bummers, and although the puts came roaring back when stocks relapsed into week’s end, with Auggies purchased for 0.30 registering a 50% price increase overnight, the experience serves as a reminder that put options can never be considered a buy-and-hold proposition. But, you ask, what about the trader’s cardinal rule -- that we should always cut our losses and let our profits run? In practice, over the last thirty years there have been extremely few instances in which bears could have let profits run by holding puts for more than a few days.
Nail Down Profits
The lesson in this is that we should always try to nail down partial profits in put positions so that we can continue to hold some puts effectively for nothing. In practice, this is what we have always tried to do – and it has worked for the most part. But the problem remains of how to get short in the first place. This is easily accomplished in a bull market, since we need only look to initiate shorts at hidden-pivot rally targets. But we are no longer in a bull market, the epic bear rally begun in October 2002 having recently ended. This means that countertrend rallies will tend to die without reaching their hidden-pivot targets. The implication for us, as we saw last week in two stocks we tried to short – Beazer Homes and Fannie Mae – is that we will need to be much more aggressive in our approach than we’ve been in years.
However, up to this point, my advice has been only somewhat more aggressive. For instance, in recommending a short in Fannie Mae last week, I didn’t tie our entry strategy to a hidden-pivot rally target. With the stock trading just below 48 on Tuesday, I advised as follows:
Fannie Gas-Bag
“Any time this gas-bag wafts up to $50 we should try to short it. I have no specific hidden-pivot target to offer you, so buying puts will be more speculative than is typical for us. Nevertheless, you should bid 1.85 for four September 50 puts (FNMUJ), day order, no contingencies. That would be a good price for them with the underlying stock trading near 50.”
In the event, even with the broad averages going bonkers on Wednesday, Fannie got no higher than 49.09, and the puts never traded below 2.45. I should note as well that most other stocks failed to reach hidden-pivot rally targets on a day that produced the sharpest surge in years for the broad averages.
To further illustrate our problem, here is what I advised in Beazer Homes, a $40 stock that I am absolutely confident will eventually trade for under $5 a share:
Beazer a Dead Duck
“My downside target for this erstwhile dead duck is much lower, but perhaps we can catch a short-able top by stepping cautiously into Beazer's path today. The nearest hidden pivot above is 41.10, so I'll recommend shorting 200 shares at 41.09, stop 41.16. Please note that if the stop is hit BZH would be signaling additional upside potential over the near term to at least 42.59.”
Unfortunately for us, Beazer traded no higher than 40.40 during Wall Street’s latest whoopee-cushion rally. Knowing that the rally was a hoax, however, and that there will be many more like it as the Dow Industrials fall to below 1000 (!!) is not enough. To get short in what promises to be the worst bear market in history, we will need to stick our necks out more than ever before. Indeed, there can be no “comfort zone” for those who would attempt to leverage the Mother of All Bears. In practice we must guard against the possibility that this bear will be very different from all of the others – that it will not be a bear market to be leveraged and profited from, only survived.
***
Information and commentary contained herein comes from sources believed to be reliable, but this cannot be guaranteed. Past performance should not be construed as an indicator of future results, so let the buyer beware. Rick's Picks does not provide investment advice to individuals, nor act as an investment advisor, nor individually advocate the purchase or sale of any security or investment. From time to time, its editor may hold positions in issues referred to in this service, and he may alter or augment them at any time. Investments recommended herein should be made only after consulting with your investment advisor, and only after reviewing the prospectus or financial statements of the company. Rick's Picks reserves the right to use e-mail endorsements and/or profit claims from its subscribers for marketing purposes. All names will be kept anonymous and only subscribers’ initials will be used unless express written permission has been granted to the contrary. All Contents © 2006, Rick Ackerman. All Rights Reserved. www.rickackerman.com
-- Posted Monday, 24 July 2006 | Digg This Article | Source: GoldSeek.com
