Pivotal Day – Go to Cash – Short If SPY 120 Breached.

September 15, 2008
Author: Peter Stolcers, Founder of OneOption

Today will prove to be pivotal and it all boils down to confidence. Over the weekend, Lehman was not able to find a suitor and the Fed made it clear that it is done with bailouts. AIG is scrambling to find capital and it is on the verge of a credit downgrade. UBS announced another $5 billion write-down and it could be trying to attract additional capital as well. Months ago, the Fed warned financial institutions to secure capital and Lehman waited too long. Bank of America purchased Merrill Lynch at a premium to Friday's closing price. "The street" believes that this deal was forced by the Fed. However, management denies that and they are speaking of synergies. In a bold move, the Fed has agreed to accept equities as collateral. In essence, they are supporting the market. Financial institutions do not need to liquidate their holdings in order to generate cash. A consortium of international financial institutions has established a $70 billion liquidity fund. They collectively want to avoid a run on the financial system. China has lowered its interest rates by a quarter of a point. It has been in a tightening mode for the last 14 months and this is a significant event. We are clearly at a crossroads. If investors get spooked, panic selling could set in. On the other hand, if calmer minds prevail, this could present an excellent buying opportunity. From my perspective, cash is king. I suggest staying on the sidelines. I would rather forego the first 10% of the market rally so that I can sleep well at night. If the market recovers and is able to move above horizontal resistance levels, I will put money back to work. At this juncture, the risk is not justify the reward and I hate to use the word crash, but it is possible. Unlike 1987, the stock market represents a good value. The balance sheets and P/E ratios are very reasonable. However, the leverage and debt levels are much greater now. A liquidity squeeze throws value out the window. If mutual funds, banks and individuals need to sell stocks to generate cash, valuation means nothing. I have noticed that there is not much rotation and that simply means that money is being pulled out of the market. As commodity stocks sold off, that money was not reinvested in other sectors. In fact, technology and healthcare have also started moving lower and I don't see signs of strength anywhere. This situation reminds me of an old saying, “Water, water everywhere, not a drop to drink.” Capital is hard to come by yet there is plenty of cash on the sidelines. No one wants to engage risk until they see how all of this plays out in the coming months. If the SPY closes below 120, get short. image

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