February 19, 2013
by Jeffrey Saut
of Raymond James
“There were times when my plans went wrong and my stocks did not run true to form, but did the opposite of what they should have done if they had kept regard for precedent.” So said Jesse Livermore, as chronicled in the brilliant book Reminiscence of a Stock Operator by Edwin Lefever; and, stock market historians will recall that Jesse Livermore is still considered one of the most colorful market speculators of all time. Indeed, the “boy plunger” was blamed for the market crash of 1929 and for precipitating every market swoon from 1917 to 1940. Jesse’s investing success was driven by his ability to develop certain indicators, combined with an investing discipline that spawned such market axioms as:
1) Fear your losses and let your profits run.
2) It was never my thinking that made me money, but my sitting tight.
3) Markets are never wrong, opinions are.
4) The tape knows all.
Years ago I studied the tactics of Jesse Livermore, along with a number of other stock market operators, and have found many of those strategies to be as valid today as they were decades ago. I was reminded of the Livermore quotes while rereading an interview with market guru Justin Mamis. That interview was conducted by Kate Welling, who hangs her hat at the venerable firm of Weeden & Company. The comments in the article that caught my eye were when Kate said to Mr. Mamis, “I detect a little frustration in your voice.” Justin responded, “The frustration, for me, is that I have lost almost every meaningful indicator that I use to follow the markets because of changes in the nature of the business. People – and institutions – simply are not trading or investing the way they used to. It’s part and parcel of how dramatically the business has changed, of the way so many hedge funds and trading desks work these days.” To me, those comments were akin to Jesse Livermore’s quote, “There were times when my plans went wrong and my stocks did not run true to form, but did the opposite of what they should have done if they had kept regard for precedent.” With that thought in mind, I decided to examine the current stock market environment.
Potentially, it really could be different this time given that the S&P 500 (SPX/1519.79) has rallied for 501 calendar days without a 10% correction. That places the current rally within the top 10 longest such skeins since I started keeping notes in the 1960s. To size that, it should be noted that the longest occurrence, at least as chronicled in my notes, came between 10/11/1990 and 10/7/1997 encompassing 2,553 calendar days accompanied by a gain of 232.7%. Also in the “different” camp is that since last September’s reaction high (1465.77), the SPX is better by 4.1%, but the usually market-leading technology sector, as measured by the Technology Select SPDR Fund (XLK/$29.78), has fallen by more than 6%. Then there is my “day count” sequence, which has served us pretty well over the years. To reiterate, “buying stampedes” typically last 17 to 25 sessions with only one- to three-session pauses and/or pullbacks before they exhaust themselves on the upside. It just seems to be the rhythm of the “thing” in that it takes that long to get everyone bullish enough to throw in their “bear towels” and buy right in time to make a trading top. While it’s true some stampedes have lasted 25 to 30 sessions, it is very rare to have one extend for more than 30 sessions. In fact, I can count the number of them on one hand with the longest lasting 53 trading sessions (August 2006 – October 2006); and the next longest being the 38-session march into the August 1987 “top.” For the record, today is session 34 since this stampede began on December 31st.
To be sure, in recent weeks “There were times when my plans went wrong and my stocks did not run true to form, but did the opposite of what they should have done if they had kept regard for precedent.” Clearly, the stock market has ignored various overbought readings, has shrugged off bad economic news, and doesn’t seem worried about the upcoming sequestration. Meanwhile, advisors’ and investors’ sentiment readings have only been this bullish three other times in the past 25 years (that’s supposed to be a short-term negative), money flows into equity-centric mutual funds and ETFs are at decade highs (also a short-term negative), according to the NAAIM survey investment managers are the most leveraged into stocks on the long side that they have ever been, and the list of cautionary flags goes on. Still, stocks have turned a deaf ear to such tried and true indictors as the D-J Transportation Average, the S&P Equal Weight Index, the S&P 400 MidCap, S&P 600 SmallCap, Russell 2000, and the Value Line Arithmetic Index each made new all-time highs last week. Indeed, it is only the D-J Industrial Average and the S&P 500 that have as of yet failed to make a new all-time high, having stalled at their upper trend lines. That could be viewed as an upside non-confirmation, but even if it does lead to the 5% - 7% pullback I have wrong-footedly been looking for, any correction is likely to be shallow and short. The reason is pretty simple.
Consider this: stocks are actually cheaper now than they were in 2007. Verily, both forward and trailing price-to-earnings ratios for U.S. companies are lower currently than they were in October 2007 by 11% to 13%. Further, the quality of those earnings is better, and the sustainability of future earnings is much stronger, than in 2007. Additionally, the financial sector is much healthier than it was heading into 2008, which should continue to drive the real estate recovery. Nevertheless, if I am going to err here it is going to be using the indicators that have worked over the last 42 years, and regrettably they are still in a cautionary mode. That does not mean we have not been buying stocks, but it does mean we have tried to buy risk-adjusted stocks where the downside appears contained and the fundamentals suggest the upside is decent. For individual ideas, I would peruse the Analyst Current Favorites list with an eye toward stocks with a yield.
The call for this week: Last week the SPX made it seven weeks in a row on the upside. According to my notes, this is the first time in 42 years that has happened at the beginning of the year. Obviously the driver has been liquidity and continuing decent earnings whereby 63.6% of reporting companies have beaten estimates and 64% have beaten revenue estimates for the best “beat rate” since 4Q10. Clearly, I have been too cautious for the past few weeks, but in this business better to “lose face and save skin.” One place that quote pertained to last week was gold, which I thought would “hold” in the $1620 - $1640 support zone. With last Friday’s close of $1610.60 (April future) obviously that “call” was wrong and as always the first loss is the best loss; or as my father says, “If you are going to be wrong, be wrong quickly with a de minimis loss of capital.” For additional Trading Rules from Jesse Livermore, please see page 3.
P.S. – I am in LA seeing institutional accounts and speaking at seminars …
Jesse Livermore’s Trading Rules Written in 1940
- Nothing new ever occurs in the business of speculating or investing in securities and commodities.
- Money cannot consistently be made trading every day or every week during the year.
- Don’t trust your own opinion and back your judgment until the action of the market itself confirms your opinion.
- Markets are never wrong – opinions often are.
- The real money made in speculating has been in commitments showing in profit right from the start.
- At long as a stock is acting right, and the market is right, do not be in a hurry to take profits.
- One should never permit speculative ventures to run into investments.
- The money lost by speculation alone is small compared with the gigantic sums lost by so-called investors who have let their investments ride.
- Never buy a stock because it has had a big decline from its previous high.
- Never sell a stock because it seems high-priced.
- I become a buyer as soon as a stock makes a new high on its movement after having had a normal reaction.
- Never average losses.
- The human side of every person is the greatest enemy of the average investor or speculator.
- Wishful thinking must be banished.
- Big movements take time to develop.
- It is not good to be too curious about all the reasons behind price movements.
- It is much easier to watch a few than many.
- If you cannot make money out of the leading active issues, you are not going to make money out of the stock market as a whole.
- The leaders of today may not be the leaders of two years from now.
- Do not become completely bearish or bullish on the whole market because one stock in some particular group has plainly reversed its course from the general trend.
- Few people ever make money on tips. Beware of inside information. If there was easy money lying around, no one would be forcing it into your pocket.
© Raymond James