By Nieves Amigo
Date: Monday 25 Jun 2012
'Buy the dips, sell the rips', says Gerring Wealth Management founder Eric Parnell, repeating the old Wall Street saying. 'By buying low and selling high, investors can make money regardless of the broader market trend.'
However, Parnell points out that the stock market is widely unpredictable due to years of extraordinary monetary actions.
"Today we have a climate where stocks rise or fall dramatically merely on the desperate hope for another money printing fix from the Federal Reserve. If the Fed is applying balance sheet expanding stimulus a la QE, stocks float dreamily higher. But once the Fed printing presses stop, a nasty hangover for stocks quickly ensues."
Parnell says that the market is addicted to quantitative easing, which will make this summer's trading strategy "Buy the cascade, sell the charade." Following the Fed’s recent extension of Operation Twist, equities will "grind back and forth" says Parnell, who also warns that risks of greater economic and geopolitical uncertainty may shock the markets.
"While a crisis outbreak in Europe is the leading candidate, a destabilising event in the Middle East is also a distinct possibility. It could even be some other episode that is currently unforeseen by the markets such as the unexpected collapse of a systemically important financial institution, a geopolitical event such as a terrorist attack or even a natural disaster."
Any of these circumstances could send the market cascading lower like similar episodes in 2010 and 2011, says Parnell. "And once any cascade lower is fully engaged, this would likely be the time to actively consider buying into the market. This is due to the fact that the plunge lower is the required event for the markets to get the QE3 stimulus programme it so desires."
In an attempt to more precisely identify the best time to enter the market, Parnell says that the Fed usually steps in when stocks are 15% below their previous peak. "This would imply that the key range that would extract a QE3 announcement from the Fed would be a plunge to the 1,150 to 1,200 level on the S&P 500. Thus, this would be the range where one should consider buying the cascade."
In looking to find an exit strategy, Parnell points out that QE does not tend to produce a sustained recovery. He says that the temporary rally is just a "charade" and not "founded in any real substantive improvement in the economic outlook."
"During the past two stimulus driven recovery episodes in 2010 and 2011, the stock market managed to rally by +20% before encountering renewed headwinds that led to a period of consolidation. Thus, targeting a +20% charade advance from a cascade bottom would be a pragmatic approach in working to realize gains without overreaching."
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