TANGERINE TECHNIQUE

One of my gurus’ taught me this technique, for some reason I haven’t been using it like I used to. I hope to start using it again.

 

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Welcome to Genius Sparks from Paul R. Scheele ************************************************

 

The concept of mind over matter is a fascinating one. It can explain such phenomena as how objects move telekinetically in a research lab to how humans achieve feats of greatness in the face of unimaginable pain.

 

And mind over matter is about to go mainstream.

 

Brain researchers and toy developers alike are using biosensors with computer interfaces to measure electrical impulses in the brain and decipher and interpret actual mental states such as attention and meditation.

 

In fact, two competing toys aimed for the market later this year will challenge the user, wearing a simple sensor, to focus their concentration to levitate and move a ping-pong ball with their thoughts.

 

The ability to measure and monitor the brain’s electrical activity isn’t new. I remember when I first used an electroencephalograph (EEG) years ago while PhotoReading, which uses both the left and right brain hemispheres—the whole mind—to mentally photograph the pages of a book.

 

The computer immediately registered a decrease in conscious, analytical brain wave patterns and a corresponding rise in deep learning brain wave patterns. It convincingly demonstrated to me the power of training to get into state for learning.

 

Human brain waves normally operate in a range of frequencies from 1 to 30 hertz, or cycles a second. Smaller frequency modes within this wider range are associated with a variety of brain functions or capabilities.

 

These modes are like “brain channels,” similar to television channels. At each of these channel settings, different personal resources are available to you. The slower brain frequencies are associated with remarkable powers, seemingly miraculous to those who use the faster brain frequencies of the conscious mind.

 

Just as you change channels on your TV, you can change your brain channels to tap more of your mind’s full potential.

 

Simply get into a state of relaxed alertness, the ideal state for reading, learning, or performing any mental activity. You can easily do so with the “tangerine technique” from our PhotoReading process. Here’s how:

 

• Hold an imaginary tangerine in your hand. Experience the weight, color, texture, and smell of the tangerine.

 

• Gently close your eyes and place the tangerine so it delicately balances on the top, back part of your head. Touch that area gently with your hand. Become aware of the feeling. Now, imagine that tangerine floating up and behind your head, 6 to 12 inches. • Imagine your field of vision opening up.

 

• Maintain the relaxed feeling of alertness as you open your eyes and begin your desired activity.

 

Use this simple technique anytime you want to quickly access your vast brain power—even if just to keep a ping-pong ball floating in the air!

 

http://www.LearningStrategies.com/PhotoReading/DeluxeCourse.asp

 

 

 

RISK DASHBOARD

Beta adjusted
Long GROSS	0.0%
Short GROSS	100.0%
Gross Exposure
Net Exposure	-100.0%
NAV
Leverage X	0.67
$ mkt exposure	-66.9%

 

BEAR SQUEEZE

This has been a bear squeeze of note, I am starting to think with this blow-off and the fact that DSI-sentiment on the Blue Chips has matched and exceeded the August 2007 highs that this may be the end of all of wave 2. If so this is incredibly bearish and I will need to keep vigilant to see how the selloff develops. For now I will still treat it as a pullback for further highs, but I am dropping my confidence in this count to around 55%.

LAND SECURITIES

I may need to cover my Land shorts on weakness as I am not sure if there isn’t another high to come in this bounce.

We are near a short term pullback

 

GOLDMANS PROFITS

I have a hunch, call me a cynic but a lot of the $2.7b trading profits Goldman recorded in its recent 2^nd quarter are likely to turn into losses during the 2^nd wave downturn in the markets.

I know nothing about which markets they trade in, but I have a hunch a lot of the profits were marked to market in a very dicey environment. If the same m-t-m principles apply in the leg down watch these boys go from hero to zero.

SENTIMENT DIFFERENT TO FUNDAMENTALS

Another example of how people behave as survivors.  People living in South Africa no doubt see a worrying big picture. They see rampant crime, a criminal justice system floundering, unemployment too high, an economy in recession, a brain drain, etc. Yet with the recent Confed cup a renewed enthusiasm towards the country is to foot. This weekend the country enjoyed the unity and goodwill from Mandela turning 91.

 

This is another example of how human emotion waxes and wanes despite the facts on the ground. People have a need and hope to survive this manifests with spikes in optimism.

HUSSMAN ON REACTING

July 20, 2009

Tending Seeds - Reacting, Responding, Planting, and Watering

John P. Hussman, Ph.D.
All rights reserved and actively enforced.
Reprint Policy

In recent weeks, I've emphasized the very mixed nature of market conditions, which regardless of longer-term headwinds, remain very ambiguous regarding near term direction. For investors, the shifts in trend and the lack of clear direction create some difficulties, particularly for those who tend to react rather than respond to market fluctuations.

For our part, our focus is to ask the same basic questions every day – “What is the opportunity,” and “What is threatened?” We rarely have any sort of forecast for the market, and certainly don't have short-term forecasts here. Instead, we are responding to market fluctuations as they occur. For example, in response to last week's powerful rally, which brought the market again to overbought conditions, we took profits on the index call option position we established the prior week, and moved back to a fully-hedged investment stance. I certainly don't know whether that shift will be “right” in this instance, but it is the appropriate response from the standpoint of our investment discipline. Meanwhile, we continue to focus on individual stocks demonstrating favorable valuation and market action on our measures, with an eye toward buying higher ranked candidates on short-term weakness, and selling lower ranked holdings on short-term strength.

The distinction between reacting and responding is one that I've emphasized often over the years. To react is essentially to change one's plans abruptly based on what the market has just done – usually involving a certain amount of panic or worry that essentially forces one's hand. In contrast, to respond is to take the most recent market move as a piece of information, and to change the investment position accordingly, following a very specific discipline (ideally which allowed for the move in the first place).

For example, a reactive investor tends to reverse existing investment positions only when provoked by pain. Investment positions are sold when they have declined enough to trigger fear or panic. Investment positions are purchased in a rush to “catch” or “ride” them. My impression is that the single best mark of a reactive investor is the tendency to measure investment success by the amount gained or lost on any particular day. In contrast, the investor who responds puts much more emphasis on daily actions than on daily outcomes. That doesn't mean ignoring outcomes, but it means following a specific, well-studied discipline with the expectation that the results will emerge through repeated application. As usual, those results are best measured in terms of long-term return and risk over the complete market cycle.

As I wrote years ago in Force of Habit

"Over the years, I've written a lot about “daily action.” You decide on a set of actions that you believe will lead to good results if you follow them consistently. Then you follow them consistently. Unless a goal translates into daily, present action, focusing on that goal is simply a way of escaping reality. As Jean Paul Sartre wrote, “Je ne suis rien autre que mes actes” – I am nothing other than my actions.

"If an investor consistently takes positions based on forecasts, and changes those positions only when the market proves those forecasts wrong, that investor's life will predictably be dominated by hope, uncertainty, disappointment, reaction and frustration. If an investor constantly takes positions by responding to opportunities and conditions as they develop, with equanimity to what will happen next, making a habit of purchasing favorable value or early strength, and a similar habit of selling overvalue and early weakness, that investor's life will most probably be dominated by a sense of peace and control. Though it is not obvious which investor will have better results, my own opinion on that should be fairly clear.

