Sunday, March 08, 2009

Today's Stock Market Slide is Even Worse Than That Seen During the Great Depression (Day for Day Comparison Included)

Donald Luskin at Smart Money wrote an article titled "Even Worse Than the Great Depression." The article is critical of the Obama administration's handling of our economy's woes. I'm not interested in the article for this aspect. I'm interested in it because of the chart overlay comparison of the S&P 500 during the Great Depression and today's stock market.

The article states:

As of March 5, "the S&P 500 has lost 56.4% from its all-time highs 513 days ago. At the same point in the bear market associated with the Great Depression, that is at the 513 day mark, the S&P 500 had only lost -- only! -- 49%. In other words, to be no worse than the catastrophe that happened to stocks in the Great Depression, the S&P 500 today would have to rally 17%."

This is troubling information given the fact that during the Great Depression the administration did little to stem the free fall. Yet during this depression our administration is pulling out all the stops trying to stem our economy's free fall.

Continuing with the Mr Luskin's comments: "Looking forward, if stocks are going to continue along the same bleak path they followed during the Great Depression, then I have good news and bad news. The good news is that we're halfway through it. In the Great Depression, the bear market lasted 997 days. We passed that halfway mark two weeks ago... Which brings me to the bad news. By the time the bear market was over in the Great Depression, on that 997th day, the S&P 500 had lost 86.2% from the top. To match that, we'd have to fall another 68.3% from here."

In my 401K i'm bracing for up to a 40% free fall from current stock market levels. I'm thinking hopefully that our government's efforts to throw good money after bad will eventually halt the economy's slide. To brace for a 40% stock market slide, i'll invest no more than 9% of my 401k in the stock market (at its current levels). That way, a 40% loss absorbed by 9% of my 401k equals a loss of 3.6%. Given the fact that the rest of my 401k is invested in government bonds, my net return would be near zero. Meanwhile, a position in the stock market exposes me to some upside if the stock market has a short term rally. If that occurs, I would quickly unwind (sell) any 401k equity (stock) position. I have not yet bought equities in my 401k, but I am now considering switching from 100% govt. bonds to 3% equities when the Dow Jones hits something between 6300 and 6500.

Here's the chart overlay comparison between the S&P 500 in the Great Depression and today. The blue corresponds to the S&P 500 during the Great Depression and the red corresponds to present day.

Over the next 15 months I plan on earmarking roughly $20k in a regular brokerage account for investing in the stock market. This $20k will only be used if the stock market hits a low similar to that of the Great Depression. If that happens, I'll likely set up a simple portfolio of 2, 2.5 and/or 3x bull ETFs, using Direxion and Proshare ETFs. There are no 3x bull ETFs noted on the preceding Direxion and Proshare links. Examples of 3x bull ETFs include: Direxion Dev Mk Bull 3x (DZK), Direxion Sm Cap Bull 3x (TNA) and Direxion Lg Cap Bull 3x (BGU). Conversely, if the market rallied 10-20% from its current levels I would establish positions in 2-3x bear market ETFs. A decent article about Direxion 3x ETFs and their characteristics can be found here at the site "seekingalpha."

A larger chart comparison of the S&P 500 can be found at Luskin's article here.

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