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Reading the Technical Tea Leaves

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12/10/2008



During the past several trading sessions, stocks certainly have been in rally mode. Right now, my reading of the technical tea leaves tells me that we may well have reached a short-term low in the markets.

If you look at the chart below of the S&P 500 Index, you'll see that we now are trading just below the short-term, 50-day moving average (blue line). If we break above this technical trigger point, we could be in for a continued move to the upside.

If, however, we fail to breach the 50-day, and if we slide back down below 860 on the S&P 500, it could well be a sign that the bear has reached up and pulled us back into his lair.

Whatever happens with the broad market indices like the S&P 500, we must always remember that certain sectors of the market march to the beat of their own drummers. 

Two sectors that have caught my eye of late are energy and financials.

I recently commented on these two sectors in an appearance on the Fox Business Network. To watch this segment, click here.

Let's take a look at two exchange-traded funds (ETFs) that allow you to invest in energy, and in financials.

The first fund is the Energy Select Sector SPDR (XLE).

This fund includes the biggest and best energy companies around.  With XLE, you get exposure to a sector that appears as though it has found a bottom. And judging by the chart above, XLE is just about primed to breach its 50-day moving average.

The second ETF is the Financials Select Sector SPDR (XLF).

With XLF, you are getting the best of the beaten-and-battered financial sector, which also appears as though it has hit a short-term bottom. This fund also is climbing very close to its 50-day moving average.

By reading the technical tea leaves here, we can get a sense of when the time is right to jump back in to these -- and other -- market sectors.

In my ETF Trader advisory service, we've been watching both XLE and XLF closely for several weeks for just the right moment to buy. If you'd like to be with us when we take the plunge into these and other ETFs, click here.

A Few Facts on Regulation

There has been a lot of erroneous chatter about how the free market has failed us during the financial crisis of 2008. Market opponents, usually of the liberal stripe, say that deregulation is the cause of all of our ills. 

But is this really true? Consider the following facts, and then tell me if a lack of regulation is really the problem with our markets.

The Federal Register, the official daily publication for rules, proposed rules, notices of federal agencies and organizations, as well as executive orders and other presidential documents, averaged 72,844 pages annually during the Carter administration. That average annual number fell to 54,335 during the Reagan administration, but rose again to 59,527 pages under George H.W. Bush.

The annual number of pages soared to 71,590 during the Clinton years. But the undisputed champion of the Federal Register is our current president, who set an all-time record with annual average of 75,526 pages. Well, so much for the notion that the Republican Party is the party of deregulation and smaller government..

Here are few more facts for those who think a lack of regulations is the culprit:

I'd like to think that the above facts would dispel any notions that a lack of government regulation is the problem. But I know that for some intransigent types out there, facts are never allowed to intrude on their agenda.

Here's a tip of the hat to Dr. Michael Shermer and his SkepticBlog.org for posting much of the data above.

ETF Talk: Back to Basics

I thought that this week we should review some of the basic "rules" behind investing in exchange-traded funds (ETFs). I have been touting ETFs as excellent investment growth vehicles, but anything that is new to you can be a little tricky.

Rule One: Diversification

ETFs are flexible investments -- you can buy options, go short, and hedge. ETFs also let you invest in a variety of sectors and trends without the risk of single-stock exposure. In fact, some international ETFs give you exposure to stocks or entire sectors that can't be bought in U.S markets. Let's face it, ETFs offer diversity -- if your goal is to have a mix of assets, ETFs let you do this simply and cheaply.

Rule Two: Explore Your Options

Remember, just because ETFs have stock-like properties doesn't mean that you are confined to investing in equities. ETFs let you bet on almost anything that can be tracked by an index.

Since the economic downturn, it has become wise to look into alternatives to stocks, namely bonds and currencies. Through ETFs, you can focus on corporate bond indices and/or inflation-protected Treasuries. You can buy ETFs that short the British pound sterling, are bullish on the Japanese yen, etc. There are even ETFs out there that let you buy a basket of currencies ranging from the Indian rupee to the Swedish kroner.

Another alternative to stocks could be to keep part of your portfolio in cash. Instead of using money market funds, you could invest in short-term bond ETFs, which often pay double or triple what money market funds yield.

Rule Three: Keep an Eye on Trends, and Moving Averages

I like to isolate trends in the market by observing both the 50- and 200-day moving averages to know when to buy and sell. The moving averages remove the "noise" in stock prices. When a stock breaks above or below its 50-day average, the short-term trend has been broken. When the ETF falls below its 200-day average, it is time to sell.

Rule Four: Set Reasonable Stop Losses

This rule is more technical than strategic. To lock in your profits and limit losses, you must set reasonable stop prices or trailing stop losses, depending on the pick. If you have a trailing stop loss in place, you will be protected if the price of your ETF soars and then suddenly dives.

Rule Five: Watch for Minimum Trading Volume

Another important thing to remember while trading ETFs is to watch for trading volume. You want to invest only in ETFs that have a daily trading volume of at least 100,000 shares. Remember, the higher the volume, the more liquid the ETF. A fund with low trading volume could leave you vulnerable to wider swings in the share price during volatile times.

Well, there certainly is more to know about ETFs, but you now have some basic rules to follow. It never hurts to remember the fundamentals of ETF investing, whether you are an experienced investor or just trying to get started. In a volatile market, knowledge and caution gain heightened value.

If you have any questions about ETFs that you'd like me to answer in an upcoming ETF Talk feature, please click here.

A Compelling Correspondence 2

I recently received a letter from a subscriber to my Successful Investing newsletter that I wanted to share with you.