"This doesn't mean that an investor who responds – rather than reacts – will know what will happen next. Rather, it means that this investor will be able to accept what happens next, knowing how to respond whatever the outcome. The point is to live in reality, and to take the next action from where one stands, without ignoring inconvenient aspects of reality in the hope of justifying one's position, and without wishing for the starting point to be somewhere else. The greatest source of human frustration is the desire for reality to be something other than it is.”

In short, as Robert Louis Stevenson wrote, “Don't judge each day by the harvest you reap, but by the seeds you plant.”

Tending Seeds

If you'll forgive the discourse (and at the risk of wandering a bit afield), over the years I've found thinking about the world from the standpoint of seeds to be enormously helpful. My friend Thich Nhat Hanh puts it this way:

“Consciousness is said to be a field; a plot of land in which every kind of seed has been planted – seeds of suffering, happiness, joy, sorrow, fear, anger, and hope. The quality of our life depends on which of these seeds we water. The practice of mindfulness is to recognize each seed as it sprouts, and to water the most wholesome seeds whenever possible.”

The basic idea is that, confronted with a whole host of seeds in our daily lives, the ones that we water will generally (though not always) be the ones that grow. So if we tend and water the negative seeds; worry, anger, disappointment, fear, and so on, the energy we put toward those seeds will tend to make them grow and become very big in our daily lives. If instead we tend and water the positive seeds; friendship, gratitude, discipline, peace, and happiness, then those are the seeds that will grow. That doesn't mean walking around like a Polyanna (which is unlikely for a crusty skeptic like me), but it does mean that there is some tendency, however imperfect, to reap what we sow, even just by what we choose to habitually think about. As the Buddha said, “with our thoughts, we create our world.”

To take this back to the practice of investment, it's clear that an investor who constantly waters a particular seed – fear of being wrong – will be forced into a particular set of daily actions, specifically, the investor will tend to hesitate when faced with opportunities that require deliberate, active choice, and at the same time, the investor will panic to adjust the investment position in reaction to every significant disappointment. While those adjustments can very well be rewarding when the market is running in a very clear direction, it is more generally a recipe for buying on strength and selling on weakness, and the cost of doing that on a repeated basis will tend to whittle down returns over a long period of time. Investors who tend the seeds of greed tend to reduce their returns more quickly and often spectacularly, but not without some amount of excitement and victory first. Tending and watering greed translates into the daily action of looking for improbable outliers and long-shots, and of accepting far more risk than can ultimately be tolerated.

But there are all sorts of other seeds to water. An investor who waters the seed of curiosity will not be content with investment platitudes and will stare at lots of data to figure out what actually works in the markets, and what the pitfalls are. An investor who waters the seed of discipline will emphasize consistency and persistence over one-off decisions and attempts to “make a killing” on a particular trade. Tending the seed of patience, on the other hand, can be either a help or a hindrance, depending on whether it is coupled with sober analysis or instead with blind hope. Patience, coupled with discipline and analytical curiosity, is not a bad combination of seeds from my perspective.

All of this may seem silly or simplistic on its face, but the reason for spending some time with this idea is that it can also be very powerful in re-orienting your actions and perspectives. It's worth the time to ask which seeds you habitually plant, tend and water, and what you expect them to grow to become as a result. This is true for investing, and isn't completely removed from relationships or parenting either.

Seeds not planted or tended by choice tend to be weeds, so at least for me, it's very helpful to consciously and periodically choose which seeds I want to water, and to think through what I expect to happen from that watering. Investors can spend a lot of time and energy reacting to the latest bits of news and trying to predict the next surprise, rather than choosing a consistent set of daily actions that they can carry out as things develop, regardless of how they develop.

 

HOW DO WE RECONCILE ALL THE OPTIMISM IN THE FACE OF DIRE ECONOMICS WOES

Currently the world financial markets are undergoing a remarkable spike in positive sentiment, with many of the most vocal bears becoming reformed bulls.

The question the bearish camp are probably asking, and I am one of them is, “what happened?” “did I miss something?” To add fuel to this burning stock market rocket the earning season has begun with a Watusi and Asian Economies are suddenly showing statistical signs of economic life.

 

So let’s try and understand whether the bears have it wrong and the worst is over, or are we just going through a phase in the bear cycle. I was having a cup of coffee a short while ago, and I thought the following analogy may explain some the more recent bullish behaviour. But before I begin I must add I have been working for months on a hypothesis that time perceptions create a kurtosis in the symmetry of the zero sum gain certain market theories support and lies at the heart of my analogy.

 

After looking for a home for more than 6 months Brad finally finds his dream home for his beautiful and large family. Brad and Angelina are keen to step things up a bit from their existing 8 bedroom home and their interest lies in a 10 bedroom mansion overlooking the Sydney Harbour bridge in prestigious Point Piper. Brad realises that he will need to step it up a bit to meet the monthly mortgage repayments as this is a whole new league with a hefty price tag of $30 million.

 

After gorgeous Angelina has called all her friends to tell them about her new home and the beautiful parties she will be having for the crew, Brad sits down to do some hard financial analysis. Actually Brad is not a numbers guy so he calls Abie his trusted accountant and says, “Abie come on over, we need to go over some figures.” Unfortunately for Abie it wasn’t the kind of figures he was hoping for as Brad had been told by the government to cool it with his extra-curricula activities.

 

The picture starts becoming clearer, Brad is good for $20m and he will need to borrow $10m which at the current interest rate means he will need to repay $50,000 per month for the new home. Brad is a resourceful kind a guy and although he isn’t working right now he is sure he can make it all happen. The day for settling the purchase of the new house looms, and Brad is feeling the heat. No it isn’t the Sydney moist summer heat, it is the heat from the bank over how he is going to pay them back every month when he is in semi-retirement. To add to his financial woes Brad still needs to come up with the $20m down payment, and he is having difficulty laying his hands on it. Not because he doesn’t have it but because a lot of it is tied up in investments that have stiff penalties should he wish to exit early.

 

Brad is starting to wonder why he got himself into all this stress as he was renting a most beautiful apartment on the North side of the bridge and he was sitting on a pile of cash in the bank. As quickly as he thinks about his reasoning he sees the beautiful Angelina and the 5 kids and he knows he has made the right choice. After a couple more weeks of hectic administration Brad and Angelina pick up the keys to their beautiful home having settled the purchase price to a former investment banker who has now had to sell his house to pay for his margin calls on the stocks he had been buying without telling his wife.

 

Brad has been cautious on advice from Abie and he has stashed a quarter of a million dollars in an account to cover the mortgage repayments for the next 5 months. It is all happy days in the Brad and Angelina household, the parties start rolling and before long all the socialites in the Brad and Angelina circle are having function after function at this most magnificent address, even Brad has forgotten about the stress that he had encountered in making this dream happen. It is simply happy days and Brad is very forcefully shutting out of his mind the fact that 4 months have elapsed and that with all the entertaining and jet-setting the cash resources in the household were fast depleting. A further concern was that many of Brad’s investments in other assets which he had hoped to live off for a while if not until he died were starting to turn sour.

