To buy or not to buy

This is the second time in just a few months where the market has crashed and our STOP strategy did not work. I use STOPs for 2 scenarios.
First, stock specific bad news that gets me out with less damage.
Second, to take advantage of pullbacks. Basically sell and then buy back in a bit lower

The problem is that I have to be watching the market to follow through on the buyback. And I have been unable in October and November to have that daily focus.

So I missed the rally last week and at the same time we got hit with the sell off. On the other hand, I feel really really good about the strength of my picks.

Now, on the positive side, many of our stocks have recovered and more. ATW, for example, had earnings last week that, as I expected, would trump expectations.

Bottom line, I have confidence in my stock picking but my STOP strategy is not functional given some outside commitments. So for now, I am not going to use STOPs but I will offer them as guides for those who do use them.

As you can also see, I have not bought back in yet. Last week saw a very nice rally but I don’t know if this is a reversal or more of a response to overselling. The key motivator was interest rates but I suspect there was also an awareness that things were oversold. Does that translate into a bull market? Perhaps. But for how long?

I see 1 strategy here, based on interest rate cut expectations, proposed changes to the mortgage lending and the imminent earnings announcements.
1. Interest rates will be cut – This is already largely baked in to the current market. Limited upside
2. Interest rates won’t be cut – This would sink stocks. Huge downside.

The market expects an interest rate cut and indeed Bernanke seemed to feed that expectation last week when he said that the Fed needs to be nimble. What he is seeing is a massive liquidity crunch on a global scale. Did you know that inter bank lending rates have shot up an extra 0.5%. Banks are having to get cash to cover loss reserves, and they must borrow. Everyone borrowing at once makes for a run-up in lending rates. Dropping interest rates will help to ease the pain.

There are signs that under normal conditions, another rate cut is suspect.
* The economy is strong
*GDP is raging: Q2 was 2.8% and Q3 was raised to 4.9% from the previous preliminary 3.9%

* Forecasted growth through next year is 2%+

* Inflation is showing up. October CPI was 3.3% and 2.2% excluding food and energy. This is after very low interest all Summer and into Fall.
* Fed Governors are not supportive of a cut
*Gov Kroszner just said that he is against a cut. He also pointed out that October CPI surged 2.2% - the highest in a year. (It was 3.3% including food and energy). Cutting rates tends to be inflationary
*Fed Governor Plosser is also against a rate cut even if the economy starts to slow.
http://query.nytimes.com/gst/fullpage.html?res=9D01E1DF173BF934A35752C1A9619C8B63&n=Top/Reference/Times%20Topics/Organizations/F/Federal%20Reserve%20System
· The last cut was not unanimous
o Governor Hoenig voted against it
o Only 6 of 12 governors requested it
o Only 9 governors voted for it

The emphasis being on normal conditions. The last cut of 0.5% was not based on economic performance. It was entirely related to the banks’ liquidity crisis. That crisis has not gone and it has – in fact – spread to other countries.

Until this gets resolved, takeover and merger activity is on hold. And that’s a positive waiting to happen.

So the Fed may be willingto cut now to smooth the bank crisis and then reserve the right to reverse direction if inflation shows up. Naturally, it will but the Fed will do nothing. In fact, the crisis will only spread because the mortgage market is $1T in losses over the next year. Rate cuts ease the pain but nobody can swallow that much pain without suffering.

Another positive factor supporting stock prices is the potential of a proposal to the subprime crisis. On the face of it, any solution will calm the market. But don’t forget that at its heart is a political solution to a market problem. In other words, it won’t solve the problem but it will ease some of the pain. This being an election year, that matters to some folks.

A final positive factor is that the 4th quarter ends in 4 weeks. As I’ve pointed out before, funds tend to buy in as the quarter ends and visibility starts to improve.

The way to play it would be to be bullish for a week and prepared to jump out if Bernanke does not deliver.

I’ll post the current portfolio and performance later. In the meantime, we will be buying in today or tomorrow. Stay tuned.