While forecasters predicted Hurricane Sandy
would be the worst storm in New York
history, many people did not prepare adequately.
OK, to be perfectly honest, I did not prepare adequately. In response to my New England-born wife’s
question posed before the storm, “Shouldn’t we buy a generator?” My response,
“Generator? Who needs a generator?” will probably rank as one of the more
egregious on my Clueless-Man-Responses
List, just ahead of #6 “No, I know
where I’m going, I don’t need a map,” and just behind #4 “Anniversary? You mean today?”
In my (and my wife’s) quest to understand the
Clueless-Man-Responses List and why it continues
to be populated, I did a bit of research.
Turns out that due to a mental mechanism called the “projection bias,”
people’s intellectual assessments
of a danger (“worst storm ever”) conflict with their emotional experience (“I’m fine right now, those forecasters must
be exaggerating.”) In these scenarios,
most people go with their gut – “It’ll be fine, it always is.” As a
result, there is inertia in their preparations.
In fact, as I write this letter I am warm
and cozy (and a tad humiliated) at my wife’s parents’ house in Maine. A couple days without heat and power was enough
to turn us into storm refugees. Thank goodness for the kindness we’ve
encountered since the storm. One thing
I was impressed by after the storm was the tremendous goodwill and comraderie of neighbors in affected communities.
There is an 80% chance Obama will win next week’s election per the New York Times. So what does the election mean for financial markets? Uncertainty drives investors to the sidelines, creating pent-up demand. As a result, we could see a relief rally in the week following the election.
That said, the real political concern of
markets is the fiscal cliff at the
end of the year. Once the cliff is resolved,
probably earlier than expected, we could see a much more significant rally
ensue late this year and into next.
American economic growth and the housing market have momentum behind
the rebound.
In last
week’s newsletter we looked at the rise and fall of a trader who bet
against George Soros out of pride and ego.
The trader (Bob) resented that he was not a globally recognized top
trader. He lost everything in one
trade, declared bankruptcy, and was on the verge of suicide at
his lowest point.
This week’s newsletter explores the psychology of redemption. Bob followed a set of principles to pull
his life back together that can be used by anyone in a slump or stuck in an
emotional rut. We also take a look at
a company (RIMM) and an industry (Coal) in a rut, and we analyze how and why
investor sentiment about these two may indicate a positive reversal is
near.
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Recent Press
Press about the launch of our Thomson Reuters MarketPsych
Indices:
“Thomson Reuters
Wins Best Use of Social Media in Trading and Technology at Financial News
Awards.” Oct 6, 2012. The FINANCIAL.
Michelle Price. Oct 8,
2012. Financial News.
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Bob Hitting Bottom
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“The word "forgive," according to
the Chambers Dictionary of Etymology, comes from the Old English for-completely + giefan-GIVE.”
Bob didn’t hit bottom in a dramatic fashion. As he tells it, he looked in the mirror one morning, and he spied a foreclosure notice out of the corner of his eye. He looked directly at himself in the mirror and thought, “Who is this guy I’m looking at? I don’t like him! That’s it, I’m done.” He thought of the jerk he had become, and he figured that suicide may be the best amends for his sins. Bob went for a walk that morning, pondering whether to end his life. On the walk Bob bumped into an old trading buddy who had heard about his fall. The buddy invited him to an Alcoholics Anonymous meeting that night.
At the meeting Bob recounted his story and
was amazed that many in the room could relate.
He had spiraled downward driven by forces and compulsions he was only dimly aware of, yet many in the room
had parallel stories of self-destructive behavior. Like others in the room, Bob had poisoned
many of his relationships with ego-fueled ambition and narcissism. Bob realized that his life wasn’t just about
him. And as he looked around the room,
and listened to the stories of other alcoholics, he realized that he had hurt
many good people.
Bob went home that night made an inventory of
everyone he had hurt. He decided that suicide would be no use if he
didn’t at least try to make amends to these people for the pain that he had
caused them.
He first called his parents and apologized
for virtually destroying the family business.
He explained his realization that he was alcoholic and out of control. He apologized for past behavior and
volunteered to work 80 hour weeks for his family for two years in exchange for
room and board. Eventually they let him
come back to work in a minor capacity, but not without testing his sincerity.
