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Jeff Saut Presents: Wrong?!


In this business it is no disgrace to guess wrong; the only disgrace is to stay wrong.


Editor's Note: The following article was written by Raymond James Chief Investment Strategist, Jeff Saut. It has been reproduced with permission for the benefit of the Minyanville community.

The brilliant Peter Bernstein (author, historian, and economist) once wrote:

"After 28 years at this post, and 22 years before this in money management, I can sum up whatever wisdom I have accumulated this way: The trick is not to be the hottest stockpicker, the winning forecaster, or the developer of the neatest model; such victories are transient. The trick is to survive. Performing that trick requires a strong stomach for being wrong, because we are all going to be wrong more often than we expect. The future is not ours to know. But it helps to know that being wrong is inevitable and normal, not some terrible tragedy, not some awful failing in reasoning, not even bad luck in most instances. Being wrong comes with the franchise of an activity whose outcome depends on an unknown future (maybe the real trick is persuading clients of that inexorable truth). Look around at the long-term survivors at this business and think of the much larger number of colorful characters who were once in the headlines, but who have since disappeared from the scene."

Clearly, we have been wrong numerous times during our 36-year stint in this business. Most recently we were wrong in our assessment that the major averages "topped" in January of this year. While that may have been true for some of the indexes (SOX, NDX, HGX, etc.), it was blatantly untrue for the DJIA, S&P 500, and Russell 2000. Yet, we adhered to the discipline of our indicators, which increasingly showed that the markets' internals have been deteriorating since mid-January. Plainly, that cautious stance made us look "wrong" until May 11th when we were quoted in The Wall Street Journal stating, "We don't understand it and we don't trust it!" At the time we were referring to the DJIA, as it was attempting to better its all-time high of 11722. Obviously, that attempt failed and the rest, as they say, is history. Yet while the declines in many individual stocks have been precipitous, the decline as measured by the S&P 500 and DJIA has been contained at roughly 5%.

This is not an unimportant point since our notes show that following a substantial advance, if the indexes' subsequent pullback is held to around 5%, then the upside can still be given the benefit of the doubt. Currently, supporting that "benefit of the doubt" view is the fact that the S&P 500 has tested, and held, its 200-day moving average, which at the time was at 1254, but is now at 1259. As well, the S&P 500 held the upward-sloping trendline that has contained every decline since August 2004. Therefore, we view the recent reaction lows around the 1245-to-1255 level (a 5% decline from the recent highs) as key levels. Failing those lows would suggest a decline of 10% or greater.

As for the here and now, this morning we are going to repeat some of our verbal comments from last Friday, since we view those comments as critical from a trading perspective. Unfortunately, said comments failed to make it to the public Web site, or to the Raymond James' internal "squawk box" system, which was particularly disturbing to us since we thought those comments came at a pretty important point in the trading cycle. To wit, on May 25th we opined that the "guilty" verdict, of Enron's dynamic-duo, would likely mark the near-term trading lows for the major market averages. Accordingly, we recommended the purchase of the Dow Diamonds (DIA), and the S&P 500 Spy's (SPY), for kamikaze trading accounts.

Those recommendations were made given our sense that the 5% decline from the recent "highs" had been discounted by the various equity markets, at least in the short-run. Our exact comments of May 26th were to buy the aforementioned indices "for at least a throwback rally and maybe something more." While that stance looks pretty good in retrospect, it looked abysmal in last Tuesday's 184-point, holiday-induced, Dow-Dive.

Since those "buy 'em" comments, the questions we have fielded have been decidedly about the trading account. To us this perspective is interesting, for while successful trading is fun and exciting, ALL of the net worth changing events we have experienced over the years have come from the investment account and not the trading account. And to those trading account questions, since the purchase of those indexes we have suggested that the near-term upside target for the S&P 500 should be the 1290–1295 level, which is where the S&P broke down. Consequently, when Friday's allegedly "Street friendly" employment numbers caused the pre-opening futures to spike into the 1290–1295 zone, we stated in our morning comments that traders should sell one-half of their index positions and move-up their stop-loss points on the other half of those trading positions. If participants did that, it should now be difficult to lose much money on the remaining index positions given the profits that were "booked" at Friday's opening prices.

Now readers may want to know why we used the word "allegedly" when referring to Friday's employment numbers. Well, in our opinion, Friday's employment numbers were not good for the"Goldilocks" scenario. Indeed, for Goldilocks to play what was needed was a non-farm payroll number somewhere in the middle, not the shockingly soft number that was reported. Verily, the meager 75,000 non-farm payroll number is likely to surface a word not heard since the 1970s, namely "stagflation." And with that word, participants will likely start to worry about profit margins and subsequently earnings. Whether the stagflation scenario plays, only time will tell, but worries about such an environment could have an adverse effect on equities.

Consequently, we conclude this morning's comments with the lines we have so often used this year as reprised from Charlie Knott, of Knott Capital Management, because we agree with his risk adverse investment style. To wit:

"With these concerns, our risk-adverse and conservative nature forces us to maintain a 'predominantly defensive' investment stance. Investors shouldn't have a highly optimistic or hardened pessimistic mindset. Proper sector-selection is the best tactic to achieve above-average investment results. We favor those industry groups where valuations are reasonable, pricing power is formidable and earnings growth seems assured. We continue to sell-on-strength and buy-on-weakness. This defensive tactic is flexible and adjusts to the market's volatility. It also allows gains to accrue as money is taken off the table."

And that mindset, ladies and gentlemen, is what investing is all about! Manifestly, proper sector and stock selection, combined with the ability to manage the risk (read: don't let ANYTHING go very far against you), has been, and should continue to be, the secret to successful investment results going forward.

The call for this week: Whether it was "wrong" to sell one-half of the trading positions into Friday morning's opening strength, only time will tell. But, in this business it is no disgrace to guess wrong; the only disgrace is to stay wrong. We continue to invest and trade accordingly.


Minyanville contributors may trade securities that are discussed on the site, both before and after the articles are published and/or may have a position in such securities for either personal or firm account(s). Minyanville contributors will indicate whether he or the firm has a position in stocks or other securities in any of the companies he discusses in an article. He will not disclose his or the firm's ownership of any securities issued by companies that are not discussed in an article. The disclosures will be accurate as of the time of publication of an article and may change at any time thereafter without notice to the reader.

The information on this website reflects an analysis of market conditions by Minyanville contributors and should not be interpreted as or deemed to be a recommendation to any investor or category of investors to purchase, sell or hold any security. Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Minyanville contributors will not respond to requests for individual and specific investment advice.

The views expressed on this website are solely those of the writers whose articles appear on this site and do not necessarily reflect the views of the Fund or of any other person except where expressly indicated.

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