Friday, March 18, 2005

Tsunami Basics

Ok, wave structures first, than the tsunami,

Gain and loss occur largely because of factors that effect an entire class of investment. A raising tide lifts all boats. To every investment there is a season, there is a time for stocks, there is a time for gold, there is a time for the investing in T-bonds. At least monthly check to see if any other asset class has more promise than where you are now invested.

Watch the waves come in, they keep coming, but like snowflakes, they are always different. Mark Twain said history doesn't repeat, it rhymes. The investment and poker worlds are full of history, joyful and painful. Don't trust to much in history as a measure of now. Two winning trades with IBM, or two big pots won with JKo, does not mean you have a special blessing when encountering them. The Human mind wants, even craves, order. We will find patterns where none exist. History feeds this pattern recognition hunger, to our bankrolls detriment. Yes, narrow lapels and thin ties will be back in fashion; but the materials and patterns will be different. Don't cling to ideas based on a few data points, clean out your mental closet.

Right now volatility is quite low in the stock markets, nice and calming. Like villagers rushing out in the bay for flopping fish when the ocean suddenly, inexplicably, recedes; investors are ignoring danger signs to gain a few basis points. That big beach may not be due to tide action, there could be a tsunami starting.

Markets explode up, markets crash down, and the small standard deviation of the short term can become a once every 50 years gigantic event. Like the small bets in a no limit poker game, they may be a lure to draw out your entire table stake. I had two straight flushes in one tournament recently. Those who ran into them with a normal nut flush can curse the odds, but they were out of the game.

My hands were the tsunami. We have all run into them. They also threaten your investments. My calls of small bets drawing for the uber nuts were a hedge that paid off. If you are in stocks, you need to hedge against a tsunami.

I'll not offer much direct investment advice in these posts, but here is warning, and an admonition. Check far out of the money leap puts on an index that reflects your portfolio. With volatility low, prices are cheap. When volatility expands prices will escalate fast.

Yes these puts may expire worthless, keep the cost low. Roll them over prior to expiration if you can. If a tsunami hits, you may well earn more on the leaps than your portfolio loses. Ride the tsunami, survive the aftermath.

Of course if you acquire substantial wealth, remember those who were not equiped to Tsunami Hitchhike.

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