As in the quote that
opens this section, in order to win redemption from a life of narcissism and
petty resentments, one must give
completely of himself. After his
fall, Bob spent two years working off his moral debts and maintaining his
sobriety. During this period he regained
some social support and mental balance.
With the blessing of his family, he left the business to begin his new
career in technology. Bob started and
grew his own technology company. He has
been sober for 15 years, and what’s more, he recently started a happy, healthy
family of his own.
We’ll
address what Bob did to get out of his rut later in the newsletter. But first, we’ll look at the case of companies
in a slump: RIMM and Coal.
Redemption Investments? RIMM, Nokia, and Coal
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RIMM management
has made a series of blunders that in any other industry besides smart phones would
not be so quickly fatal. But RIMM lost
brand credibility and has fallen far behind.
Nonetheless, 10%
of the global smart phone market is not a bad place to be if your customers
are loyal individuals (or inert corporate clients). Rumors of RIMM’s demise have been swirling
for more than a year and intensified this summer. But lo and behold, RIMM stock is rising from
the ashes. Is this a value-play or an honest-to-goodness
redemption?
Don’t
expect RIMM to recapture its former glory.
There has been open dissention and a loss of shared passion. See this open letter for
details. That said, the leaks appear to
have turned positive. These product development leaks show an
impressive pipeline. Given that
expectations are the driver of risk taking among investors (“buy on the
rumor”), we could see a continuing rally in RIMM shares until the new phones
are released (“sell on the news”).
We have
already seen increased Liking of RIMM by online investors. The green line in the chart below quantifies
the amount of Liking expressed about RIMM and RIMM products in the financial
social media from Nov 2010 to Nov 2012.
Note that Liking has risen substantially off its lows.
We are
also seeing that RIMM is re-emerging among its peers in overall Sentiment. Note that
Microsoft (MSFT) typically drags the floor in sentiment. Apple (AAPL), which usually rides high in
sentiment, had a serious sentiment decline this summer around its price peak,
and it is now below Google and RIMM in overall sentiment value. Meanwhile, Google surged in sentiment
following its July 19th 2012 earnings report.
In the
case of RIMM, a short-term redemption may finally be at hand. But the safest way to be involved is to buy
the rumor of redemption. For companies,
long term redemption is nearly impossible.
Remember Nokia (NOK)? Amazingly,
the one year Fear and price chart on Nokia looks incredibly similar to that of
the Coal industry, below.
The coal
industry has been down in the dumps lately due to falling Chinese demand and concerns
about climate-related regulation. “Sandy”
is again focusing attention on the human consequences of greenhouse gas build-up,
as this
Bloomberg cover testifies. There
has been a recent price surge in Coal.
Whatever the cause, the long-term outlook for the coal industry is negative
in the U.S. In the image below there is
a recent surge in Fear (green line) in the Coal-industry ETF (KOL) to
multi-year highs as the U.S. election approaches, the stock prices hit new
lows, and more utilities turn to natural gas.
I’m not
endorsing a long-term coal investment.
But from a contrarian point of view, coal is certainly interesting. And some U.S. stocks like BTU have good cash
positions and are exporters.
Is
“redemption” likely for the coal industry?
No. Coal is a chief culprit for
global warming and mercury in seafood, and it’s unlikely to become less
regulated or more favored anytime soon.
Redemption is not easy for companies, and
likewise it is not easy for individuals like Bob. That said, as individuals we have more
control over our individual destinies.
Investor Slumps
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Just as with athletes, investors will eventually,
and often repeatedly, experience slumps in performance. On the psychological level slumps dent confidence, paralyze decision making,
and impair risk assessment. During a
slump personal balance is lost, and impulsive risk-taking alternates with paralysis. On the biological level, negative feelings
are seared into the amygdala, changing how we remember, assess, and respond to
future risks. The long-term consequence
of a deep slump is a kind of financial post-traumatic stress disorder (PTSD) in
which our decisions about risk can become permanently distorted. For someone like Bob, alcohol and cocaine
numb the despair associated with a slump.
But these chemicals also biologically impair resilience mechanisms,
resulting in a steep downward spiral of interrupted sleep, impulsive behavior,
and an eventual blow-up.
Once in a slump, climbing out is not quick or
easy. There are two analogies applicable
to investors in a performance dip, one from baseball and one from golf. Ted Williams of baseball fame once said the
key to great hitting is to wait for your pitch.
