9 out of 10 Sleep Deprived Octogenarians prefer base jumping over cliff diving. Who knew?

Posted on January 2nd, 2013

So, Congress decided they preferred base jumping over cliff diving! You may not have heard of base jumping. It is where an extreme athlete jumps off a cliff (or mountain or office building), free-falls for a few seconds, and then deploys a parachute. The jumper then lands on solid ground at the base of the cliff.
Like base jumping, cliff diving is also for extreme athletes. But cliff diving is not the same as base jumping. Cliff diving occurs on cliffs that over-look water. Usually the water is rocky and dangerous to land in. Often, you need to monitor the waves to time your jump. And, there is no parachute involved.
Congress picked base jumping yesterday. Congress deployed its parachute to slow our country’s descent and make the austerity we face a little less ‘daunting’. That is what they did with the legislation they passed yesterday. On its surface, it seems like base jumping is a better alternative to cliff diving. It seems safer to have a parachute, right?
But it seems like Congress decided to base jump off a cliff that over looks the WATER. In other words, the base jumper and his parachute are going to land in the water. For a base jumper, this is not necessarily a safe place to land. A water soaked parachute can drag you right to the bottom. Plus, the water could be dangerous and the rocks around the cliff still do not look friendly. The uncertainty of getting out of the water without getting hurt seems high.
Okay, I have dragged out this analogy far enough. Let’s analyze what is really happening here. The market is rallying because Congress elected to soften the impacts of the fiscal cliff. The austerity of tax hikes for everyone and deep spending cuts was viewed by everyone as just too much for our fragile economy to handle. Delaying the cuts for two months and softening the tax blow for 98% of the tax base is viewed, for now, as a reasonable compromise by the markets.
But is the rally really justified? Let’s remind ourselves of a few things. First, this legislation doesn’t change anything about our economy. It just makes it so deep austerity won’t immediately kick us in to a recession. The economy is still fragile.
Second, this market rally today just does get us back to … da da da-da … the same level the S&P 500 sat at on Sep 30th, 2012. That’s right. We are flat for the last 3 months.
Third, the earnings season that kicked off in October 2012 was weak – and forward guidance was weak. We are entering the new earnings season in the next few weeks and it is one of the most important seasons we will experience in quite a while. If earnings are weak to average yet again, it will just confirm for everyone that our economy (and the global economy) is still fragile – AT BEST!
I think this market rally has to subside a little bit. It is hard to believe that the market rally can have legs AHEAD of an earnings season that holds very little promise of out-performance. To drive this market up NOW would be a bet on the earnings coming thru to justify this valuation. I am not a believer that the market will get ahead of itself this close the earnings season. It might as well move sideways and wait out the earnings season before deciding how to move – up or down.
And let’s not forget that Congress just affirmed legislation that implements austerity. Austerity is not for countries that feel great about their forward economic outlook. It is for countries that lack visibility and certainty about its ability to grow its total economic pie. When the market starts to realize that austerity is a mixed blessing and earnings affirms a weak recovery, the market will likely become a VERY range bound entity.
One thing is for sure: ultimately, this will need to be a VERY watched earnings to get a read on our economies output. 

Posted in not categorized    Tagged with no tags


Jim Chafin - January 2nd, 2013 at 2:10 PM

Some guidance on how and when to reset a portfolio hedge when the market has rallied will be helpful.
- January 3rd, 2013 at 10:06 AM

That is a fair request.

In general, we hedge with longer term put options that expire several months from now. In fact, we recommend regularly in this blog that you have your protection laddered.

An example of a ladder: 1/3rd of your protection expires in 3 months, another 1/3rd in 6 months, and another 1/3rd in 9 months. Ladders can be structured with more rungs and could be shorter or longer in duration.

Instead of trying to time the market and guess when it has hit a top or bottom, we instead just roll when the ladder hits its expiration.

December was a common expiration of a portion of the ladder.

If you are setting your protection levels now because the December ladder rung has expired, we would recommend you set the protection at higher than usual levels - given the uncertainty in the market.

Leave a Comment