Gut Wrenching Relief!

The S&P 500 showed a modest gain of 4.6% over the past five trading days! That is welcome relief given the massive losses experienced over the past few weeks. The NASDAQ was also up 3.7% for the week. While we do welcome the positive gains, unfortunately those gains came amidst exceptional market volatility. Investors are having to stomach gut wrenching volatility that has hit extreme levels, which is not helping the overall level of fear and panic in the marketplace. For perspective, the market has moved several times between 5-10% up and down in just one trading day!

Last week was another volatile week of trading which saw the Volatility Index hit record highs. The week started well as the market got a big rally on Monday after coming off the worst week in market history. The big news again centered on the financial sector and the economy. European Central banks announced plans to provide much needed liquidity to the short-term funding markets. The U.S. Treasury announced plans to make a direct capital injection of $250 billion into major institutions, and immediately disclosed $125 billion investment into the stock of nine major institutions. These actions were on top of the already announced bailout plan of $750 billion to purchase distressed mortgages from financial institutions. As we have mentioned before, the government has taken and continues to take historic actions in their efforts to provide liquidity, unfreeze credit markets, and to improve confidence in the financial system. We are starting to see the market respond to these actions. For example, the Libor rate has been declining over the past few days, which is a barometer that credit may be easing as banks get more comfortable lending. The market gains last week are also encouraging towards calling a bottom, but we need to see a base form over a longer period that includes measures of lower volatility.

In economic and corporate news, third quarter earnings reports are now in full swing. Earnings reports to date have been pretty mixed, although most future outlooks are very cautious given the turmoil in the economy. Housing starts sunk to a 17 year low, unemployment claims remain high, and consumer sentiment plunged in October in the sharpest 1 month decline ever. Clearly consumers are very concerned with the economy and the market volatility is helping drive negative sentiment. There are not many positives with the economy right now, and our own view is that those challenges will continue well into 2009 which will further pressure stocks. Oil prices have fallen dramatically over the past month, probably anticipation of deteriorating global demand, from evidence of Global economic decline. OPEC is having an emergency meeting on October 24 and most speculators assume prices will move up if OPEC agrees to cut supplies. Lower oil prices do have a very real impact on consumers, as well as impacts overall consumer sentiment. If oil prices were to rise dramatically, this could have major implications for an economy in recession as well as a shaky stock market. In other industry news, many sectors did show significant gains last week, not all that surprising given the oversold conditions in the market. Utilities (9.76%) and Energy (9.47%) were the sectors that showed the largest gains for the week. The worst performing sectors for the week were Conglomerates (-3.67%) and Consumer Cyclical (-.54%).

The stock market performance this year has been painful for most investors after losing more than 35% year to date. The volatility in the Marketplace is at historically high levels and last week saw the setting of yet another new record. Consumer sentiment is at very low levels, and fear among consumers and investors is high. We mentioned last week that the Gloom and Doom in the media was getting extreme and that a turning point in the market usually happens when we hit extreme levels on either end of the sentiment spectrum. The positive stock market gain last week is encouraging, but we want to see market indexes stabilize and begin to form a base that we hope will represent the bottom. Volatility is simply too high, and this makes it impossible to predict the short term direction of the market. As we mentioned before, we are not quite ready to say that the stock market has hit bottom, but are encouraged with the global efforts to stabilize the markets with capital injections and short term liquidity. In addition, research suggests that past Bear Markets lost on average 39%, whereas this market has already lost 47% off highs. Overall, we think that the economy has a long way to go before it gets better, but we do think that equities in general are beginning to hit very compelling price levels. In other words, the stock market may be getting closer to that bottom. Of course, until money flows begin to return to the market, stocks will likely stay flat at best over the short term. It is important for investors to remain patient and prudent. As the market improves, investors can get more aggressive with additional investments. The most important goal is to beat the market, even if that means losing less than the overall market over the short term. Longer term our strategy has been very successful as all of our portfolios show positive returns since inception, while the market returns over that same period are negative. Investors should always put more weight on long term performance, as opposed to short term fluctuations. We continue to carry some losses that are larger than what we normally carry in our efforts to avoid the recent selling frenzy and oversold conditions. Generally speaking, now is not the time to cut your losses by selling losers unless you truly have better investment opportunities. In fact, we had a number of stocks generate double digit gains just last week, gains that we would have missed had we sold.