Dow Down 366.94 Points

The Dow just went down 366.94 points. When the Dow was making its new high early this month, there were all kinds of bull stories, for example from people like Larry in the following video, saying the bull was strongly back in control and citing that the index was on its way to 14000, 15000, etc. October has almost always been a very good time for stock markets. Instead of blindly following the crowds (or herds?) and tradition, I decided to stay away from the markets and I published a very, very brave contrary view:

which can be found in I am not a Pessimist!. Now with a few weeks of hindsight, here's the reality:

• The Dow bounced off very strongly soon after I published my contrary view -- it has now lost more than 560 points!
• The new high in early October was never confirmed by the Russell 2000 futures and the S&P 500 futures was on an immediate reversing course as soon as it got through its resistance set in July/August by a few ticks during intraday. The new high of the Dow in early October was indeed a bull trap -- and you heard it from here first!

This is what on the front page of Yahoo! Financial: "Stocks Plunge Nearly 375 on Recession Fears." The dreaded R-word is still making headline. Bank of Amercia's profit was disappointing, Wachovia's 3Q profit dropped 10%, Caterpillar said weakness in construction could spread to non-residential markets, etc.

Had I come out at that time and said "hey, no more recession fears, the Dow is making new high and the bull is back in control, buy buy buy...", I will be looking like a complete idiot now, wouldn't I? No, I didn't suggest buying into stocks -- doesn't mean that I am all bear in all stocks though, just that you have to be very, very selective and know what you are doing in a time like this. I suggested to look for a risk-conversation spot to short the futures equities indices and buy commodities (Gold and precious metals) in cbox:

• Gold was trading at around 730 when I suggested it.
• Now it is trading at 769.20.
• In money terms, it means you would have made a whopping $3920/contract in the Gold futures market for an investment of just $2025/contract.
• That's a return of 193.58%!

If you had been following the herds and long the Dow futures, you will have made a huge, huge loss! The Dow futures is now back to the level before the big Fed rate cuts!

Let me share this video with you recorded on the day when the Dow was making its new high in early October. Is a conversation between an ordinary herd and a money manager who truly understands the problems his country is facing.

The big Fed rate cuts were an attempt to bail out the financials which made bad, irresponsible, and losing bets on subprime mortgages in order to postpone an immediate recession. It was like giving an alcoholic another pint of beer! It was done by playing down the risk of inflation, which was not shared by the ECB. On the 11th of October, ECB governing council member Axel Weber said the bank may need to raise interest rates to a level that restricts economic growth to keep inflation under control. "If risks to price stability are threatening to materialise, monetary policy can't lose sight of its primary mandate -- even if that means no longer supporting the robust economy or becoming restrictive,'' Weber, who also heads Germany's Bundesbank, said in the text of a speech in Munich. There may be an "additional need'' to raise interest rates, given the "expected acceleration in euro-region inflation over the coming months.''

US unemployment is still growing in % terms, though an adjustment to the birth-death model in the latest jobs report did make the employment head counts looking better. The reality is, official figures are often manipulated, tuned, and adjusted. Be very careful with what you are reading. Look for thoughts and wisdom that could stand the test of time. Learn from the winners, from those who truly understand how financial markets work, not the journalists and mainstream media.

Though the Dow is still nominally kept above 13500 at the moment, its actual value has gone down by more than 15% due to the collapsing dollar, as described by Peter in the above video.

Even though the total number of subprime and Alt-A loans is only 20% of the total market, it is more than 60% of new home buyer loans and it is the new buyers that set the prices for housing, not the people who already own houses. This is an obvious but important fact that is often ignored in discussions of the effects of the subprime meltdown. The subprime problem has led to a great deal of foreclosures this summer, but the worst is yet to come. In early 2008, ARMs sold to subprime borrowers will begin to reset to an even higher rate, forcing even more homeowners to abandon their homes, pushing house prices even lower, leading to more defaults, foreclosures, and further decline in construction. The total figure of foreclosures in the quarter could be as much as the total figure in 2007.

Money printing could probably work for some asset classes, for examples precious metals and commodities in general, but not for others, for examples housing, US equities measured in gold terms, and not for the economy. Either you believe that the expansionary monetary policies of central banks will lift asset prices further or you take the strongly contrarian view that they will not and deflationary pressures will eventually be in play.

Some quick points:

1. Be very selective with what stocks you are buying, stay away from companies with US exposure. Don't buy a stock because you think the Dow is going to go up tomorrow.
2. Look for value, look for those associated with commodities, energy/alternative energy, and infrastructure that will enjoy tomorrow's growth. Take a long-term view.
3. If you own Gold, there's a slight possibility that the current bull run could be coming to a temporary peak. You can trade the volatility if you have the correct skills of market timing. However, I suggest Gold owners not to let go all their Gold for short-term gain. I am expecting Gold to go beyond $1500 in the coming years -- Yes, $1500!
4. The down fall of dollar has been going on for some time and could see some bounce action soon, as described by Jim Rogers here. Sell your dollar denominated assets into the rally.
5. For aggressive traders, the China and Hong Kong markets are pulling back due to the arbitrage scheme allowing share swaps between shares traded on the mainland and in Hong Kong. If you are going to ride the China and Hong Kong bubbles before they go bust, this is a good time for a rather risk-conservative entry. Still, be careful! Is your money, not mine. The easiest way to do this is to option trade or long the major indices. Trail stop once you are in a free trading position.

I am writing this in a room somewhere in Europe at the moment and will be flying out to Shanghai in a few days time. I will probably be completely offline until early December. Sorry that I really have no time to respond to all the comments. I need to hit the bed now, got a birthday party to attend tomorrow. Yeehaa....