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Thursday, December 18, 2008

Would You Like Some Good News?

"How do you know it's something bad? Maybe it's something good." - Chinese Parable

Today, I decided upon a longer blog text entry.

I'd like to share with you a Chinese parable that I heard some time ago. It relates to the current economic disaster we find ourselves in. It goes a little something like this:

"Many years ago, there lived a very kindly humble man in the land of China, or the "Middle Kingdom" as it is known. This man loved two things in his life. The horses that he bred and kept in his care, and his only son. However it was his son, above all else, that he treasured in this world.

One day, the stable door was left open, and one of the kindly old man's favorite stud horses escaped. When his neighbors heard the news, they came to comfort the old man. "We are so sorry you have had such terrible fortune", they told him.

Oddly enough however, the gentle old man was not angry or upset. He replied to each of them: "How do you know this is something terrible? How do know this is something bad? Maybe it's something good!", he said.

Well, only one week later, the stallion came back. But when the stallion returned? He had a beautiful, healthy and valuable white mare with him. Once more, when his neighbors heard the news, they came to the old man's home. This time, to congratulate him.
"What wonderful luck!", they told him. "Not only has your valuable stallion come back to you? But now you have an even more valuable mare for your stallion to breed with! You will come into even more wonderful fortunes!"

But the kindly old man simply replied: "How do you know this is something good? Perhaps this is something bad". Puzzled, the neighbors left.

Well, shortly thereafter his son was riding the new, valuable white mare. The mare slipped and fell upon the mans' son, breaking his leg. From this time forward, the mans son always walked with a limp.
And again, the neighbors came to the old man to offer their sympathy for the "bad luck" that had befallen his beloved son. One of the neighbors even suggested that the mare should be killed, for visiting such "bad luck" upon his family.

But the old man simply smiled and once again replied:
""How do you know this is something terrible? How do know this is something bad? Maybe it's something good!", he said. At this point, his neighbors thought that the old man had simply lost his mind. His son was lame! What good could come from such a tragedy?

Two years later an enemy invaded the country. All of the old man’s neighbors and their sons were drafted to defend the country against the attack. Because the old man’s son was lame, he did not have to join in the fighting. The war was very bad, and most of the old man’s neighbors were killed. But because his son had been hurt by the white horse two years earlier, he was spared."

The above parable is obviously used to teach the lesson that we never know what the future will bring. Life is filled with good and bad. Twists and turns. And each twist, can bring about the unpredicatable.

So what good news is on the horizon in the midst of all of this "bad"?

The Volatility Index (VIX) is Dropping: This is the best piece of news I've seen for some time. Generally, when the market is undergoing economic upheaval, the volatility increases. One sign that the market is trying to find a 'bottom', is when the volatility begins to decrease. Traders may enjoy the extreme swings? But Investors hate volatility. For investors, the quieter? The better.

Now, of course, we are in the midst of the pre-Christmas 'quiet'. Before a holiday, generally the volume tapers off, along with the volatility. But if you look to a chart of the VIX, you will find that the volatility has been dropping steadily, since it's peak last month.

(Click to Enlarge)

As well, the moving averages are showing a change in trend. I would be even more encouraged if the VIX can reach 28. Not that I consider a VIX reading of 28 as 'healthy'. That's still too high. But 28 would show a definite change in trend on the VIX, or what some call "The Fear Index".

Also keep in mind that the stock market is usually the first one into a recession, but it is also the first one out. I often tell ones that in the midst of the Great Depression, you should have been investing with stocks in 1932. During the midst of the worst of times for the general economy. Now, of course, I must insert my disclaimer here.

I'm not saying that we're at the bottom. But I do believe that the market is trying to weed out all of the garbage. This is a good thing. When the market has forced the garbage out into the open? When the 'stock market garden has been properly weeded'? Nothing but good, healthy corporations are left.

And I am not closing my eyes to reality. I understand that there may be plenty of more pain to come. I'm very concerned about the high number of ARM mortgages that have not yet reset in the United States, and are due to reset in 2009; and the possible foreclosures this could bring to an already depressed housing market. And I am of course concerned about the state of U.S. manufacturing and consumer spending.

However, amidst all of this 'bad', I do keep my eyes on signs that a bottom process is developing, so I know when to take 'nibbles' into the stock market. A decrease in the VIX is one such encouraging sign.

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Note: This is not an investment or trading recommendation. The losses in trading can be very real, and depending on the investment vehicle, can exceed your initial investment. I am not a licensed trading or investment adviser, or financial planner. But I do have 12 years of experience in trading and investing in these markets. The Challenge accounts are run for the education of other traders who should make their own decisions based off their own research, and tolerance for risk.

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