Nailing It...and Coming Clean

On Tuesday I wrote that the S&P should rally to 1500 and then retest to 1525-1550. We got the upside by Wednesday and on Thursday the market caved in a big way, following thru this am to a low of 1430. Prices have reversed and are now up 21bps to 1456. There are parts of me that want to believe that the correction has retested its lows, held, and is now working on its recovery.

However, what has occurred in the financial markets has been dramatic. The question is did they overdo it or are they just getting started? Is the Fed & the ECB injecting billions in liquidity because the markets have lost a sense of reason or are they in worse shape than thought? The answers are not easy to come by today. Initially my view was the the mortgage mess was isolated to the US and would have no impact on, e.g., China and India (et al) industrializing. But, is the revelation that a French and a German bank both got stung by subprime mortgages a little more of the iceberg or is it isolated? If banks globally pull back on credit and lending then in fact global growth could begin to slow.

Or, is this just a typically nasty securities markets correction that overwhelms the crowd and makes them lose their grip on the real story: phenomal global growth due to the introduction of free market systems to billions of people and the ensuing demand for numerous products and services. Thats the story that will, in my opinion, come back and dominate the longer term direction of market prices.

In the short run however this correction has been a backbreaker. Numerous stocks gapped down HARD and found no bottoms. Big winners in mid July are now down on the year. Admittedly, GCM's portfolios surrendered more of their gains and outperformance than we would normally expect to. It would be easy to surrender to pressures, sell out, and start the portfolios over. That would only be a smart move if the markets dropped sharply from here. In my experience, when the fear is thick the risk is actually lower than the street thinks. It could be wrong to go against that but the probability is that is where we are in the cycle. Of course we won't know that for several weeks but GCM's approach is to hold the cash thats in the portoflios in case another shoe drops, sell broken stocks since they no longer fit our mold, build the buy lists and wait. Wait for the market to stabilize, retest the lows some more, and show direction. The benefit of a correction is that finding winners actually becomes easier and that is largely how we are spending our time here. We can't do much about the last 3 weeks but we can do everything possible to make the rest of the year as successful as most of the preceding period.

Its not the first time and it certainly wont be the last that markets fail to move in straight lines.

Increasing Volume Over Several Days With Minimal Price Change...

...often signals the end of the move. Over the last week+ there have been large price swings on significant volume yet the market is about unchanged. Given the headlines about the credit markets we have had a mini panic on our hands. Is it over or just beginning? Any one with a phone has had every opportunity to sell stock and go to cash to avoid the pending disaster. With that in mind, the market is down just 5% off its peak, nearly unchanged for the last 8 sessions. If things were so bad I don't believe the market would have rallied today off the Fed's announcement. I would like the think that sellers have done their thing and this little storm is over. That's probably not the full story as there should be another shoe (or two) to drop. But, the bears had every opportunity to break this thing and that didn't happen. Now its the bull's turn.

Looking at stocks, there are many crosscurrents and some of our favorites are still stuck in a rut (MTW, CI, PCAR, MAN, OSG, to name a few) and may be sold as the correction has taught us they are no longer right for our portfolio. Others like PCLN, DECK, PCU, AAPL, RIMM, DHR, MCD, LYG, T, STRA, & SBS to name a few, are already in recovery and repair. And our focus on newer names is on stocks that largely ignored this correction. As always, we remain more focused on our stocks than the market, as it should be.

In the short term I would expect an S&P rally to 1500 and then a retest of the 1425-1450 lows. Should they hold expect higher prices. But first things first...