Sunday, December 30, 2012

Fiscal Cliff...Deal or No Deal?

As most of you likely have heard America is about to plunge to its economic death when the clock strikes 12:01 on January 1st. Lawmakers in Washington are about to drive us right off the Fiscal Cliff! At least that is what the media will have you believe. On January 1st, if congress cannot compromise, we will see tax increases across the board on all Americans and mandatory cuts to spending in areas of Defense and many other social programs. These tax hikes and spending reductions were put in place to force the hand of politicians  to come to some sort of compromise on millionaires tax rates and more fiscal responsibility in reducing our nations deficit.

We are not going to get into picking sides and pointing fingers at who is right and who is wrong because likely both sides are at fault. What we want to do is to try to determine if "going over the cliff" (i hate this term by the way) will sink the economy back into a recession and cause the stock market to crash. Now I am of the opinion that the media attempts to scare the sap out of the American public; frightened people are easier to herd and make conform to ideologies. If you have been listening to any sort of news media in the past 6 months, the Fiscal Cliff has been front and center and now the chatter has become deafening. I am hearing "traders" on CNBC talk about how this is the first time in their careers that they have sold all of their stocks and are sitting in a 100% cash position. Even blogs i follow with very successful traders and investors are shaken by the idea of going over on Jan 1. When I begin to hear this much widespread panic, a little bell goes off in my head. Not a warning for fear but rather a warning for opportunity.

Very typically the markets will not reward herd mentality. What I mean is when the majority of investors and news feeds are leaning one way or another, for example on the Fiscal Cliff issue, there becomes more opportunity on the other side of the spectrum. If the majority of participants are all selling, then at some point there are no more sellers left and the opportunity to buy becomes greater than selling. With all of the negativity surrounding the cliff deal, it just seems to me that everyone is expecting the same outcome...A No Deal.

When everyone is expecting a possible outcome the markets will adjust for the expected result, in this case everyone thinks we are headed over the cliff and the market has held itself back from reaching new highs. This is where the term "priced in" comes from. Someone will say the market has "priced in" a No Deal on the Fiscal Cliff;  what this ultimately means is that the market is prepared for the No Deal by congress and that most of the damage (in terms of lower stock prices) has already been accounted for. Therefore we likely will not see a crash as a result; crashes occur from surprises, not widely expected events.

My warning bell has notified me that we could see a surprise result in the opposite direction of what everyone else is expecting. Now I am not positioned heavily in one direction or another, but I am also not panic selling the positions I do have; I am actively looking for good opportunities this mini panic has created. It is NOT a good idea to try to guess the outcome of an unknown event and bet for or against it; guessing and gambling are not part of my plan. What my plan does do is get me positioned to take advantage of what the price action shows me to be the best possible decision. The recommendation I am giving is to not panic along with the herd, but also don't try to anticipate the result of this decision. Full disclosure I am roughly holding 1/3 stocks and 2/3 cash; I am holding onto my strongest positions and prepared to add to those holdings should the result I'm expecting come to fruition. I think it is most prudent to hold some stock and some cash in this moment of uncertainty. I don't want you heavily leaning one way or another until a decision is actually announced and settled. 

However, the market does not care about my opinion or anyone else's, it will do as it pleases and we are merely along for the ride. That being said investing and trading are not so easy as just going along with what the news tells you to do, if it were everyone would be a millionaire. The market is full of tricks and we have to be prepared at all times for reactions that we do not anticipate. Initially if there is a No Deal outcome we will most likely see a knee-jerk sell off in the markets. But, I would consider that an opportunity to buy, not sell. Again, I may be proven wrong on this and as always I will obey my risk management.  

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