 

In essence Brad now owned a house for $30m but could be worth closer to $25m as he was an eager buyer and pushed hard for the deal to happen, and the market had suddenly changed. His other investments were not worth what he thought they were and his cash flow was looking extremely anaemic. This story of Brad and Angelina continues in cycles of fear, resentment, hope, anger, joy, etc, for the life of their ownership until they have either paid the house off in full, or to an affordable level, or sold it and downgraded to something they can afford.

 

I believe this story is symbolic of the current financial crisis. Just like Brad secured a 5 month kitty, he was then able to dismiss the dire state of his finances and proceeded along normally, actually very happily. It wasn’t a lie, for Brad the reality was all was well over those 5 months, he wasn’t thinking beyond so his reality was positive. Again things took another bad turn for him he was able to dig deep and come up with a nice little deal that bought him another 2 years, and so the cycle continued. Yes the bears have painted a bleak picture and yes the economy and the world financial markets stare down an abyss of horrible consequences, but Brad and his counterpart society at large are resourceful and resilient and will continue to fight hard for their investment.

 

As bears we need to accept that in terms of our perception of reality which incorporates the entire picture which may take 10 years to fully unfold, there will be many periods of lucky deals that provide grease for the machine to continue ticking over and the system to appear sound. We need to roll with these waves of emotions and be ever vigilant to the fact that maybe just maybe this will be the one time that Brad either goes to the banks and says here are the keys or in facts sells it for half its purchase price.  

 

The forces driving our financial markets are groups of people and corporations each with their own perception of time. Some people involved with investments assess them hourly, daily, weekly, monthly, quarterly, yearly, etc; it is through the disequilibrium of these perceptions of time preference that cycles form into a reality that is diffuse from the underlying fundamentals, but is reflective of the overwhelming time preference of the dominating society at that particular point of overlap.

 

I look forward to making this all seem a lot clearer by setting it our more robustly in an algebraic statement.

 

Michael

 

 

FW: JUST SPOTTED THIS TODAY

 

By chance I came across this today, I found it quite interesting and leads on to my current thinking.

Mike

 

posted by americade on Tuesday 14 Jul 2009 21:58 BST

Peter J. de Marigny, DITMo Strategies / AMERICADE (14July09)

deMarigny: Classical Statistics, The NEW Paradigm

Any student of classical statistics knows better than to discard observations in a data series that are not outliers. For instance, to a clasical statistician "Sortino" is an abhorrent measure.

However, in physics there is a law large things (like Relativity) and small things (like Quantum Mechanics). In a macro form there is meaninglessness. In a micro form there are patterns that has recently given rise to the use of "FRACTALS." So as not to turn this into a technical mathematics and physics lesson, let's just focus on the idea of a "data series" that is the central focus of risk and portfolio measurement.

Professor Nassim Taleb is the author of "The Black Swan," a book about the likeliness of outliers though represented as improbable. There is no paradigm for the prediction of these events. In a prior short article on Albourne Village I proposed that using Parametrics to predict Black Swans is like using Carbon Dating on the geological record. Non-parametrics is better applied, but there is another consideration that relates to a "data series" to predict Black Swans. I noticed that this is connected to the psychological theory called "The Hundredth Monkey Phenomenon" made popular by author Kenneth Keyes. But what is the underlying paradigm that gives rise to the idea of how trends start from nowhere, and when a Black Swan event happens?

I propose that a data series is NOT a data series at all, but that applying ideas from Quantum Mechanics (the law of small things where order is observed) we recognize characteristics hidden from the macro view of the entire data series.

I believe that in each observation there is its own data series of which it is a part. All of our statistical tools try to make sense out of the interconnection of these observations of a data series (i.e. GARCH models, etc). What is the individual observation itself is the result of its own data series so that a data series (such as a return stream from payoffs) is not an input of an independent variable in some statistical model, but is composed of the interconnection of sub-data series? That is, an observation of a data series is not part of any data series but is a data series unto itself with its own parametric and non-parametric characteristics.

If we view observations as a representation of its own data series rather than an instance in a macro data series we would have a completely different view of parametrics, Modern Portfolio Theory, and Total Quality Management that uses classical statistics as its underpinning.

Peter J. de Marigny / DITMo Strategies / AMERICADE

 

FW: The future...

 

 

From: Michael Berman [mailto:micksonmatch@gmail.com]
Sent: Thursday, 16 July 2009 10:16 AM
To: 'Dani Peer'
Subject: RE: The future...

 

Hi Fonz,

 

We are loving the new house.

 

I have like the Elliott guys been expecting the market to climb on higher, my error in judgement was that I thought there would be a steeper pullback before we went higher. I am more convinced than ever that Fundamentals and Sentiment are 2 separate beasts or maybe more correctly the causality link is the reverse of what is commonly believed. That is the sentiment ultimately fashions the fundamentals.

 

Looking at sentiment and fundamentals as 2 separate entities for now, I think fundamentals are very slow moving metrics but they are reactive not causative, always reacting to changes in sentiment. Sentiment on the other hand contains this inner charge of its own energy and it tends to be shorter in its cycles but it contains within it deeper levels or layers. What we are experiencing is the cycle of sentiment whereby there is a need for hope and this has caused the sentiment to improve despite the economic fundamentals.

 

The causative link is only as strong as the underlying conviction of the sentiment. Hope tends to be a very weak emotion and usually ends in disappointment. I think were we may have been at fault isn’t being too pessimistic it is perhaps being too rigid in our beliefs and not accepting that the market is an expression of many peoples emotions and therefore requires more intuitive understanding.

 

I am currently working with a mathematician in the US a freelancer on the markets imbedded memory. I started with this line of thinking a number of years ago, and Charis, Ebrahim and myself collaborated on a paper whereby we were able to prove that data is “sticky” and contains traces of memory, i.e.   more recent data has a greater significance than older data, this is what drives those feedback loops which cause markets to behave irrationally to what we would expect. I maintain there is a way to predict these patters on a probabilistic basis, this incorporates the Elliott Wave Principle and a few quantitative overlays.

 

I edge closer to the grail but I believe there is an element of evolution to all these understandings which means that 1 model will not fit all circumstances. Anyway that is my thinking currently.

 

Mickson

 

From: Dani Peer [mailto:dpeer@bigpond.net.au]
Sent: Thursday, 16 July 2009 8:44 AM
To: Michael Berman
Subject: The future...

 

Hello Mickson...

 

I hope that you are enjoying your new home. Don't rush to finalise everything at once. That's your mother's style. Just take it as it comes. There's always lots to do.

 

I must say that I am surprised with the market's behaviour over the last week. From what I understood, the engine was much more damaged. There's still quite a few toxic debt instruments to step up, more unemployment in the pipeline and a very underpowered consumer - the backbone of Western GDP. However, the mood seems upbeat and there's much talk of emerging from the crisis and better days ahead.

 

Have you and I been too pessimistic? How do you account for such optimism at a time of such fundamental headwinds? Am keen to hear your thoughts.

 

Fonz

 

 

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SENTIMENT

This is more art than science, but I believe it is very worth taking note of these sentiment extremes, they imply a contrary to intuitive reversal.