Dear Doug,

I hope you have an answer for me.

In July of 2007 I stupidly broke just about all of your investment
rules. My wife and I invested a total of $250,000 with Northwestern
Mutual Investment Services -- an IRA for each of us and a regular mutual fund investment for her.

Though we have three accounts with this firm, the money is in just two funds:  Capital Income Builder Fund and Income Fund of America. At present the accounts are worth about $160,000.

My question is, should I sell these funds and put the money in cash, or wait and hope to make back some of our losses?

Sincerely,

A frustrated investor

Frustrated indeed, and I suspect that this subscriber isn't the only one holding on and wondering what to do about big losses. Fortunately, there are a few ways to help remedy this situation.

My current outlook on the market is that I am anticipating higher prices
in the short-term. The markets still are deeply oversold, and we may get a strong rally through the end of the year.

In my opinion, this rally should be viewed as an opportunity to lighten up on some of your invested positions. The market metrics are still very poor, and that means we are likely in for more trouble in 2009. So, when the market does give you a chance to sell into strength, take it.

Finally, my frustrated subscriber was sold very high-fee, high-commission products and, judging by what he's told me, he was sold these products without any risk protection in place. Let this be a lesson to you not to fall into the trap of listening to the biased advice of a broker who is paid with commissions.

Remember that only your judgment can prevent you from making a big mistake, so always exercise that judgment with ruthless logic -- and with an unflinching allegiance to reality.

To find out how my Successful Investing advisory service can help you to avoid costly investing mistakes, click here.

Money Show Musings 5

I want to take a moment to thank the many subscribers to my Successful Investing advisory service who came up to me at the recent D.C. Money Show. There were so many of you who offered me your heartfelt personal thanks for the part I played in helping you to escape the ravages of this bear market.

I can't really describe the full-extent of my gratification in helping so many of you survive this market downturn. I can only say that the pleasure and pride I take in helping you secure the fruits of your labor is akin to how a Major League Baseball player must feel when he knocks in the winning run that clinches a World Series victory.

You see, to me, giving out winning advice is like winning the World Series, the Super Bowl, the Indy 500 or the Admiral's Cup.  This is what I do, and just like the professionals who seek the pinnacle in their respective sports, I too seek the pinnacle in my field of specialization.

My reward, however, is not a World Championship trophy. Rather, it's the trophies you give me in the form of your anecdotes -- anecdotes that tell me how happy you are to have retained your wealth, even while trillions of dollars of worldwide wealth keep evaporating into the financial ether.

To this, I salute you all, and thank you for bestowing such an honor upon me.

Oh, and if you couldn't make it to the D.C. Money Show, fear not. The PowerPoint slides and PDF workbook used in each of my seminars are available online by clicking here.

These workshops were filled to capacity, and I was really encouraged by the number of investors who now realize that ETFs are the best tools at your disposal to enhance your wealth in these difficult times.

If you don't know about ETFs, now is your chance to get up to speed and get in the race.

Resolve to Not Lose Money in 2009

The New Year is almost here, and soon we'll all be making our list of New Year's resolutions.  I got a head start on mine for 2009, and here's just a sneak peak at what I want smart investors to resolve to do next year:

  1. I will prepare my family for a tough economic environment in 2009.
  2. I will have a positive increase in my liquid net worth in 2009.
  3. I will save in excess of 10% of my gross income in my retirement accounts.
  4. I will save and safely secure at least three months of living expenses.
  5. I will stop losing money on bad investments or bad investment advice.

Of all of these resolutions, perhaps the most important is number 5. You see, losing money on bad investments is perhaps the most frustrating thing that can ever happen to you. To accomplish this goal, you need to adopt a new mindset. You need to adopt new investing techniques, and you need to get rid of and get out of bad investments as the market returns to rally mode.

Although there are many ways to make sure you don't lose money, one great technique is to set trailing stop losses on all of your invested positions.

Although the mechanism for setting a trailing stop loss varies depending on which brokerage you use to place your trades, the principle of a stop loss is the same everywhere and it shouldn't be thought of as complicated. When you set a trailing stop loss on a new position, you are telling your brokerage firm to sell that position as soon as it falls whatever percentage you set from the buy cycle high. Let me explain.

If you purchase a stock or ETF for a hypothetical $10 per share and you have placed a 10% trailing stop loss order on that purchase, the stock or ETF will be sold if it falls to $9 per share. If, however, the stock or ETF rises after your purchase to $20 a share, then comes back down to $18 per share, your position will be sold at $18 per share. 

A trailing stop loss allows you to protect yourself from a quick dive in the share price of your security, and it allows you to protect your gains in the event that the security soars and then pulls back sharply.

If you are unsure of how to set a stop loss, then please consult the Web site of your online brokerage, or call your brokerage and ask for instructions on how to do so. Most online brokerage firms make it easy to set trailing stop losses, and you can do so whenever you purchase an ETF or common shares of stock.

Please take the time to learn how to set stop losses. In this fast-and-furious market, having a trailing stop loss in place is absolutely essential to making sound trading decisions.

Aristotelian Employment Advice

"Pleasure in the job puts perfection in the work."

--Aristotle

The latest dismal jobs data shows us that many Americans will be looking for a new employer in 2009. To those who may find themselves in this uncomfortable predicament -- or if you know someone who is -- then I recommend turning to the greatest philosopher ever for a little employment advice. You see, when you do work that you actually enjoy, you are a lot more likely to do that job well. And believe me, as an employer there is nothing more valuable than an employee who does his/her job well.

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