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Been a while since I have done a good ole psychological article on the market, but no better time then now.  With stimulus soon to be passed, blow out NFP numbers and calls for a 6% GDP growth rate this year, it seems that the market is simply going to continue higher.

Don’t confuse brains with a bull market – Humphrey Neill

Over the past 10 years it has been a long bull market, and though we have had some 20-30% dips along the way, many have never experienced a Bear market.  Investors seem to have forgotten what a bear market looks like, or that even one is possible at this point, but it is, and when one hits, it is not a “V” shape recovery, it is not a 1 or 2 month market correction, it is a 18-36 month series of lower highs and lows.

But that does not mater, because everyone is making money in the markets, just look across the Facebook groups that post on stocks.  “What you buying Monday”, “Nio is on sale here back to $50”, and the list goes on.

However like every gambler, the longer bull market money is being made, cognitive biases such as the “Monte Carlo” or “gamblers” fallacies become an ever more prevalent mentality.  When the market starts to turn Gamblers start to “double down” use more leverage and this type of risk taking can lead to a bear market.

Hot Hand Fallacy

The market is full of those running hot, and this leads to the feeling of “I can’t lose” or the “Hot Hand Fallacy” ignoring simple probabilities that markets go for from bull to bear back to bull over a period of time.

As an example about 12 years ago I was playing poker in California at Club One in Fresno.  I was running hot, hitting everything, had built my stack up to about $1400.

Instead of doing the smart thing, getting up, cashing out, grabbing lunch and sitting back down taking my profits off the table, I kept on playing.

Boom pocket 6’s in the Small Blind. Someone 3 or 4 bet, there was a raise on top of that, and 2 or 3 more callers.  I decided to call because I was running hot hot hot.  Flop comes, 6,8,K rainbow.  Ohhhh boy, I am counting everyone’s chips in the hand thinking how much I was going to win.

I check of course, the guy on the button checks, one guy shoves with a much smaller stack, everyone folds, action on me.  Ignoring my surroundings, and doing the correct move which was to not be in the hand to begin with, I shove ALL IN.

One guy left, the BB had a decent stack a pretty fat one, not as big as mine, but definitely a chip killer.  He stops to think, then he speaks these words, “did you flop a set of Kings?”.  I immediately knew I was beat!

He thought back to the action and realized I did not raise pre-flop I only called, so he finally called.  Well he was right I did not have Kings, but the other guy did, and he had flopped a set of 8’s, so set over set over set and I was in last place.

An 8 oddly enough came on the turn, and he took a pretty hefty chunk of my winnings from me, I was down to just over $400.  Then as all bad poker players do, I didn’t get up and cash out with a small win, I doubled down, went full tilt and ended up going broke.

That changed my poker play forever, and I remember it as if it happened last week.  See I was running hot, I thought I was in control, I thought no matter what I was winning, but markets like poker are random, and probabilities eventually catch up with those who ignore risk!

Bitcoin

BTCUSD

Action is no different in the markets and we will start with Bitcoin as it MUST go up because after all, Elon, Dorsey and Saylor are jumping on the bandwagon it has to go higher right?

Sounds logical, but it is not indicative in price action.  Price action is throwing us a yellow flag, a caution sign to speak.  Based on the comments from my latest TV article, there is no way Bitcoin is going down, it can only go higher!

Maybe it does, but then again maybe it does not.   To be clear we have three swing trades in the crypto space right now, Bitcoin being one of them.  The fundamental principle of any trader, investor or poker player is capital preservation.  Don’t put yourself in a position to take a big loss.

With a swing trade our risk is defined 1% per trade, so even if all three trades are stopped out, our loss is 3% of our trading capital.  Say you have 10k for swing trading, that is a $300 loss, I can sleep well if I lose $300.

However many ignore risk and go all in exposing extreme risk to their portfolio.  They buy 10k worth of Bitcoin and the stop is 10% lower than the entry, so a single loss is $1000.  That does hurt.

What can compound this erosion is doubling down, and taking 3-4 losses in a row. Now your capital is at $6000 and you have to nearly double your money just to get back to even.

Technically Bitcoin needs to take out 52k and hold 44k.  Once again we are pushing into the 50’s but does it stick?  Maybe, but maybe not.  I like to take money off the table, so I have reduced my long term investment inventory, and am using the capital to trade around a position.