Regards

Mike

MY WAVE COUNT

 

HUSSMAN EXPLAINS THE SO-CALLED MONEY ON THE SIDELINES

“As I used to teach my students, if Mickey sells his money market fund to buy stocks from Ricky, the money market fund has to sell some of its T-bills or commercial paper to Nicky, whose cash goes to Mickey, who uses the cash to buy stocks from Ricky. In the end, the cash that was held by Nicky is now held by Ricky, the money market securities that were held by Mickey are now held by Nicky, and the stock that was held by Ricky is now held by Mickey. There may have been some change in the relative prices between cash, money market securities and stocks, depending on which of the three was most eager, but there is precisely the same amount of “cash on the sidelines” after that set of transactions as there was before it.

“I'm similarly convinced that Wall Street has no idea what it's talking about when it uses the word “liquidity.” While using the phrase “global liquidity” lends a further element of worldly sophistication, Wall Street still hasn't the slightest idea what it's talking about. The phenomenon that's being called “liquidity” is nothing more than a combination of fiscal irresponsibility and risk blindness, and will ultimately prove itself to be the time-bomb that it is when investors begin to “re-price” that risk.

All of that is as true now as it was at the time in 2007, when the S&P 500 was above 1400. Investors hoping to ride a “wave of liquidity” may eventually discover that the wave leads to a plunge over the falls.

 

GLOBAL SNAPSHOT

 

US REITS

I think we are so close to a pull back

LOW VOLATILITY

This chart shows the low volatility in the US markets which fits in with why we have been buying puts.

The ULTIMATUM GAME

Over the last 4 weeks I have become increasingly intrigued by the irrational psychological responses typical of players in a game economists call the Ultimatum Game. The game was developed in 1982 by Guth, Werner, Schmittberger and Schwarze.

The game works like this: Player A, receives $100 and is asked to share it with Player B in a ratio at his/her discretion. The twist in the game is Player B the receiver of Player A's discretionary donation has the right to accept the donation or interestingly decline it so that neither player A or B is entitled to hold onto any of the $100 windfall.
 
I decided to put my laboratory jacket on and conduct the experiment with my 2 children aged 9 (girl) and 6 (boy) so that I could witness first hand their behaviour.  Having studied some of the vast literature I had a strong feeling how the experiment would turn out; unfortunately I wasn't surprised. 
 
The essence of this simple experiment is to check the axiomatic construct of Classical Economics - "rational man or Homo economicus". Once again you will see by extrapolation that to rely on what the mainstream economic experts predict for the economy using their models, is to rely on theory so riddled with contradiction that not questioning its economic reality is probably similar to the way the fund of funds behaved whilst investing with Bernard Madoff. The Austrian School deals with this by basing their thesis on the "acting man" principle which Mises describes as the study of Praxeology in his magnum opus, "Human Action". I will leave a comprehensive look at this subject for another time, save to say that there is no 1 size that fits all, rather human action is the process of subjective marginal utility.
 
So what happened with the kids, I can hear you asking? Gabriella was given $10 and I asked her to please share it with her brother and I explained to David that he had the choice to accept or reject the offer with the consequences described above. Gabriella chose to keep $9 and share $1 with her brother (incidentally, this split is the most typical offer in the research), David in keeping with the typical response to an offer in this ratio (75% of respondents voted in this manner) chose to decline the offer so that neither of them got anything. The explanation I got from my son without any shame or rhetoric is exactly the same as what the literature suggested. He said, "if she gets more than me then I would rather that we both get nothing". Interestingly the more equitable the split, in other words the closer to a 50:50 split, the more willing Player B is to accept the offer.
 
Now I ask you as rational human beings does it make logical sense to reject an offer that makes you better off. The logical answer is NO, but who said we are logical/rational. Game theorists have tried to devise complex models for predicting outcomes to similar problems with varying degrees of success. So why am I sharing the Ultimatum Game with you? My reasons are to expose you to the idea that the world does not behave according to a formulae of logic; rather selfishness and perceptions of equity play powerful roles in our decision making process. So in conclusion when economic pundits, Chairman of The Federal Reserve, Presidents of Countries tell you with conviction that the economy is developing "green shoots" and we are about to sprout into an economic recovery, at least realize that the models they are using tell them that David Berman will accept the offer of $1 from his sister Gabriella.

TOPPING

The 1^st leg of the bear market rally is over or almost over. The bounce has been short in time but sharp in the pace of the rise.

We are position for and expecting at least a 10% drop from current levels.

The UNCERTAINTY GAME

I recently renewed my fascination with the game of chess and now spend a lot of my spare time either playing or thinking about the theory that encompasses this remarkable game; I might add that I am a relatively weak player in case you were wondering.
 
Using chess terminology there is a "book-line" for the ideal moves and responses for each particular opening. So if I begin with the Reti Opening, the chess gurus use optimization algorithms to analyse a massive database of games with this opening. These book-lines become the beacons along which the experts typically try and replicate the game so as to gain the advantage from the best road already travelled.
 
This on the surface seems quite boring as the winner then should be the player with the greatest memory, as I used to naively assume. However, the game of chess with its 64 squares and 16 white and black pieces (each) is far more complex and intriguing. Let me just run through some of the numbers which are quite remarkable.
 
The average number of moves in competition level chess is 40. Therefore I wanted to establish how many different combinations or new games exist, so I posed this question to the chess theorists and was astounded at their answer. Their recommendation was that I should ask the question how many new games of 100 moves exist on this 64 square board, as if this would make the comprehension any more logical (I suppose there should be fewer 100 move games than 40). How many possible 100-move games are there then? For every move there are typically 10 variations. The answer is 10 x 10 x 10 .... x 10, one hundred times over, 10^100, 1 followed by 100 zeros. A "googol" of games. To give this some context, the number of atoms in the universe are around 10^78 -- 1 followed by 78 zeros.
 
So you may be asking where the heck am I going with this astronomical information? You see even though there may be an ideal way of playing a particular game of chess (according to the depth of the database analyzed) almost all games are different because human beings are not robots, we are thinking human beings governed by pre-cortex impulses and are prone to make mistakes (in my case far too many). So the game of chess never becomes boring as there are an infinite number of games to be played.

When it comes to the markets and economic theory there are the so called chess book-lines, but the number of possible responses to each step of the economic/market process is equally infinite. The reason is the same as in chess, we humans the actors in the economic world have free will to make our own choices, never mind whether they are logical or absurd. So a system that proceeds along the notion of the Neo-Classical, Keynesian or Monetarist Economic Theory, centered on the rational man, is likely to make for an elegant theory on paper but wanting when it comes to real world application.

The Austrian School of Economics ("Austrians") have built their theory of economics on a much firmer foundation, thus incorporating man and his actions as the central theme of their theory, known amongst Austrians as Praxeology. Praxeology is the study of those aspects of human action that can be grasped a priori; in other words, it is concerned with the conceptual analysis and logical implications of preference, choice, and so forth.

To fully explain the concept of Praxeology is beyond the scope of this letter, my point rather is to convey that even a school of economic thought that is far sounder in its logic and its worldly application is unable to accurately quantify the likely outcome of a given set of economic events. At best adherents to the Austrian Schools principles are likely to enjoy a more efficient market place than believers of a logically flawed system implemented by morally corrupt politicians.


