Bob O'Brien
Head Instructor
bobrien@mywealth.com
As I write this article, the US Stock market is up 8% on the week! Wow! But will it last? This is most likely just a bear market rally. This means the overall longer term trend of the market is bad and these are some short term corrective gains along the way.
First of all, the banks rallied and led the market higher! Even though the bank stocks have been battered and beaten to a pulp, they are not going to go away. We need banks and we can’t let them fail! Some of the bank stocks went so low that they just couldn’t go any lower! One of the worlds’ largest banks, Citibank (C) fell under a dollar per share! Check out this WSJ article from Tuesday.
In addition to that, the bears got tired! Remember, that there only so many buyers and sellers in any market at a given time. When you run out of sellers, the prices either stabilize or start to go up!
We have seen this same dynamic in the real estate market. When the real estate bubble formed, we had way too many buyers and not enough sellers. All these buyers were bidding up the prices. We now have way too many sellers and not enough buyers. The buyers can therefore lower their bids and sellers accept them because they want to sell.
(Note: The currency market is no different. Check it out with a free demo!)
How do you think the stock market will perform in this coming week? Tell me what you think it will do and why. I will then be giving out three Investing Courses for free for the best answers.
So take a shot you have nothing to lose!
Finally short sellers covered their positions! It is important that we understand the effect of short selling and how it creates swings in the stock market.
First, you need to make certain that you understand short selling. So let’s go through an example. Forget about stocks for a second and let’s says that you think the price of cars or TV’s are going to drop by a lot. You want to short sell them because you think the prices are going to go down.
You go out and borrow cars/TV’s (please use your imagination a little!) and you then sell them immediately! The prices then drop as you expected and you then go and buy the cars/TVs' at the lower prices.
The bottom line here is that if you borrow something, sell it and then buy it back at a lower price, you make money!
In stocks, however, you have to return the borrowed stocks to the people in which you borrowed then from. It is a lot easier to borrow stock certificates through a brokerage firm then it is to borrow cars and or TV’s. I would never lend my TV to anyone!
Why is this so important to know? Because if you get a lot of people doing this at any given time, they will first bring the stock market down after they sell all the borrowed stock (more sellers than buyers). Then they will bid the price up when they sell it back in order to return the borrowed stock. (Short sellers covered their positions by buying the stocks back to close the orders!)
“Short Covering” is a big part of bear market rallies!
This is important to understand in order to make certain that you understand what makes the market move. In fact, the market rallied 2% during the week when Congressman Barney Frank stated that that “the SEC would change some of the rules in regards to short selling!”
He stated that they will re-instate the “up-tick rule” which forced short sellers to only be able short something when the price is going up a notch first, therefore reducing the ability of the bears to hammer prices down and down!
Hey, is there an article that you would like to see written? Please e-mail me a request or any questions that you have in regards to the market. bobrien@mywealth.com
Sincerely,
Bob O’Brien
Sr. Instructor
