The fact that we have gapped below the line makes it likely that we will this time, and that could easily prompt the kind of selling that will make this morning look like nothing.
Still, as I have said on many occasions, technical analysis can only take you so far. If the fundamental picture doesn't support a move, it doesn't matter what line you cross or what pattern chart candles form, the resulting move will be temporary. So, what caused this morning's panic, and should we be concerned?
Well, it seems that it was the default by and possible impending bankruptcy of the giant Chinese real estate developer, Evergrande. Any time a company that owes around $300 billion defaults it is big news, and the risk of contagion is real, but there are reasons to think that this time, the impact will be somewhat limited.
First, it is in nobody's interest to let Evergrande go under. It is truly too big to fail. The banks that it owes will get nothing if they force bankruptcy and, while the Chinese government probably wouldn't mind sending a message about over leveraging, a full-blown economic crisis risks civil unrest and avoiding that is their main goal at all times. It is likely, therefore, that the banks and the government will come to some kind of agreement to at least delay the inevitable, similar to what happened in the U.S. with Long Term Capital Management in 1998.
The problem is that, while the event itself may just fizzle out, it is in many ways a microcosm of what the market is currently worried about, in that it is a story of over leveraging to buy overpriced assets. If it is seen as just the first of a string of such stories, how this one actually turns out won't matter.
So, while the continued, if slowing, support of the Fed and the effects of $3.5 trillion in stimulus spending make it most likely that we bounce back quite quickly, I will be taking some defensive measures in my general portfolio, specifically buying the 3x leveraged S&P 500 Bear ETF, SPXS. My hope is that I will lose a bit on that if we bounce back rapidly, but there is one main reason to take out some insurance right now.
I know that long-term investing is about staying invested, and this is a psychological play to make sure that I do that. If I have something that is making money on the way down, I can tell myself that I saw this coming and acted accordingly, which reduces the temptation to panic out of what will, over time, be some good positions.
As I said, the fundamental conditions of the economy are still good, so this is most likely just a flash in the pan, but today might mark a shift in attitude to risk that will cause a decent sized drop, so I want to protect myself should that be the case. As a result, I will buy some SPXS and, for a few days at least, favor short positions in stocks and oil in short-term positions.
Cheers,
M
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