The reason I make these statements is to try and convey the framework with which I develop our macro themes in the Freestyle Fund and of course the real world we live in. Whilst I remain interested in fluffy theories such as "double dipping" and "green shoots" and prepare our fund accordingly for the seemingly endless knee-jerk reactions in the market to new policy; as hedge fund managers we have to, our job is to meet the demands of generating positive returns in the medium to long term; however, I wish to emphasize that our macro constructs are based on theoretically sound economic principals that provide us with the necessary tools to build profitable strategies, not whimsical intuitions that are subject to random results.
 
Daniel Faraday the brilliant physicist in the science-fiction mini-series thriller, Lost, realizes the solution to his quest for changing history. As someone who has discovered the formulae for time travel, he theorizes that by going back in time and changing the variables not the constants he will indeed be able to change history. In other words we have no influence over the constants in the historic time travel equation, but the variables are us human beings. Humans are free to choose based on subjective preferences at any given point in time and therefore assuming we can go along the time continuum there is no likelihood of our history repeating itself, as the number of variations to the game called life are many more Googols than a game of chess or an investment in the stock market. Thus Faraday in Lost is suggesting what took Phil in Groundhog Day many identical days in a time-loop to figure out; we can and do change our history based on our actions influenced by subjective preferences at a point in time.
 
Understanding that there are no equations that can scientifically predict how thinking individuals (my theory differs slightly when dealing with group thinking) will react to a given circumstance is the first step in making a major leap forward in our understanding of the uncertain investment universe. The uncertainty that comes with this understanding is what separates science from fiction.
 
In conclusion, I leave you with a few thoughts on uncertainty. In his book On Being Certain, neurologist Robert A. Burton quotes F. Scott Fitzgerald – “The test of a first rate intelligence is the ability to hold two opposed ideas in the mind at the same time and still retain the ability to function.” Buddhist teacher Pema Chodron calls it “being comfortable with uncertainty” – being willing to take every aspect of reality as the starting point, without wasting energy wishing things were different, without denying reality as it is (even if your next step is to work toward changing things), and without needing to know what will happen in the future. “The truth you believe and cling to makes you unavailable to hear anything new. The best thing we can do for ourselves is to be open to an unknown future.” Burton offers the same advice. Tolerating the unpleasantness of uncertainty, he writes, “is the only practical alternative to cognitive dissonance, where one set of values overrides otherwise convincing contrary evidence.

Jaguar Inflation

Mises Daily by Robert R. Prechter, Jr. | Posted on 2/19/2009 12:00:00 AM

[The original version of this article appeared in the February 20, 2004 issue of The Elliott Wave Theorist, a year before the housing-credit bubble burst. An MP3 audio file of this article, read by Dr. Floy Lilley, is available for download.]

I am tired of hearing economists argue that government and the Fed should expand credit for the good of the economy. Sometimes an analogy clarifies a subject, so let's try one.

It may sound crazy, but suppose the government were to decide that the health of the nation depends upon producing Jaguar automobiles and providing them to as many people as possible.

To facilitate that goal, it begins operating Jaguar plants all over the country, subsidizing production with tax money. To everyone's delight, it offers these luxury cars for sale at 50% off the old price. People flock to the showrooms and buy.

Later, sales slow down, so the government cuts the price in half again. More people rush in and buy. Sales again slow, so it lowers the price to $900 each. People return to the stores to buy two or three, or half a dozen. Why not? Look how cheap they are! Buyers give Jaguars to their kids and park an extra one on the lawn. Finally, the country is awash in Jaguars.

Alas, sales slow again, and the government panics. It must move more Jaguars, or, according to its theory — ironically now made fact — the economy will recede. People are working three days a week just to pay their taxes so the government can keep producing more Jaguars. If Jaguars stop moving, the economy will stop. So the government announces "stimulus" programs and begins giving Jaguars away. A few more cars move out of the showrooms, but then it ends. Nobody wants any more Jaguars. They don't care if they're free. They can't find a use for them. Production of Jaguars ceases.

It takes years to work through the overhanging supply of Jaguars. The factories close, unemployment soars and tax collections collapse. The economy is wrecked. People can't afford repairs or gasoline, so many of the Jaguars rust away to worthlessness. The number of Jaguars — at best — returns to the level it was before the program began.

The same thing can happen with credit.

It may sound crazy, but suppose the government were to decide that the health of the nation depends upon producing credit and providing it to as many people as possible.

To facilitate that goal, it begins operating credit-production plants all over the country — called Federal Reserve Banks, Federal Home Loan Banks, Fannie Mae, Sallie Mae, and Freddie Mac, all subsidized by monopoly powers or government guarantees — to funnel credit to the public through banks. To everyone's delight, banks begin reducing collateral requirements and thereby offering credit for sale at below-market rates. People flock to the banks and buy.

Later, sales slow down, so banks cut the price again. More people rush in and buy. Sales again slow, so lenders lower the price to 1% with no collateral and no money down. People return to the banks to buy even more credit. Why not? Look how cheap it is! Borrowers use credit to buy houses, boats, and an extra Jaguar to park out on the lawn. Finally, the country is awash in credit.

Alas, sales slow again, and government and banks start to panic. They must move more credit, or, according to its theory — ironically now made fact — the economy will recede. People are working three days a week just to pay the interest on their debt to the banks so the banks can keep offering more credit. If credit stops moving, the economy will stop. So the government announces "stimulus" programs and begins giving credit away, at 0% interest. A few more loans move through the tellers' windows, but then it ends. Nobody wants any more credit. They don't care if it's free. They can't find a use for it. Production of credit ceases.

It takes years to work through the overhanging supply of credit. Banks close, unemployment soars and tax collections collapse. The economy is wrecked. People can't afford to pay interest on their debts, so many IOUs deteriorate to worthlessness. The value of credit — at best — returns to the level it was before the program began.

See how it works?

Is the analogy perfect? No. The idea of pushing credit on people is far more dangerous than the idea of pushing Jaguars on them. In the credit scenario, debtors and even most creditors lose everything in the end. In the Jaguar scenario, at least everyone ends up with a garage full of cars. Of course, the Jaguar scenario is impossible, because the government can't produce value. It can, however, reduce values.

A government that imposes a central bank monopoly, for example, can reduce the incremental value of credit. A monopoly credit system also allows for fraud and theft on a far bigger scale. Instead of government appropriating citizens' labor openly by having them produce cars, monopoly banking and credit machines do so clandestinely by stealing stored labor from citizens' bank accounts by inflating the supply of credit, thereby reducing the value of savings.

Twentieth-century macroeconomic theory — both Keynesian and monetarist — championed the idea that a growing economy needs easy credit. But this is a false theory. Credit should be supplied by the free market, in which case it will almost always be offered intelligently, primarily to producers, not consumers.

Print $17

Audio $25

"Let's go back to using real money."

