What are investors thinking? Since the new quarter started the S&P 500 index has dropped 61 points or 4.3%… what change so far in the second quarter versus the run up in the first quarter? We can talk about oil and gasoline prices and their impact, the slow economic data over the last four weeks in the US, the renewed concern relative to Spain’s sovereign debt, the geopolitical issues in the Middle East, and more. But, the underlying issue is investor confidence and uncertainty. The list of concerns is growing and when concerns take on the appearance of reality, money heads for the exits. Some will say it is market timers and that the long term investors is holding with the understanding that everything is fine. The truth lies somewhere in the middle as investors and traders alike hate uncertainty and it leads to making short term decisions to protect principle, rationale or not.
I was reading analyst reports and scanning the headlines the last couple of days and the shift in attitude is evident. Whether the outlook is short term or long, one central theme has raised to the top again… worry. Worry is one of those emotions we are all told to avoid. Nothing good ever comes from worrying. In fact, we are told to do something about it now if we can or at the least work towards what we want as an outcome versus worrying about what might happen. Investing is a tug-o-war of emotions and logic. We can study the fundamental or technical data ad nauseum, but emotions will play head games with the actions we must take to achieve the outcome of our logical study. That is where many of us find ourselves now… acting on what we have determined relative to our logical pursuit of investing success.
I have talked with investors over the last few days about stops and how to set them, etc. Despite the understanding or logic of using stops to protect our downside risk, the emotions of actually setting one keeps many from ever embarking on the actual task. Our compromise is to use alerts or “mental stops”. Last time I checked those don’t actually execute when hit. You have actually added to the emotions of the process by the alert sounding or the “mental stop” being hit and you have to type in the sell order. This process is much like setting your alarm clock at night and when it goes off in the morning dealing with the emotions or stress of getting out of bed. We will goes so far as to set our clock ahead fifteen or twenty minutes so we can hit the snooze alarm. Emotions are hard enough to deal with every day under normal circumstances, adding stress to the equation only expounds the emotional process. My suggestion is find what works for you and act on it. If you need to set alerts on stocks to tell you to sell versus setting actual stops, find a way to make the process work for you, but make sure it works! Don’t forget that trading/investing is all about discipline and finding a strategy that works for you. Plan your exit points and a course of action that works for your emotional psychology.
That said, we have hit most of our stops and we have a large position again in cash. We took some short plays to hedge our portfolios against a decline and our stops have been raised to protect against an emotional swing back to buying. I dislike markets when they become irrational and volatile. I understand that, and invest accordingly. We see opportunities building across the sectors, but we have to be patient and let them develop. For now cash is a sector we like and are willing to hold.