When most of the news you hear about any given market is great, when most of the people you speak to are excited about buying into that market, and when the media is falling over themselves to report how wonderful things are, it is an almost certain sign that that market has reached its height and that the short term opportunity is over. It’s the time when everyone else looks like they’re making money in that market and those that aren’t are just clamoring to get in. That’s when professionals in the market look to sell - while most others are either buying or wishing they had the funds to buy. The theory behind this phenomenon is sometimes called the ‘Every Man Theory’.
We saw this in the earliest months of the year 2000 at the height of the dot com bubble. At the same time that professionals were becoming cautious, the average investor was willing to do almost anything to get in and strike while the iron appeared to be hot. Little did most investors understand that the ‘heat’ was more like the moment before an incandescent light bulb burns out – it glows so brightly for just a fleeting moment, and then it is gone.
We also saw this same phenomenon play out at the height of the recent real estate boom. During one short period of time we had several clients want to pull funds from their hard-earned investment accounts - accounts that were doing well - and use those funds to speculate the real estate market. When that happened, we looked at each other and agreed that this marked the top of the market. We haven’t specifically tracked what happened to those client resources that were pulled out of investment accounts, but the reports we’ve heard haven’t been encouraging. We did track the continued upward movement of the DOW and S&P 500 from that point, even with the recent market pullback.
Now, the inverse of those signs that can be observed at the top of the market, that likely foretell of a short-term market weakening, are those signs that suggest a bottom has been reached. Consider what we’re hearing almost daily at this point: gloom and doom on Wall Street, stories regarding the weakened U.S. Dollar, real estate foreclosures and mortgage defaults abounding, the price of oil, gold and other commodities hitting all-time highs and ongoing recession fears. When most of the news is this bad, when more people are pessimistic than not, and when the average investor is concerned about just what might happen next, that’s when the professionals want to buy and others are more than willing to sell. The ‘Every Man Theory’ suggests that this is a sure sign that a market bottom has been reached, and even though the weeks directly ahead might not be extraordinarily profitable, they likely won’t represent ongoing losses either. The months and years ahead, however, most likely include a period of robust growth and profitability.
In the markets we’re now experiencing, we believe this bottom likely came near the end of January – a few weeks after most of our client assets transitioned into relatively defensive allocations. Since then, we have seen ongoing volatility and some pretty concerning news from
Yesterday, Goldman Sachs, one of the most well respected names on Wall Street, adjusted their 1st quarter earning expectations to the positive. In response, the DOW Industrials offered an impressive rally (likely to be followed by a partial sell-off on Wednesday). Later the same day, the Federal Reserve decreased the discount rate by ¾ of a percent, and the market replied with even more upward movement. But the evening news focused more on the Federal Reserve’s ‘bailout’ and JP Morgan Chase’s heavily discounted purchase of Bear Sterns – news to be sure, but literally yesterday’s news! More attention was given to which presidential candidate offered the most offensive rhetoric for the day than the fact that the U.S. Dollar increased against other foreign currencies, the price of gold and oil fell in late trading, and VISA was about to become the largest public offering in U.S. history.
It’s not that all of this portends blue skies and roses for the markets in the short term, but it is indicative of the playing out of the ‘Every Man Theory’. Those investors that have the fortitude to buy while markets are low are the same investors that end up owning highly valued assets that they can sell at their discretion, maybe even when markets and values are high.
Rick Haskell – Signature Wealth Management
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