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How the Market Works

Mark Twain

Posted by kdadmin on June 10th, 2013.

Mark Twain once said, “There has been much tragedy in my life; at least half of it actually happened.”

Mark Twain could have been summarizing last week in the market. From the generally good news of the Fed’s Beige Book (Tuesday), to an improved employment report (Friday), the market actually had reason to celebrate. But, as usual, the market had to go through its crisis cycle to realize this fact.

The Fed’s Beige Book is actually an interesting read. It comes out 8 times per year, about two weeks before Fed policy announcements, and provides some insight into the data that the Fed could be using to base its monetary policy upon. It’s almost like a Fed leading indicator of Fed policy. It’s divided into 12 sections (for the 12 Federal Reserve districts across the country), which makes it a more interesting read when you find your local section. It’s also among the most “layperson accessible” reports that the Fed releases. Follow this link to the Minneapolis (9th) District Report.

On Friday, the Employment Situation Summary (Unemployment Report) for June 7th, 2013, was released. It showed the unemployment rate as being essentially unchanged (quarter over quarter), although roughly 175,000 nonfarm payroll jobs had been added. Follow this link to read the report for yourself. (Be warned, it’s dry as dust.)

Look at the attachment labeled “SPY”. This is how the SPY (an ETF of the S&P 500, in which nearly all of you are invested) responded.

spy

But even more dramatic is the VXX (an ETF of the volatility in futures contracts of the SPY which measures the difference in price between this month’s contract and next month’s). Look at the attachment labeled “VXX”. The red line is the VXX and the blue shaded region is the SPY.

spy

So, who cares?

You do.

Wild gyrations of the stock market can be “problematic” (costly), but well diversified portfolios can keep you balanced. The VXX can often indicate the amount of “fear” in the market. So, if everybody freaked out mid week, but settled back down by week’s end, it often indicates that market anxiety about a “major correction” (massive drop in stock prices) is back to the normal, lower (better) levels.

Lower anxiety is usually good for stock prices (they go up), and means the market is trading closer to actual values as opposed to grossly inflated or deflated prices that are more of a fear reaction to some market event. It generally allows investors to make better, more rational decisions.

As usual, your portfolios survived the storm better than the S&P. When all was said and done, the S&P swung by roughly 2.5% and your portfolios swung by 0.9%. Nothing like weathering a storm with less than half of market volatility.

Please feel free to contact me with questions. Otherwise, introduce me to your friends …

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