April 12, 2002
A fast note: One of my favorite indicators, the Arms Index (or TRIN), has flashed another bottoming signal. I have discussed the TRIN in numerous articles (see links below) over the past few years; The mathematics are complex, but it is an infrequent and reliable measure of panic in the marketplace -- as such, an excellent contrary indicator.
I'll spare you the math, but the last 2 times I noted the Arms index flashing were September 22, 2001, and March 23 2001. These two indications -- reflecting a new "layer" of capitulation each time -- resulted in very substantial rallies over the ensuing 3 - 6 months.
I discussed with some of you what caused yesterday's panic -- The SEC probe of Xerox and KPMG made many investors nervous all the big 5 accountants might be "Arthur Andersons"; And the SEC investigation of IBM, and a broader brusher tarring GE, certainly scared the pants off of many.
Well, the SEC dropped the IBM investigation, and an article in the NYT shows that KPMG had been challenging Xerox on their accounting since 1996 -- Xerox demanded several partners be dropped from auditing them, and ultimately, KPMG was fired by Xerox last year after it forced the company to make some changes in its reported results. ("Did KPMG Stand Up, or Cave In, to Xerox?"). KPMG may not have been perfect, but they were not AA either.
So maybe the entire market infrastructure is not a total rat's nest of self interest and corruption. In the NYT article, the excellent Floyd Norris suggests that perhaps the system works (somewhat) after all. The system needs tweaking -- to be sure -- to work better; The uptake maybe that its not as awful as many panicked investors may believe in their worst nightmares (I know, this is cold comfort -- Its BAD, but not THAT bad).
It takes a crises to provoke change; I suspect we will be getting many overhauls in Securities laws, between now and the mid term elections. There's even some good news on changes in Insider disclosures ("S.E.C. Seeks Tighter Curbs on Insiders").
Two Caveats: My experience with the Arms Index is that it foretells a bottoming and rally anywhere from 1 to 20 trading days in advance; That may caution you into scaling into new positions gradually over the next 3 weeks -- a prudent approach.
Second, the Nasdaq may be oversold, and it could experience a strong move upwards -- But beware of the pricey and over-owned big cap techs as no more than a trade (another words, don' t be pigs); Use the lift over the next 60 days to exit holdings you want or need to get out of. Longer term investors are better off in the Energy, Health Care, Consumer Staples, Cyclicals, and Manufacturing Sectors for positions they want to hold on to.
Previous commentary on the Arms Index:
Six months later: A real recovery, March 11, 2002
Post 9/11 Market Reaction, September 22, 2001
Ten Reasons to Start Getting Bullish, March 23, 2001
-Barry Ritholtz
April 12, 2002
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