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Risk Part I: Why I Knew That October Was Going To Be a Nightmare For Investors!

  • Wall Street Rebel | Geoff Garbacz
  • 11/17/2018 9:44 AM
Risk Part I: Why I Knew That October Was Going To Be a Nightmare For Investors!
Over the  past week I was in Newport Beach to deliver a speech to the Family Office Association on risk. This got me thinking that I should do a series of articles on risk as well for Wall Street Rebel

Most investors whether they are professionals or individuals do not spend enough time on risk. At best, maybe 5% of their time is spent on this subject. The reality is that this number should be more like 25% especially as the stock market moves from "risk off" to "risk on". So as we get started on this review of risk, let's define it.

Risk is the possibility of loss or injury. If you are skiing a double black run after an ice storm, then the risk could be high to your body. If you are buying high growth stocks with P/E ratios of 40 or higher in a stock market that is no longer advancing, then the risk could be to your portfolio and losing money.

No one likes to lose money and that is why we have to spend time on risk. It is interesting that sometimes, risk is not a clear and present danger and then suddenly it appears, almost like a switch being flipped on.

In September, the research of Phil Erlanger told us that the switch was about to be flipped to "risk on". Why? Quite simply the percentage of Type 4s was rising in a stock market that was hitting new highs on the S&P 500. Once the Type 4s for the the market get above 10% it usually time for the fireworks to start.

What is a Type 4? First, it is a stock that is lagging the return of the S&P 500. So if the S&P 500 was up 10% and the stock we were looking at was up 4%, then that would be a laggard. This is the first criteria of a Type 4, a technical pattern is lagging the S&P 500.

The second criteria is that no speculators are shorting the stock. Either they think that the company in question is executing or they think the sector and or the market are too strong to try and short.

September saw many stocks become Type 4s in Phil's work and as such we put our clients on notice. Time to move portfolios from "risk on" to "risk off". The great thing about tracking the Type 4s is that when they begin to rise typically we have time to make adjustments while others are still buying stocks. In other words, we get to sell before a panic starts.

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The chart above shows several times over the past few years when the percentage of Type 4s rose with a rising S&P 500 and what happened afterwards. 

This indicator is pure money and worth the price of admission to Phil's research. One can not afford to be blindsided in a market where in a matter of several days one could see their portfolio drop between 5% and 10%.

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