Baseball success is associated with a rapid assessment of the ball’s
trajectory and a snap judgment of “yes” or “no.” But unlike baseball, a golf ball waits for
you to hit it. As a result, golf is
about deliberation, practice, and precision. Tiger Woods took a year off professional golf
to readjust his golf swing. The key to
getting out of a slump is to climb out one successful trade at a time – one perfect swing at one perfectly placed
pitch – to rebuild confidence and motivation.
Working out of a slump requires 1) accepting
the slump for what it is, 2) focusing on what works in the current environment,
3) jettisoning what (and who) doesn’t help, 4) readjusting your perspective to
one that supports profitability, and 5) waiting for YOUR PITCH. Unfortunately for resentful investors, it is
situations like this year – when markets rally on persistent gloom – that they
are again traumatized. As a result most
investors have been missing out on a
bull market.
So how do we stay
flexible in today’s volatile markets?
Staying Flexible
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Mental
adaptability
is the most significant trait behind investor success that we’ve identified in
our online personality
tests. There is a method in the
challenge of climbing out of a rut, and it is rooted in using your mental
flexibility to ask good questions and try to see things differently than the status
quo.
If you’re in a slump now, get out a pen and
paper and go through the following steps for yourself:
1.
Admit
you are struggling. It’s OK to
struggle. Everyone struggles at times --
it’s called life. Write down what you are struggling with.
2.
Now
look back at your biggest failures
in the past. How did you fare
afterwards? Odds are you rallied
back. That wasn’t an accident. You were able to find the strength within
and/or take advantage of help from others.
Can you identify what turned it around for you? What did you do to speed up the comeback?
3.
Now
think about today. Where have you been
getting bad advice, useless information, or suffering from negative influences?
4.
Then
look within yourself – which habits of yours are keeping you muddled: Bad sleep habits? Alcohol use?
Not exercising regularly? Family
or co-worker conflict?
5.
In
your investing, figure out what is
working for you or others in the current environment. Write it down in detail. Then look at what you are doing that isn’t
working, and ask yourself, how can I do more of what is working and less of
what is not?
6.
Now
look at your current investments. List objective factors about them. Identify the investment convictions you hold
and be clear about how your convictions could be proven wrong – price action is
not the best proxy, but changes in fundamental conditions are.
7.
Feedback
in investing should be around the process, and sticking to the process, not outcomes. Make sure you evaluate your thesis on
long-term, not short-term, outcomes. And
keep in mind that a bad economy does not necessarily mean negative asset
returns. Write down your process, and
look for how it can be improved.
The guidelines above are not a silver bullet,
but they should provide a solid start.
Next week we will explore
how to read the indicators of when a company, country, or investment has what
it takes to pull out of a slump…
Trading Recap
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Trading recap from last week: Buy on AMD was wrong, as AMD dropped about 1%
from the week’s delayed open. Short on Apple
(AAPL) was correct, as AAPL dropped about 2.6% from the week’s delayed
open. Mild long on S&P 500 was
wrong, with a 0.3% loss from the week’s open.
Week ahead:
We’re still seeing a mild buy on the S&P 500 this week, which may be due to pent up tension due to
the upcoming election. We’re also seeing
a one-week short on Netflix (NFLX) due
to lots of love following a good earnings report (overreaction), and a one-week
short on Exelon (EXC) which despite
a recent price drop, is seeing signs of denial
among investors who continue to like the high dividend and low P/E ratio. (See Disclaimer below).
Housekeeping and
Closing
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We recently launched
the Thomson
Reuters MarketPsych Indices for monitoring market psychology for 30
currencies, 50 commodities, 120 countries, and 40 equity sectors and industries
in social and news media.
In the next month we
will be speaking in New York at Quant
Invest and our Chief Data Scientist, Aleksander Fafula Ph.D., is
speaking at Predictive
Analytics World in London.
We have speaking and training
availability. Please contact Derek Sweeney at the Sweeney Agency to
book us: [email protected], +1-866-727-7555.
We hope you found the
letter this week interesting and useful! We always love to hear your
thoughts and suggestions for future newsletters, so please don't hesitate to
reach out.
Happy Investing!
Richard L. Peterson, M.D. and The
MarketPsych Team
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