Capital Markets Recap – Quick Take

Here is a quote this morning from one who has navigated this market and past tough markets well, Ned Davis–not profound, but apropos: It’s always darkest before the dawn. A cynic, not that there are any around here, might say that it’s always darkest before it’s black.

We think that 1090 is a critical level on the S & P 500. Last night we closed at 1106.39, so it wouldn’t take much to get there. If the SPX doesn’t hold there, the next support is quite a bit lower, and we’ll look hard at raising some cash.

A bailout will happen, and perhaps it will be a better one than the one that didn’t pass. If you take the collosal leap that Congress, as it was in the days of Rome, is a source of wisdom, then its votes should represent that wisdom. Therefore, a vote that does pass must–if you accept the first, dubious assumption–be a better one. The big question is, what institutions will fail in the meantime?

Investment decisions based solely on emotions usually don’t work out well. That doesn’t mean that one should never sell in declining markets, but it should be in response to reasoned analysis, not panic. There is a lot of fear in the markets, as evidenced by a number of things, and it is predominating. We think identifying support levels is one example of reasoned analysis.

Fear is at very high levels. The most recent indication is the spike in implied volatility. This is derived from option pricing models, where expected volatility is an input. It can also be reversed engineered, by making volatility an unknown and solving for it. In times of panic, more put options are purchased than call options. Put options are always more expensive than calls, so the increased demand for them implies higher expected volatility. Based on this thinking, the CBOE produces the closely-followed VIX index. Yesterday, it spiked to highs last seen in 2007.

Anecdotally, Forbes, which, along with BusinessWeek, Time, and other popular periodicals, has a habit of producing cover stories at just the wrong time. This week’s featured three folks hanging on to a line on a chart pulling it down. There were six stories on the front cover. Five of them were bearish. The other was modestly (“The New Blue Chips”). Some of the more timely stories were titled, “Best Places to Stash Your Cash,” and “Stress-Testing Your Portfolio.” You should shortly be able to see this on the Investment Research > Observations section of our website. Also, The Economist featured a bearish cover story last week as shown in our Third Quarter Update, also on our website.

A couple of calls out this morning came from JPMorgan and Morgan Stanley, suggesting to buy financials for a trade, along with other contrary areas like Consumer Discretionary. These two groups, along with Consumer Staples, while making lower lows compared to September 17, managed to stay above July lows, which is positive.


Make sure any individual investments you own are in companies selling real products. Think of grocery store items; think of oil coming out of the ground. The worst of the carnage in the post-internet bubble was in those companies making, essentially, nothing.

Use this time to re-evaluate your risk tolerance and long term asset allocation. Markets will get through this situation, but there will be another situation, about four years down the road. One thing that doesn’t change is the swinging between greed and fear.

Call or reply with any of your own observations.

Investment Management Services Tower Private Advisors

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