Tuesday, November 4, 2008

A Tale of Two Cities

As you can see from the chart above the market (Dow Jones) has made a significant advance off it's most recent low. Markets do not go down forever although I was not sure about that during the first half of October. Similarly they do not go up forever either. The stock market action during the month of October was like the Dickens novel, “A Tale of Two Cities”.

The first two weeks were sheer terror when compared to the second two weeks which felt like heaven. We went from an inter day low of about 7,880 on the Dow Jones to a recent high of about 9,650. The almost 1800 points move was about 22% off the bottom with no real correction.

As much as all of us like the feeling of an up market, we must deal with the reality that we have serious problems that need to be addressed. This Friday we have the unemployment data at 8:30 in may be more in the 225,000 to 275,000 range which will signal that the economy in is even worse shape than people suspected.

If I am close to the number, I would expect to see the market sell off because the prospects for recovery will be pushed out further into 2009. There will be more talk about an additional stimulus package to try to get the economy going. I would also expect the bond market to rally because of the feeling that the Fed will have to spend another 50 basis points in interest rates by cutting sooner rather than later.

For those of you that are my clients I am putting on a small position of insurance called the Pro Shares Ultra Short S&P 500 Exchanged Traded Fund (ETF). The objective is to offer some downside protection if the market does correct as I expect. If I am right this investment will go up in value twice as fast as the market goes down. You can get more information on Pro Shares ETF at http://www.proshares.com.

I expect that the markets will continue to be volatile and the use of ETF’s will have the potential to add some stability to our investments. These ETF’s are not long-term investments; they are a way to protect some portfolios over the short-term. We have the flexibility to protect on the downside and increase our return on the upside.

I expect that some of you may be asking yourself why don’t we use the ETF’s all the time? This is an excellent question and my answer is that ETF's have extreme volatility and too much exposure could make you sick as being on a roller coaster ride. We want to own high quality investments and now we want own some insurance to reduce overall volatility.

Dan Perkins

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