Thursday, December 9, 2010

Financing Santa Claus

It’s no secret: the December holiday season has been commercially exploited in a big way. Every year we hear reports of how much money consumers are spending on this or that product or gift. Those few gentle souls who still value the spiritual aspect of Christmas often express their disapproval, feeling that our spiritual lives are somehow diminished by the crassness of buying and selling. But in the godless world of Santa Claus finance, commercial salvation is all about dollars and cents.

This is the annual pattern:
1. Autumn of each year: consumer buying starts to heat up.
2. December of each year: consumer buying accelerates into Dec 24.
3. December 25: one Day of Rest.
4. December 26: Boxing Day sees the annual climactic fury of commercialism, crowded stores chock full of frenzied shoppers.
5. The shopping action drops off for the remainder of the year and the January sales begin.
6. Shopping activity tapers off as spring draws nearer.

Retail shop keepers know this repetitive annual pattern and try to line up their businesses to take advantage of it. And because it happens every year, we all have the opportunity to do the same thing; to line up our personal spending so as to take advantage of the holiday consumer spending cycle.

This seasonal shopping phenomenon also occurs in the stock market. Analysts like Don Vialoux and Brooke Thackeray have written extensively about the seasonality phenomenon. They co-manage an exchange traded fund using seasonality in the stock market as their profit-generating edge. (Symbol HAC). But there is another way to use seasonality to enhance your stock market success. Do what squirrels do.

They Can’t Count the Days
Squirrels can’t read calendars. Yet, somehow they know when to gather nuts. No one warns them that Christmas is coming, but they somehow gather nuts at the right time. Not a single squirrel has a financial plan that tells them to save nuts for the winter. But, somehow, the nuts get saved.

I’m not suggesting squirrel-worship here. Squirrels are quite stupid. Yet, stupid as they are, somehow they know what to do and when to do it. Let’s try to imagine what causes a squirrel to start harvesting nuts every autumn. Maybe there’s something in the world of nature that can help us collect more financial nuts our human world.

The Acorn Model
Squirrels gather nuts when they see them. No nuts, no gathering. See the nuts: gather the nuts. It’s that simple. When they see nuts, they gather them. Observation - action.

Let’s try the squirrel’s tactics. In the investment world, what are we looking for? And when we find it, what should we do?

In the arena of the stock market, the equivalent of “nuts” is “frenzied buying”. When we see frenzied buying of stocks, we should sell. It’s frenzied buying that we should look for. Squirrels act when they encounter lots of nuts. We should act when we encounter frenzied buying in the stock market.

In shopping malls we easily observe the frenzied buying of consumer goods: we see it every winter. But it’s not so easy to spot in the stock market.

Remember Y2K? In January 2000 the stock market had been going up for years. Every month some hot new high tech stock would jump to a huge premium: they called it the Dot Com Craze. Now bankrupt, Nortel had become the biggest company in Canada, accounting for 1/3 of the capitalization of the Toronto Stock Exchange. Some offices of TD Bank’s discount brokerage subsidiary had to close down for a short period: they were unable to process all the new accounts that novice investors wanted to open. That was frenzied stock market buying. About two years later the stock market had dropped 45%.

Remember 2008? – The price of oil hit $150 a barrel. Gold hit $1000 an ounce. Potash and copper were red hot commodities. That was a resource stock frenzy. After that frenzy, the Toronto Stock Exchange dropped in half in nine short months.

Remember back in 1981 when crazed investors lined up outside the Bank of Nova Scotia to buy silver? That was frenzied buying in precious metals.

Whenever you see investor frenzy, sell your stocks and squirrel away the cash.

It’s just like the shopping frenzy we see every Christmas: both Boxing Day and stock market frenzy mark the end of the cycle, not the beginning.

In my investment book, Beyond the Bull, I encourage independent investors to develop their own investment techniques. An investment technique has two parts: (1) look for a specific economic event, (2) react to it in a pre-planned way. That’s what squirrels do when they hoard nuts. That’s what retailers do as Christmas approaches. And that’s what investors should do too. The specific event investors are looking for is a stock market buying frenzy. And the pre-planned reaction is to sell your stocks and squirrel away the money.

Stealth Frenzy
Should we be gathering our nuts now? Is this a time of frenzied buying? Where are we in the cycle?

The particular cycle we are currently in, featured “frenzy-bordering-on-madness” in the US real estate market. From 2003 to 2006 anxious buyers clamoured after houses, paid for in part by sub prime mortgage loans they couldn’t afford. And in 2008 it all came undone. Real Estate Boxing Day has long since passed: US house prices peaked a long time ago. And in the complex world of finance where everything is connected to everything else, the consumer-driven economies of North America are nearing Financial Ides of March.

Stock Market Boxing Day has long since passed too. Optimistic economists are already forecasting the return another fabulous season of unbridled consumerism. But it’s way too early in the cycle for that. We are still in the down part of the cycle. US real estate, consumer spending and the US stock market are still in the post-frenzy cool down phase.

Secondary Frenzy
In the stock market, the frenzy-generating emotions of fear and greed come in waves. The market moves in zigs and zags, not in smooth gradual transitions. In 2008 and the first few months of 2009, the market zigged down. From March 2009 to now, it has zagged up. We are currently seeing signs of a mini-frenzy in the stock market. There are more bullish investment advisors now than any time since the March 2009 lows. Junior stocks are significantly outperforming blue chip stocks. These sign posts warn of a possible stock market buying frenzy this winter. Those readers who still own lots of stocks should get ready to sell your stocks and squirrel away your money until the down cycle ends.

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