Say I sold 1 Bitcoin, that is 50k in cash to trade.  This implies a 1% risk trade would be $500.  IF I am wrong, I lose $500, big woop, IF I am right, I add another $1250 in Bitcoin to my inventory, assuming the reward risk is 2.5 or greater.

I have taken my money off the table, and I have tightened up my play as any good investor, trader, or poker player should do.  I understand bull markets correct, I have lived through 2 long drawn out bear markets, I have lost a huge sum of money at the poker table, and this tells me to take risk off the table.

Again if we are wrong and Bitcoin goes to 68k next week, I still have 65% of my original position, BUT if it pulls back to the low 30’s, I have cash to take advantage of those banging out their positions, that only think it goes higher.

Key levels 52k for bulls, 44k for bears, we are pushing 52k but until it is taken out, we may still be in a consolidation.

Nasdaq

NASDAQ

From 7000 to 14k in just under a year is a pretty amazing run for tech stocks.  However probabilities favor a reversion to the mean over time.

From the low in 2009, over the past 11 years now, we have had several 20% pullbacks (in blue) and two 30% pullbacks (in purple) each resorting back to the broader trend.

From the high a 20% pullback would be 11k a 30% pullback would be 9600.  Now whether this happens over a two or three month period, or 24 month period is still unknown, but we will get another reversion to the mean eventually.

The thing with Black Swan events, like Covid, is they come out of nowhere, they catch the majority of participants by surprise, this leads to large quick dips.

The dotcom and the housing market bubbles took 12-18 months before the market found a bottom.  Even the market correction in 2015 took over 6 months and it attempted to make a new high, but eventually it did revert to the mean.

I remember being in a small engineering office in the late 90’s 2000’s and many were bragging on the money they were making.

Many stocks were simply trading on hope, and when the market pulled back, many doubled down, but eventually the market reverted to the mean and those that could not lose money, lost everything.

 

Signs of a Bubble?

Ohh there are signs of a bubble everywhere, starting with SPACS.

Last year 248 SPACS entered the market accruing funding of about 83 billion in cash.

This year 289 SPACS have launched with 60 billion in funding, and we are only at March 7th.

This does not include all the speculative stocks in speculative markets like Cannabis, Electric Vehicles, and the many Cloud and SaaS stocks that are trading at just stupid multiples.  In the famous words of Prince “Party like its 1999”, but we all know what the hangover was like the next morning!

Are there signs that the bubble is ending?  Absolutely there are, a huge rotation into cyclicals, companies paying dividends, or with solid fundamentals and cash motes.

Only 4 years ago, Apple was trading at a Multiple of 10, its now above 30 and that is with the recent pullback.  Yet solid companies like an ABBV that pay a 4.5% dividend with a Forward multiple of under 9 are getting no love at all.

Everyone is chasing hot stocks from GME to AMC to whatever the new Wallstreet Bets stock of the day is, and this is going to end badly for most.

 

EV Stocks

EV Stocks

Many EV stocks are trading 40% or more off their highs, time to double down?  Hell now, there is a reason they are trading here, because most of them are crap.

Sure talks of China grabbing a huge percentage of the EV market with companies like NIO and LI Auto, but competition from all the dinosaur auto manufacturer’s is going to catch up.

Where is money flowing, to these hot EV stocks or traditional manufacturer’s such as Ford and GM which are holding up through the selloff?

Summary

Many are going to be buying the dip this week, and quite possibly the market does make an attempt at the previous high, but caution flags are waving everywhere, not just in Stocks but in Cryptos as well.

More stimulus, to be followed up by more stimulus, is already priced in at this point, to think it is not is naïve, just look at the prices of John Deere, Caterpillar and some of the infrastructure plays.

What we are looking to buy and trade are companies that are not getting hit here, pay a dividend, are cyclical stocks, not high risk ones.

In the end you can run hot hot and hotter for a while, but do not confuse a brains for a bull market, and if you are trading on margin, risks of being blown out are real.

This is not a time to be aggressively buying it is a time to sit and wait, be selective and realize you are only a flop away from a broader sell and that sell is going to be painful, whether next month or next year.  The more money on the table when it happens, the more painful it will be.

When this does happen, will you have capital to scoop up Real Estate, Stocks, possibly Bitcoin at discount prices, or wishing you had!

Everyone hates cash until they need it!

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