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Be careful what you wish for: distressed markets may become a ‘brutal’ bear market

Posted by Adrian on March 4, 2009

When markets decline heavily as they have, as a trader you try and look at the opportunities that may arise from a depressed equity market. The problem with this so called financial crisis is the volatility is just so widespread and market declines are constant over any rises, why? Market confidence has been shattered and now sinking into a psychological fear of personal wealth decline. So investors are now generally sitting on the sidelines, a good example is Japan with the stock market trading at 27+ year lows, the Japanese government is now considering buying stocks (to bolster retirement funds); a crazy notion, but a good example of how the private sector, investor and person in the street is now in survival mode.

In my opinion for about 4 years (from 2004 to 2007) markets were overvalued and a correction was in store, several declines or corrections occurred prior to the massive sell off in November 2008. The huge 2008 sell off was predictable, but knowing when that sell off was going to occur was hard to factor in; despite lies and illusion based talk from Federal Reserve officials and US politicians (European policy makers were just as bad) . If you followed the markets/and economy carefully, you would have seen massive de-leveraging taking place after a slew of bad news coming through from the banks, this occurred from 2006 right through into 2008 (the credit crisis). So it set the stage for a huge sell off. The Lehman Brothers failure in 2008 of course was the prelude for global stock markets to collapse in November 2008.

There are two potentially diverging theories on the markets at the present, one that markets will bounce back from their November 2008 lows (as they have been so severally sold off), or we see further declines into 2009. What ever the case, I still don’t believe that a substantial rally from the global indices can occur at this point. What we may see is huge amounts of volatility continue as ‘creative destruction’ removes a lot of companies from the face of the earth, and government intervention into the markets is leaving countries very vulnerable to economic and geopolitical shocks. This is all going to weigh on the markets, so further declines may all but be part of a more brutal bear market forming, one that could even surprise the bear commentators. So the market is a disaster zone. In saying that, markets do eventually recover; what this market will recover into is hard to say. But the global economic and general society well being is and going to face huge challenges in the future, from oil, water to environment, geopolitical and health concerns (viral). So a strong recovery may seem very unlikely in the near term.

The markets as they are now, is set up for short term trading. That means shorting indexes, puts and calls on currency derivatives/stocks, trading currency and so on. This is nerve racking trading, but the only form of trading that can be done in a volatile and challenging bear markets. The distressed assets and long term opportunities are hard to find, only because as mentioned earlier, we may see a lot of asset/company destruction in the market before a bottom is found. A good example is the car industry, at some point the US government who essentially has become a drug dealer to a problematic addict. May eventually have to let the addict go, if there is no return or payment on pending restructured assets. Once well known companies could disappear, because the governments of the world have become paranoid trying to support asset prices, any cash addicted zombie company that does die; might open up for a lot corporate failures on a broader front. This will again cause the markets to slide further into the red, as mentioned this could be defined as a brutal bear market, with sproatic bear market rallies and sell off’s into lower territory.

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