Signal Type	Trade Date	Return since issued
		World	U.S.
			Nasdaq 100 (QQQQ) Russell 2000 (IWM) S&P 500 (SPY)

Market Update

Stocks posted huge losses this week, with most of the damage occurring Monday following the stunning rejection of the financial bailout plan by the House of Representatives. As almost everyone had expected the bill to pass, disappointed investors sold heavily on the news, causing the stock market to suffer one of its worst days ever: the S&P 500 shed 8.8%, its second-biggest price drop in history. With lawmakers feverishly working on a new version of the rescue plan, expectations that the bill would eventually be approved later in the week helped the major averages rebound strongly Tuesday, with the S&P 500 regaining 5.3% on the day. News that Warren Buffett is investing $3 billion in General Electric helped the market recover from early losses Wednesday to finish almost flat. As expected, the financial rescue plan was approved by the Senate after the close, but the release of several weak economic reports Thursday morning caused sellers to return in force: the jobless claims report jumped to 497,000, more than expected, and factory orders for August dropped 4%, the worst reading in two years. As the data clearly pointed to a decelerating economy, renewed selling sent the Nasdaq Composite 4.8% lower. Even though the Labor Department announced Friday morning that more jobs were lost in September than expected, investors decided to ignore the news and focus instead on the anticipated approval of the $700 billion financial bailout plan by the House of Representatives, sending the main indexes 3% higher or more ahead of the decision. However, after the bill was indeed approved, the gains quickly evaporated to turn into losses as concerns over the weakening economy immediately resurfaced.

In what turned out to be the worst week for stocks in seven years, the S&P 500 (SPY), Russell 2000 (IWM) and Nasdaq 100 (QQQQ) respectively lost 8.70%, 11.23% and 11.93%. All 3 ETFs remain located below both their 50-day and 200-day exponential moving averages (EMAs).

For its part, our World portfolio posted a 12.34% loss this week. The portfolio consists of the 5 top-ranked world ETFs as of September 12, which marked the beginning of the current 4-week holding period. Please note that since we now have an active Cash signal, the World approach calls for selling your holdings if you follow the "Long Only" or "Long and Short" strategy. Only if you follow the "Buy and Rebalance" strategy should you remain invested in the top 5 ETFs, as the strategy calls for staying invested at all times. Please go to the "Our Service" page for all the details.

As internal conditions within our Model show that the market is very oversold, our current Cash signal remains in effect.

Trend Timing School

Money market funds versus bond funds

This may sound like a strange topic for TimingCube, who normally focuses exclusively on stock market timing!
But with the news media full of scary stories, the stock market under high pressure, where every up or down move is triggered by some piece of news or the lack of, our current Cash signal certainly makes a lot of sense. This situation may or may not last, we have no way to tell, but we thought it would be interesting to evaluate the investing alternatives while our accounts are in cash.

Note that an account may be in cash more often than we might think, for example, many of us are restricted to a Long Only strategy in our retirement plans. During Sell signals, instead of going short, we have to sit in cash, typically in a money market fund to at least earn some interest. The same situation arises when we are lucky enough to have new money to invest, e.g. the semi-monthly contribution to a 401(k) plan, which we prefer to keep in cash until the next signal is issued.

While money market funds are known to be the vehicle of choice for risk averse investors, we must point out that a very unusual event occurred last week. The money management firm, The Reserve, announced that the shares of three of its money market funds (one of them, the "Primary Fund" being the oldest money fund in the United States) were falling below the $1 mark. This drop was due to the write down to zero of several hundred million dollars in holdings of Lehman's Brothers' unsecured debt. This very rare situation, where a company allows its asset value to "break the buck" (let it fall below $1), happened only twice since the inception of money funds in 1970. There may be no need to be alarmist, most money market funds are probably doing just fine but wise investors must be aware that even safe havens can be challenged in difficult times.

Since almost every retirement plan and broker offers a number of bond fund choices, many come to wonder why they would not be better than the money market fund.

And the short answer is: it depends. Let's just state clearly that at times bond funds can lose money.

Before we go much further we need to establish a base of understanding, sorry for the experts. Contrary to stocks which represent ownership in a company, bonds are debt instruments, or loans for which you are the lender, if you buy the bond. The borrower is generally a government entity (the U.S. government, states or municipalities) or a large corporation. While they are often called fixed-income investments because of the yearly interest rate they pay until maturity, there are other variables that come into play. Their value fluctuates with interest rates and, as stocks, with the laws of offer and demand.

Bonds come in many flavors of issuers, maturity dates, interest rates, risk level, etc. Everything from rock solid treasury bills to junk bonds. The same goes with bond funds and it is hard to generalize, but one thing they all have in common is that your principal can fluctuate up or down (unlike a money market fund or cash) and in periods during which interest rates (also known as yields) go up, bond funds tend to decrease in value.

The largest broad bond funds tend to be the safest. Two well-known giants are the PIMCO Total Return Fund see Chart 1 below - and the Vanguard Total Bond Market Index Fund , but there are many other ones that are similar, and there are even bond ETFs to be found as well (see FAQ of the Week below).

The 3-year chart of the PIMCO fund below clearly shows that the share price can drop substantially at times. Worse, and not shown on this chart, are times, like the late seventies and early eighties, when long interest rates zoomed to over 18% and bonds were in a desperate bear market.

Chart 1: PIMCO Total Return Fund

The stock market and bonds often move in opposite directions. During stock market declines, bonds are seen as a safe haven and their prices go up as a function of increasing demand. But then there are also times when they move in the same direction, as it happened lately, they declined as the market was going down. Nonetheless, with the yield on a 30-year U.S. treasury bond at about 4.2%, bond funds are more attractive than money market funds (paying only about 2-3% currently), provided that the long-term bond bull market continues with the rates continuing to come down.

The reason TimingCube does not recommend bond funds is that our Model does nothing to predict the future of interest rates. When we issue a Sell signal for stock market investments, long-term interest rates could be going down (and bond funds would be best), or they could be going up (and then money market funds would be safest). So, if you have a good handle on the future direction of interest rates, or a crystal ball, you are all set. And as fate would have it, you could even play the interest rates both ways thanks to ProFunds and Rydex who have come up with bond funds that use derivatives to move in the opposite direction of the 30-year Treasury bond, i.e. they make money when rates go up, the ProFunds Rising Rates Opportunity fund and the Rydex Juno Investor fund.

FAQ of the Week

Question: Are bond ETFs available?

Since a number of subscribers prefer to use bond funds to money market funds when we have to be in cash (see the Trend Timing School article above), a logical step is to seek the best bond related investment vehicles.

Yes, there are bond ETFs in existence such as the iShares Lehman 1-3 Year Treasury , the iShares Lehman 7-10 Year Treasury , and the iShares Lehman 20+ Year Treasury Bond .

Bond ETFs present the same advantage over bond mutual funds as their equity counterparts. Namely, they trade like stock and their expenses are very low (about 0.15% versus 1% for mutual funds). While in theory they can also be shorted as a bet on rising interest rates, word has it that your broker will likely "not have any shares available to short", not so much because there aren't any but because individual investors are routinely shut-out of the shorting opportunity by institutions and the broker's in-house trading desk. But, thanks again to Profunds who, earlier this year, was the first company to introduce inverse bond ETFs, the UltraShort Lehman 7-10 year Treasury ProShares and the UltraShort Lehman 20 year Treasury ProShares are available for trading today.

Warm wishes and until next week.

The TimingCube Staff