Chris Lau - Seeking Alpha

Saturday, June 20, 2009

Psychology is Everything...Fundamental Analysis is Everything...Which is it?

Ken Norquay posted his views on the current market sentiment. He recently published the book "Beyond the Bull." I had the privilege of winning a copy of his book at one of his company's investment seminars. It is a very good book, because the author illustrates the relationship between market cycles and investor psychology.

I recommend this book, and also caution you not to simply judge a book by its cover: the publisher (?) did not appear to spend much time on "prettying up" the cover.

Norquay uses technical charting as one way of gauging the market sentiment. He does not use charts as the only way to analyze companies.

When I read his most recent blog entry, it reminded me of my correct early call late last-year that "Obama-rama" would be a disappointment. Norquay reminds us that the latest wall street marketing to spin a miraculous "Green Shoot" recovery is built on false hope. I would agree on this viewpoint.

It would appear that the positivity today is based on the positivity of the market, and not solidly on fundamentals. I remain weary about the health of the market, because of the impending troubles that will result with the maturities for option ARMs (adjustable rate mortgages) and for CREs (Commercial Real Estate debt).

We are in constant contact with ordinary investors and stock brokers. And right now they are REALLY BULLISH. It seems that most of them were fully invested in the stock market at this time last year, June 2008. Within 5 months they had lost 45%! Winter of 2008 and ‘09 was a long painful financial experience for most of them. But spring brought new hope. ‘Midst news of increasing unemployment and GM’s bankruptcy, the stock market rallied. Analyst after analyst talked about the market “climbing a wall of worry.”

Review: “Climbing a wall of worry” refers to a phenomenon that occurs at important bottoms in stock market cycles. Economic news is so bad that the investing public worry that the economy is getting worse and the stock market will continue down. In other words, the stock market goes up, but investors do not believe it… they are too worried.

Is that what’s happening now? That’s not what we see.

What we see is “don’t worry, be happy.” It started with last year’s lightning losses in the crashing stock market of September 2008. People were shocked! Then came Obama-mania: hopes that the new president’s stimulus package would somehow save us all. Surely a new economic age had begun: surely the economy would rise like a phoenix out of the ashes of America’s fallen corporate giants. Then came a normal bear market rally: March 9, 2009 to now. The Canadian stock market has retraced about 40% of its 2008/9 drop; the US market about 30%. This rally has both Canadian and US investors breathing a huge sigh of relief. “Another four or five months of this and we’ll break even for the year!” The latest stock market buzz-phrase is “green shoots.” These are the early signs of economic recovery: the green shoots of spring, growing out of the icy soil of winter… optimistic hope that the worst is over and the recovery is just around the corner.

That’s not a wall of worry. The wall of worry is about investors NOT believing that things are getting better. In June 2009, investors think [hope?] things ARE getting better. They think they WILL make back the money they just lost in 2008. If they are worried at all, they are worried about missing out on the recovery.

When the 2008/2009 bear market finally does end, the first move up will be met with an attitude of disbelief. Investors will have a bad attitude toward the stock market. The green shoots they see now will be replaced by the green light they don’t see.

Psychology is Everything...Fundamental Analysis is Everything...Which is it?

It is both. The phrase "I want to have my cake and to eat it too" comes to mind. We are told you cannot have one without the other, and that a sacrifice needs to be made to get one thing at a cost of the other.

Market pricing is based on psychology. Fundamental analysis is based on security analysis. Is it possible to analyze solely on a balance sheet, or solely on what everyone else is thinking?