Abelson bashing continued

It appears I have some competition in the game of Abelson bashing. A letter to the editor from an inspired Barron's reader starts like this:
"In Alan Abelson's soul, it is always 6 a.m. in a one-room apartment with a view of nothing. I can taste the ashes and bitter coffee." and ends like this:
"Abelson isn't a value investor. He is a perma-bear, who will rarely help investors. Unlike stopped clocks, he is never right, but as his calls for recession and apocalypse whine more vociferously, we must remember what he never understands: The market gets less risky as it corrects, and our equity markets and capitalist system though flawed, tend to make us real money over time - especially when Abelson's fear and loathing are in abundance."
I wouldn't be surprised if Abelson himself selected this particular letter out of his weekly stash of hate mail for its poetic qualities.

The following comment might be viewed as simplistic but sometimes simplistic is what is needed to drill down the actual meaning behind an overly complex reality:
"We really need to be plain about this: Companies such as Washington Mutual, which announced a $1.6 billion write-down of home-lending-unit losses Monday, essentially took money placed in passbook savings accounts by hard-working, conservative customers -- many of them retirees -- and shoveled it to low-income, Fantasy Island condo flippers. Bankers paid 2% or less to customers they obviously considered suckers and lent it out at 6%-plus to customers they courted. " More not so simplistic but very illuminating comments are to be found in this article by the always bold Jon Markman.

Interesting article on Jim Simons and his Renaissance Technologies LLC group of hedge funds.
Mr. Simons is otherwise known as "God" among the quant crowd.
The laws of the financial markets present a special challenge, Simons says. Unlike the laws governing physics or chemistry, they tend to change over time. ``One can predict the course of a comet more easily than one can predict the course of Citigroup's stock,'' he says. ``The attractiveness, of course, is that you can make more money successfully predicting a stock than you can a comet.''

Return of the technical

I have noticed in myself a tendency to write about peripheral matters or avoid writing (or thinking) about the market altogether when one of the following three things happen:

1) The market is extremely volatile

2) The market is extremely unpredictable and I feel I have no special insight into what it's going to do next

3) The market is doing the opposite of what I thought it was going to do.

As it happens, all three did occur at one point or another over the last few weeks. I must admit the latest bout of weakness and its vigor took me by surprise and that the eventual rebound (the one that's taking place now) came much later (and at a much lower level) than I expected.

Add to that the fact that I seem to have run out of exciting charts (and my natural laziness) and you have a ready made explanation for my avoidance of technical market analysis. But all things must come to an end and that thankfully includes lack of inspiration so here we go.

The chart above (it is strongly suggested the reader click on the chart to enlarge so as to have the faintest idea what I am talking about) is the most recent daily chart for Microsoft. After its breakout move on 10/26/07, the day after shockingly above-expectations earnings were announced, the stock looked like it was off to the races but it actually came down pretty hard with the rest of the market. However, starting 3 days ago, it did stage a rally that could be the real thing for two reasons:

1) it took place right at the 50-day Simple Moving Average around 32.6

2) and as the 10/26 gap was almost filled (or the window closed in candle-speak).

I could also add the fact that the RSI has formed what looks like a double bottom at around 45, a level that frequently marks the end of a corrective move within a larger bull move.

Granted, volume has been unexceptional at best and that's a cause for concern. Therefore, we would need a decisive close on decent volume above the previous intermediate high (reached on 11/20) above 35 to call with some authority for a resumption of the uptrend.

The end of the world as we know it

You know the market is due for a serious bull move when perma-bears like Barron's Alan Abelson, high from the fumes off the recent selloff, think Armageddon is upon us.
He announces in his most recent weekly oeuvre nothing less than the end of the financial world as we know it. Judge for yourself (emphasis mine):
"Pure and simple, we've had three decades of mostly bull markets fed by cheap and abundantly available credit and an insatiable lust for leverage. That's fast coming to what we suspect will be a crashing end."
"Part and parcel of this epochal change will be a purge of the hedge funds, the private-equity operators, the investment banks driven by a casino mentality, who have served as the hallmarks of this gilded age now teetering toward its close. Their numbers and, more importantly, their profits will be drastically reduced."
Quite a terrifying depiction of a financial end-of-days day of reckoning or Abelson's special wet dream.

Was Michael Jordan only lucky?

Fascinating article by Michael Lewis of Liar's poker fame pointed out by fellow blogger
Contrary Canary. As far as the efficient market/random walk theory, it's important to remember that randomness is in the eye of the beholder, a point Taleb makes repeatedly in his books. If I recall correctly, Taleb gives the example of a pregnant woman. From a stranger's point of view, her baby being a boy or a girl is a random event with probabilities 1/2 and 1/2 for the 2 possible outcomes. From her point of view, thanks to doppler technology, the sex of her child is not random anymore, she knows for certain that her baby will be a boy or a girl.

Apply this to investing/trading: to a hypothetical master trader, the fact that he or she is in the top 1% of traders is not a random event, because he/she (presumably) knows what he/she's doing. From the hapless scholar's (let's call him Mr. Fama) point of view, that particular trader is just lucky, he or she just happens to be part of the surviving 1% of the initial sample of traders. So as far as Mr. Fama is concerned, whether a particular trader beats the market or not is a random event and has nothing to do with that trader's abilities. Should Mr. Fama sit down with the trader, understand the trader's methodology and test that methodology (provided Mr. Fama has the intellectual curiosity, flexibility and capability to do so and provided the trading methodology is conducive to modelling) against a throw-the-darts methodology, he would discover that the trader's performance is indeed superior and that has nothing to do (or at least not much to do) with luck or survivorship.

I mean, just think about it for a second, has anyone anywhere ever accused Michael Jordan of being "just lucky" or theorized that the only reason he was such a great basketball player is that out of a starting sample of say 10 million basketball players, he was the only one lucky enough to survive all the tests, obstacles and competitions he faced? Obviously, luck had a hand in his success but how important was it compared to his talent, his work ethic and his competitiveness?

The unknown knowns

I have a couple of thoughts on the "black swan theory" and Taleb's thesis in general.
Doesn't it simply boil down to a belief in miracles? And isn't it a step backward? Once upon a time, most people did believe in miracles, i.e. very low probability events. A scientific revolution and more than a hundred years later, most people have stopped believing in miracles and are much more rational and sceptical. But on balance, I would say that people still believe in miracles more than they should and more education, more knowledge are needed to make us more realistic, less prone to irrational hopes and magical thinking. Here comes Taleb who would like humanity to go back to the Dark Ages and start believing in miracles again. Isn't a black swan just a fancy new name for what people used to call miracles?

My second (disorganized) thought is less a criticism of Taleb's thesis and more an avenue for further musings. Taleb likes to talk about the known unknowns and the unknown unknowns, the latter being basically the so-called black swans. How about the unknown knowns, in other words, the thinks we don't even know we know? I would think that those unknown knowns are the same thing as intuition or instinct. I guess a book such as Blink by Malcom Gladwell did cover just that.

The two-headed monster

As I was telling a technician friend lately, the market is a two-headed beast these days.

On the one hand you have financials, represented in the first chart by XLF, the financial ETF (it's actually the chart of the ratio XLF/SPY), which are in the middle of what could be an epic bear market. On the other hand, you have the technology sector, represented in the second chart by QQQQ, the Nasdaq 100 ETF (again it's the ratio QQQQ/SPY) undergoing a no less impressive bull explosion.

It appears that a good trade would be long QQQQ, short XLF, a gift that could keep on giving for quite a long time as these secular trend changes tend to last.

As far as the market in general (as represented by SPY), given the tug of war going on, it is much harder to trade.