Would lesser availability of consumer credit mean that fewer people would own a house or a car? Quite the opposite. Only the timeline would be different. Initially it would take a few years longer for the same number of people to save enough to own houses and cars — actually own them, not rent them from banks. Prices would be lower because credit would not be competing with money to bid up these goods. And, because banks would not be appropriating so much of people's labor and wealth, the economy as a whole would grow much faster. Eventually, the extent of home and car ownership — actual ownership — would eclipse that in an easy-credit society. Moreover, people would keep their homes and cars because banks would not be foreclosing on them. As a bonus, there would be no devastating across-the-board collapse of the banking system, which, as history has repeatedly demonstrated, is inevitable under a system of central banking and other government-created credit factories.

Jaguars, anyone? More credit? Here's a better idea: let's go back to using real money.

 

Yield Spread

The Yield spread in the US along with REITs has blown out to all time highs.
With the government spending program in place, and the strong possibility that REITs are about to put in a multi month low, I have gone short long bonds and long US REITs.
I put the trade on yesterday with the chart looking as below.
Fortunately there was significant weakness in the bond market and strength in REITs so it looks like our timing might have been spot on.

(for some reason the legend says it is bonds vs SAPY- this is an error as it is vs US)

IS THE SUN STILL SHINING ON S.AFRICA

I have marvelled for some time how SA and SA listed property in particular has side-stepped the world financial crisis, and the emerging market turmoil more particularly.
In the last few days I have watched a stream of negative economic data flow through my inbox in relation to SA's now clearly faltering economy.

The relative trade displayed below is once again an indicator for an excellent high probability profitable trade.

Short South Africa go Long Australia

I have been saying for some time that South African REITs are way too expensive.

One only has to look at their respective valuations against the worlds leading 1st world REITs to start asking questions. In South Africa you still have certain companies trading on historical yields below the long bond yield, history has proved this relationship should not exist and I have no doubt the necessary reversions will set in place before too long.
It wasn't along time ago when this phenomenon existed in the major REIT markets only to blow out well past the historical mean, and I mean well past.

I also get the familiar argument that the South African economy is stronger than many of the 1st world countries, which is currently reflected in the low vacancies and high (double digit) distribution growth numbers. Do not forget that the USA, Australia and other regions were also displaying similar fundamental strength preceding their respective swan dives into the abyss.

Do not be fooled by the fact that due to South Africa's relatively closed economy that it has been able to avoid much of the problems that have entwined the world financial system and in so doing buried the decoupling debate far below the average South African gold mine. Remember that SA is after all a 3rd world country with unemployment and crime at unacceptable levels. Remember that South Africa needs to export a lot of its resources to a shrinking world market, remember that South Africa's current account deficit is dependent on foreign capital inflows. Remember that South African politics is in complete disarray with alarming stories of corruption. Remember that South Africa is only able to grow its GDP in the 2 - 3% region far lower than the level needed to maintain and increase jobs. Before you get carried away with the growth story of South Africa's emerging black middle class, remember that China is growing at above 10% per annum and has a far larger emerging middle class, yet its share market is off 70% from its peak. Remember the World Cup was discounted into the share market years ago, and remember it was done so in an environment where the world traded on one of the lowest risk premiums in history. As the lustre begins to fade and the reality of the less than spectacular World Cup numbers come to pass and the many new white elephants that litter the metropolis and not the game farms, the markets may play catch up on the downside at a speed which will make the Rand's demise in 2001 a walk in the park.

So in conclusion wouldn't you prefer to own Westfield with its prime assets in Australia, UK & USA with low gearing paying a 10% dividend with muted growth if any than a Hyprop or Resilient with more debt on the balance sheet, in Africa, paying 7.5% with 10% growth for now with no real chance of maintaining this growth well into the future. (I haven't researched the numbers in the sentence above but are approximations used to illustrate my point).

At the end of the day the words used above are merely trying to explain the chart on the left which to me tells the whole story. Short South Africa and go long Australia, it is a no brainer.

Excitement vs Regret

Monday, February 23, 2009

I attended a workshop a couple of weeks ago (Van Tharp) and one of the exercises we did was examine where we may have conflict within ourselves.
One of the conflicts I brought up is the uneasy relationship between "excitement" which I usually associate with large positions and "regret".

What is interesting is that both emotions have positive intentions, in my case excitement is there to take me out of my comfort zone, to strive for more, to achieve my goals. Regret also has the positive intention of wishing to prevent feelings of I wish I never did that or I am such an idiot. What is clear from examining these 2 emotions is that they need not be apart and work against one another, rather if regret becomes a part of excitement in that certain ground rules are laid then there can be no cause for disharmony but rather on the contrary there should be better harmony.

How does one achieve this. The secret is to do ones homework and establish that in fact there is a suitable risk reward setup to place the larger trade. If in fact there is this payoff profile then regret has no place as the excitement is duly being rewarded for this increased risk. On the other hand if I am not going to do my homework then regret is correct in staying apart and that conflict should remain until such time as I am able to bring them together.

Trading Rules - Dennis Gartman

It is amazing how simple and brilliant these rules are, my only point of debate is reconciling these principles with a contrarian approach to trading.

If I have understood these rules correctly, Dennis is saying that you cannot trade contrarian profitably. You can have contrarian views, however, it seems according to him you need to wait for the new trend to take effect.

I need to give this more thought, however, those rules aside I think the rest make for a must when trading.


The "Not-So-Simple" (But Really Utterly So) Rules of Trading

The world of investing/treading, even at the very highest levels, where we are supposed to believe that wisdom prevails and profits abound, is littered with the wreckage of wealth that has hit the various myriad rocks that exist just beneath the tranquil surface of the global economy. It matters not what level of supposed wisdom, or education, that the money managers or individuals in question have. We can make a list of wondrously large financial failures that have come to flounder upon these rocks for the very same reasons. Let us, for a bit, have a moment of collective silence for Long Term Capital Management; for Baring's Brothers; for Sumitomo Copper... and for the tens of thousands of individuals each year who follow their lead into financial oblivion.

I've been in the business of trading since the early 1970s as a bank trader, as a member of the Chicago Board of Trade, as a private investor, and as the writer of The Gartman Letter, a daily newsletter I've been producing for primarily institutional clientele since the middle 1980s. I've survived, but often just barely. I've made preposterous errors of judgment. I've made wondrously insightful "plays." I've understood, from time to time, basis economic fundamentals that should drive prices--and then don't. I've misunderstood other economic fundamentals that, in retrospect, were 180 degrees out of logic and yet prevailed profitably. I've prospered; I've almost failed utterly. I've won, I've lost, and I've broken even.

As I get older, and in my mid-50s, having seen so much of the game--for a game it is, with bad players who get lucky; great players who get unlucky; mediocre players who find their slot in the lineup and produce nice, steady results over long periods of time; "streak-y" players who score big for a while and lose big at other times--I have distilled what it is that we do to survive into a series of "Not-So-Simple" Rules of Trading that I try my best to live by every day ... every week ... every month. When I do stand by my rules, I prosper; when I don't, I don't. I am convinced that had Long Term Capital Management not listened to its myriad Nobel Laureates in Economics and had instead followed these rules, it would not only still be extant, it would be enormously larger, preposterously profitable and an example to everyone. I am convinced that had Nick Leeson and Barings Brothers adhered to these rules, Barings too would be alive and functioning. Perhaps the same might even be said for Mr. Hamanaka and Sumitomo Copper.

