Recently our investment team has been discussing the possibiity for a cyclical bull market correction, and preparing ourselves for the waters to get temporarily choppy. The thought was that sentiment had gotten frothy and that many positions were way extended over the 200 day moving average. Heck we’d only had two major corrections during this huge run in the market, and they were about 7-8% in magnitude. In our models we created different strategies we might pursue if the correction unfolded. For our very aggressive clients we were preemptive and pulled about 10% of equity positions out of the portfolio on April 29th. For models with less risk, we planned sales of treasuries and potential equity buys to augment exposure on a dip.
The 200 day moving average seemed to represent a good target for the correction we were looking for, since it’s the long term moving average and should represent major support. Coming into today we were still 6% off that mark and eyeing up the possibility that we might start to nibble as we approached the long term moving average. What we didn’t realize was that the market was about to fall right through the 200 day moving average in one day.
The markets started down on riots in Greece, oil spill angst, and a surprise that the ECB has not yet considered quantitative easing. Things looked orderly through midday, but at about 2:00 things began to accelerate as computer selling kicked in. Then, at about 2:45, the market simply imploded, as the S&P 500 dropped by about 50 points in 5 minutes, and was down by about 100 points on the day (below the 200 day moving average at that point)!!
With a mini panic on, we quickly went into action, and Sean Dillon calmly executed some sales of bond positions that were rallying hard (5+% at one point in the TLT) on the fear present in the markets. We also had planned to begin buying back some high volatility positions in our most aggressive models, and were able to buy a high yield ETF that had plummeted 7% during the malaise. It turned out that the most precipitous part of the drop was due to a trader error and markets quickly rocketed back off the lows, eventually closing the day back over the 200 day moving average and 37 points down on the S&P 500.
Years ago Louis Pasteur said that chance favors the prepared. In this case, our forward thinking strategy and ability to execute in a nimble fashion prepared us to execute trades that dropped right into our lap.
