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FACT: It's Almost Impossible To Time The Stock Market

Stock Prices Already Reflect News Bias and Exaggeration

March 1, 2008       Leave a Comment
By: Jerry Cole - Retirement, Investment

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One of the most consequential elements we face in investing , or in life for that matter, is to know when the information we are about to act upon, or have just acted upon, has been "discounted" by the other side of our transactions. For example, if we wish to sell our GM stock because we think the news will be that Toyota has taken GM's place as the number one automobile manufacturer in the world and others have already sold, the price of the stock has already "discounted" that news. In other words, the price of the stock already reflects any bias or exaggeration the news may have.


This is why it is impossible to time the market ...you don't know when the other side has already discounted the information you are acting on. At the moment it is difficult to determine if the market, as measured by the Dow Jones Industrial Average, has discounted the steady stream of bad news that has come down the pike. To be sure we have seen much volatility with violent moves in both directions. But you have to note that the market has traded in a somewhat narrow range of about 4% for the last four weeks. Is this telling us the market has now discounted the bad news?

As you know, when we speak of the market we are speaking of the Dow Jones Industrial Average. However, "Industrial" may be a misnomer because of the 30 stocks that make up the average, less and less are truly industrial. As of February 19, 2008, the average changed its lineup for the first time since 2004. It added Bank of America and Chevron, replacing Altria Group (the old Phillip Morris) and Honeywell Int'l (maker of aircraft components).

Bank of America is now the largest U.S. bank by market value, and Chevron, the second-largest U.S. oil company after Exxon Mobil Corp. The changes were made by Marcus W. Brauchli, managing editor of The Wall Street Journal, who oversees the composition of the Dow Jones Industrial Average. When a change is made, the other stocks in the average are reviewed as well. According to Mr. Brauchli, changes are made to make sure the average "reflects the market as Charles Dow intended it to."

Apparently, Mr. Brauchli felt that the Dow needed more representation among financial stocks and less among industrial companies, to reflect the composition of the economy and the market. The stocks chosen for the average are meant to be those of blue-chip companies with staying power as leaders in their businesses. However, Bank of America becomes the fifth financial company in the average along with J.P. Morgan Chase, Citigroup, AIG, and American Express.

Now you look at the financial headlines this year and what companies do you read about? You read mostly about all of the above financial stocks that's what! The massive write-offs these companies have been forced to take would rattle any market. Some of this is due to accounting rules which were instituted back in the Enron era. These rules require companies to value many of the securities they hold at whatever price prevails in the market. Trouble is, when the market begins to fall, forcing banks to take write-offs, it pushes the market lower causing more write-offs and then you have a real domino effect.

The latest of these came Friday when insurance giant American International Group (AIG) announced an $11.1 billion write-down that led the firm to post a $5.3 billion loss for the fourth quarter, the biggest loss in the firm's 89-year history. Also rattling the market on Friday was a report by UBS that said losses among financial institutions could top $600 billion as the turmoil in global credit markets continues to unfold.

Despite all these developments, many investors doubt that firms like AIG will suffer the full force of the losses they are now booking. Instead, these investors argue that the market has overreacted and will recover once the current panic subsides. In any event, you have to be careful not to let the problems financial institutions are having influence your decisions about all your other holdings. We now have a bias of financial stocks in the Dow Jones Industrial Average. Be sure to take that into account when evaluating your portfolio.

Meanwhile, remember to keep your risk within your tolerance and keep ahead of inflation.

I invite your questions.

Or Contact Jerry Cole at:
509 Center Ave, Suite #102, Bay City, MI
(989) 892-5055

(The opinions expressed are solely those of the author and not Gen worth Financial Securities Corporation.)



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Jerry Cole - Retirement, Investment

Jerry Cole has been a Financial Planner for almost 30 years in the Tri-City area and holds and MBA from USC.
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