Now, onto the Rules:

NEVER ADD TO A LOSING POSITION

R U L E # 1
Never, ever, under any circumstance, should one add to a losing position ... not EVER!

Averaging down into a losing trade is the only thing that will assuredly take you out of the investment business. This is what took LTCM out. This is what took Barings Brothers out; this is what took Sumitomo Copper out, and this is what takes most losing investors out. The only thing that can happen to you when you average down into a long position (or up into a short position) is that your net worth must decline. Oh, it may turn around eventually and your decision to average down may be proven fortuitous, but for every example of fortune shining we can give an example of fortune turning bleak and deadly.

By contrast, if you buy a stock or a commodity or a currency at progressively higher prices, the only thing that can happen to your net worth is that it shall rise. Eventually, all prices tumble. Eventually, the last position you buy, at progressively higher prices, shall prove to be a loser, and it is at that point that you will have to exit your position. However, as long as you buy at higher prices, the market is telling you that you are correct in your analysis and you should continue to trade accordingly.

R U L E # 2
Never, ever, under any circumstance, should one add to a losing position ... not EVER!

We trust our point is made. If "location, location, location" are the first three rules of investing in real estate, then the first two rules of trading equities, debt, commodities, currencies, and so on are these: never add to a losing position.

INVEST ON THE SIDE THAT IS WINNING

R U L E # 3
Learn to trade like a mercenary guerrilla.

The great Jesse Livermore once said that it is not our duty to trade upon the bullish side, nor the bearish side, but upon the winning side. This is brilliance of the first order. We must indeed learn to fight/invest on the winning side, and we must be willing to change sides immediately when one side has gained the upper hand.

Once, when Lord Keynes was appearing at a conference he had spoken to the year previous, at which he had suggested an investment in a particular stock that he was now suggesting should be shorted, a gentleman in the audience took him to task for having changed his view. This gentleman wondered how it was possible that Lord Keynes could shift in this manner and thought that Keynes was a charlatan for having changed his opinion. Lord Keynes responded in a wonderfully prescient manner when he said, "Sir, the facts have changed regarding this company, and when the facts change, I change. What do you do, Sir?" Lord Keynes understood the rationality of trading as a mercenary guerrilla, choosing to invest/fight upon the winning side. When the facts change, we must change. It is illogical to do otherwise.

DON'T HOLD ON TO LOSING POSITIONS

R U L E # 4
Capital is in two varieties: Mental and Real, and, of the two, the mental capital is the most important.

Holding on to losing positions costs real capital as one's account balance is depleted, but it can exhaust one's mental capital even more seriously as one holds to the losing trade, becoming more and more fearful with each passing minute, day and week, avoiding potentially profitable trades while one nurtures the losing position.

GO WHERE THE STRENGTH IS

R U L E # 5
The objective of what we are after is not to buy low and to sell high, but to buy high and to sell higher, or to sell short low and to buy lower.

We can never know what price is really "low," nor what price is really "high." We can, however, have a modest chance at knowing what the trend is and acting on that trend. We can buy higher and we can sell higher still if the trend is up. Conversely, we can sell short at low prices and we can cover at lower prices if the trend is still down. However, we've no idea how high high is, nor how low low is.

Nortel went from approximately the split-adjusted price of $1 share back in the early 1980s, to just under $90/share in early 2000 and back to near $1 share by 2002 (where it has hovered ever since). On the way up, it looked expensive at $20, at $30, at $70, and at $85, and on the way down it may have looked inexpensive at $70, and $30, and $20--and even at $10 and $5. The lesson here is that we really cannot tell what is high and/or what is low, but when the trend becomes established, it can run far farther than the most optimistic or most pessimistic among us can foresee.

R U L E # 6
Sell markets that show the greatest weakness; buy markets that show the greatest strength.

Metaphorically, when bearish we need to throw our rocks into the wettest paper sack for it will break the most readily, while in bull markets we need to ride the strongest wind for it shall carry us farther than others.

Those in the women's apparel business understand this rule better than others, for when they carry an inventory of various dresses and designers they watch which designer's work moves off the shelf most readily and which do not. They instinctively mark down the work of those designers who sell poorly, recovering what capital then can as swiftly as they can, and use that capital to buy more works by the successful designer. To do otherwise is counterintuitive. They instinctively buy the "strongest" designers and sell the "weakest." Investors in stocks all too often and by contrast, watch their portfolio shift over time and sell out the best stocks, often deploying this capital into the shares that have lagged. They are, in essence, selling the best designers while buying more of the worst. A clothing shop owner would never do this; stock investors do it all the time and think they are wise for doing so!

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MAKING "LOGICAL" PLAYS IS COSTLY

R U L E # 7
In a Bull Market we can only be long or neutral; in a bear market we can only be bearish or neutral.

Rule 6 addresses what might seem like a logical play: selling out of a long position after a sharp rush higher or covering a short position after a sharp break lower--and then trying to play the market from the other direction, hoping to profit from the supposedly inevitable correction, only to see the market continue on in the original direction that we had gotten ourselves exposed to. At this point, we are not only losing real capital, we are losing mental capital at an explosive rate, and we are bound to make more and more errors of judgment along the way.

Actually, in a bull market we can be neutral, modestly long, or aggressively long--getting into the last position after a protracted bull run into which we've added to our winning position all along the way. Conversely, in a bear market we can be neutral, modestly short, or aggressively short, but never, ever can we--or should we--be the opposite way even so slightly.

Many years ago I was standing on the top step of the CBOT bond-trading pit with an old friend Bradley Rotter, looking down into the tumult below in awe. When asked what he thought, Brad replied, "I'm flat ... and I'm nervous." That, we think, says it all...that the markets are often so terrifying that no position is a position of consequence.

R U L E # 8
"Markets can remain illogical far longer than you or I can remain solvent."

I understand that it was Lord Keynes who said this first, but the first time I heard it was one morning many years ago when talking with a very good friend, and mentor, Dr. A. Gary Shilling, as he worried over a position in U.S. debt that was going against him and seemed to go against the most obvious economic fundamentals at the time. Worried about his losing position and obviously dismayed by it, Gary said over the phone, "Dennis, the markets are illogical at times, and they can remain illogical far longer than you or I can remain solvent." The University of Chicago "boys" have argued for decades that the markets are rational, but we in the markets every day know otherwise. We must learn to accept that irrationality, deal with it, and move on. There is not much else one can say. (Dr. Shilling's position shortly thereafter proved to have been wise and profitable, but not before further "mental" capital was expended.)

R U L E # 9
Trading runs in cycles; some are good, some are bad, and there is nothing we can do about that other than accept it and act accordingly.

The academics will never understand this, but those of us who trade for a living know that there are times when every trade we make (even the errors) is profitable and there is nothing we can do to change that. Conversely, there are times that no matter what we do--no matter how wise and considered are our insights; no matter how sophisticated our analysis--our trades will surrender nothing other than losses. Thus, when things are going well, trade often, trade large, and try to maximize the good fortune that is being bestowed upon you. However, when trading poorly, trade infrequently, trade very small, and continue to get steadily smaller until the winds have changed and the trading "gods" have chosen to smile upon you once again. The latter usually happens when we begin following the rules of trading again. Funny how that happens!

THINK LIKE A FUNDAMENTALIST;
TRADE LIKE A TECHNICIAN

R U L E # 10
To trade/invest successfully, think like a fundamentalist; trade like a technician.

It is obviously imperative that we understand the economic fundamentals that will drive a market higher or lower, but we must understand the technicals as well. When we do, then and only then can we, or should we, trade. If the market fundamentals as we understand them are bullish and the trend is down, it is illogical to buy; conversely, if the fundamentals as we understand them are bearish but the market's trend is up, it is illogical to sell that market short. Ah, but if we understand the market's fundamentals to be bullish and if the trend is up, it is even more illogical not to trade bullishly.

R U L E # 11
Keep your technical systems simple.

Over the years we have listened to inordinately bright young men and women explain the most complicated and clearly sophisticated trading systems. These are systems that they have labored over; nurtured; expended huge sums of money and time upon, but our history has shown that they rarely make money for those employing them. Complexity breeds confusion; simplicity breeds an ability to make decisions swiftly, and to admit error when wrong. Simplicity breeds elegance.

The greatest traders/investors we've had the honor to know over the years continue to employ the simplest trading schemes. They draw simple trend lines, they see and act on simple technical signals, they react swiftly, and they attribute it to their knowledge gained over the years that complexity is the home of the young and untested.

UNDERSTAND THE ENVIRONMENT

R U L E # 12
In trading/investing, an understanding of mass psychology is often more important than an understanding of economics.

Markets are, as we like to say, the sum total of the wisdom and stupidity of all who trade in them, and they are collectively given over to the most basic components of the collective psychology. The dot-com bubble was indeed a bubble, but it grew from a small group to a larger group to the largest group, collectively fed by mass mania, until it ended. The economists among us missed the bull-run entirely, but that proves only that markets can indeed remain irrational, and that economic fundamentals may eventually hold the day but in the interim, psychology holds the moment.

And finally the most important rule of all:

THE RULE THAT SUMS UP THE REST

R U L E # 13
Do more of that which is working and do less of that which is not.

This is a simple rule in writing; this is a difficult rule to act upon. However, it synthesizes all the modest wisdom we've accumulated over thirty years of watching and trading in markets. Adding to a winning trade while cutting back on losing trades is the one true rule that holds--and it holds in life as well as in trading/investing.

If you would go to the golf course to play a tournament and find at the practice tee that you are hitting the ball with a slight "left-to-right" tendency that day, it would be best to take that notion out to the course rather than attempt to re-work your swing. Doing more of what is working works on the golf course, and it works in investing.

If you find that writing thank you notes, following the niceties of life that are extended to you, gets you more niceties in the future, you should write more thank you notes. If you find that being pleasant to those around you elicits more pleasantness, then be more pleasant.

And if you find that cutting losses while letting profits run--or even more directly, that cutting losses and adding to winning trades works best of all--then that is the course of action you must take when trading/investing. Here in our offices, as we trade for our own account, we constantly ask each other, "What's working today, and what's not?" Then we try to the very best of our ability "to do more of that which is working and less of that which is not." We've no set rule on how much more or how much less we are to do, we know only that we are to do "some" more of the former and "some" less of the latter. If our long positions are up, we look at which of those long positions is doing us the most good and we do more of that. If short positions are also up, we cut back on that which is doing us the most ill. Our process is simple.

We are certain that great--even vast--holes can and will be proven in our rules by doctoral candidates in business and economics, but we care not a whit, for they work. They've proven so through time and under pressure. We try our best to adhere to them.

This is what I have learned about the world of investing over three decades. I try each day to stand by my rules. I fail miserably at times, for I break them often, and when I do I lose money and mental capital, until such time as I return to my rules and try my very best to hold strongly to them. The losses incurred are the inevitable tithe I must make to the markets to atone for my trading sins. I accept them, and I move on, but only after vowing that "I'll never do that again."

WHAT SEEMS LIKE AN ETERNITY

I have stated in my last 2 newsletters that I expect the November lows to be broken.
Well almost 3 months later we are about to witness this happening. No matter how firm ones conviction there is always the fear of being wrong. From my perspective I was never planning on betting the farm on this trade as the risk reward for being short this trade in size didnt permit excessive risk taking.

The question of course is how much further will this wave take us. In markets like Australia we have been beneath November for some time so the possibility of Aussie leading the recovery is quite high. This is the reason why I continue to purchase the Australian REITs despite the shocking news coming daily from their most recent quarter financial releases.
I continue to level out our short position as I anticipate a massive buying opportunity as a medium term bottom is formed. So in short what I am saying is that although this last leg of the selloff has good profit potential the risk of not being well positioned in the coming weeks for the mother of all buying opportunities is the basis for my continued buying into weakness.

MARKET VIEWS

I attach a chart of the Australian listed property trust sector (AREITs) over the last 5 years.

After enjoying what seemed to be a fantastic bull market, we have seen a precipitous fall that has no doubt caught most investors on the wrong foot.

One can certainly make the argument that this is no different to the performance of REITs across the globe, but the fact is this is only partly true, as yes global markets have suffered a similar fate yet Australia on a relative basis has fared worse. In the chart that follows you will see that over the last 5 years the relative performance has been steadily dropping and is close to 2 std-deviations from its mean; despite the attempt in the 4^th quarter of 08 to march ahead.

My simple explanation for this relative underperformance is due to the fact that Australia through its forced savings legislation (Super) amassed a pool of capital for investment that was far greater than the investment opportunities in Australia itself. As we know that money burns a hole in our pockets, the investment managers we placed our faith in clearly failed to heed this age old lesson and plunged head first into every conceivable investment venture around the globe. I am focusing on real estate but the same can be said for other asset classes. I recall being amazed at the statistics a few years ago when reading research reports that Australia was the 2^nd largest and in some countries the largest foreign investors in real estate.

I recall the main theme of NAREIT end of 2004 (I haven't checked the date) was the subject of the JV model, whereby US REITs would sell a few assets into an SPV which would be capitalised by typically an Australian fund whereby the newly capitalised SPV would then go on a spending spree. The beauty for the US REIT was they got to earn management fees on the properties they sold to the SPV plus all the new ones bought. This JV model I believe gave what used to be regarded as modest income growth stocks a fuel injection that led multiples to levels that were destined to fail.

The question we need to ask ourselves is for how much longer will Australia choke on its excessive offshore investments.

Knee Jerk Reaction

I have come to realise that the majority of people, even those with the knowledge to act differently, seem to act in the same way when we are confronted with certain circumstances.

I must confess this 1 dimensional thinking irritates me in its simplistic understanding of the complexity of the stock market. Let me explain what I mean.

You will find that around specific news events many people and I have one particular fund manager in mind when I write this will think that if the FOMC is about to announce a rate decision tomorrow they will wait until tomorrow and then place their trade on, in the expectation that the market will then go up if it is a rate cut or go down if it is a rate hike. The statistics will tell us the market behaves very noisily around news events which means the behaviour is typically random, and of course the market has long been discounted what the news event is likely to produce.

It therefore irks me when people say I am waiting to buy the market after the cut tomorrow. We have been witness to an increasing amount of market behaviour that has been contrary to these news events, such as major stimulus injection announcements and rate cuts, etc.