June 26, 2018

Throughout human history, there are countless examples of reactionary behavior gone wrong. A mistake is not a big deal, but when “group think” constructs social behavior based on ignorance, trouble begins.

Take the strange case of the Salem Witch Trials in Massachusetts in 1692. In the winter months, eight young girls fell ill. They had strange symptoms of delirium, incoherent speech, strange skin sensations, and trance-like states. Of course, concern grew, but when no one could explain it, questions quickly rose. Finger-pointing began, and blame was needed. The desperate residents of the village came to the then-logical conclusion that the girls were “bewitched.” The town rounded up 150 “witches” and put 20 of them to death. This extreme example of mass hysteria cost these 20 innocent people their lives.

The far lesser-known likely explanation was discovered by Linnda Caporael when she dug into the Salem trials as a college student in the 1970s. She found that the girls’ symptoms bore a striking resemblance to the effects of LSD (acid), the hallucinogenic drug that characterized the late 1960s. She found that LSD is a derivative of ergot, a fungus that affects rye, wheat, and other cereal grains. The fungus thrives in warm, damp, rainy springs and summers. Records from Salem in 1691 indicate this was the climate at the time. These rye crops were consumed in the winter of 1691-92, which led to the strange symptoms. The dry summer of 1692 did not bring the ergot fungus, thus the cases of bewitched villagers dropped to zero.

Humans are conditioned to “shoot first; think later” and Wall Street is no different. I’ve seen my fair share of craziness on Wall Street. I sold and traded stocks and derivatives at big banks for well over a decade. Our days were filled with tickers and prices zipping by, shouting, ringing phones, fists slamming on desks, and countless other distractions. It was hard to keep track of stocks and what they were doing.

Sitting so close to ground zero for stock trading action, it was always a terrible feeling when a bad story broke on a stock I owned. Nothing stoked the flames of fear more than seeing one of my stocks trading down 20% or more. This usually evoked the deer-in-the-headlights feeling of “what should I do now?”

The feelings of panic can be strong enough to cause a poorly-timed reaction. Usually, the pain and fear of loss become so strong that relief is desperately needed. An individual typically sells their sagging stocks at the worst possible moment, only to watch them recover thereafter. How can this be avoided?

Strong emotional urges – like ascribing an LSD trip to the witches of Salem, or selling a falling stock – can do some serious damage to a portfolio. The way to overcome that is to stack your deck with facts and supportive data. Determine why you own the stock in the first place. Is it a leading stock, in a leading industry, in a leading sector, which in turn is leading the market higher? Does the company make money? Does it carry big debt? Does it have a big profit margin? Is its revenue stream diverse or heavily concentrated in a single contract which could cause serious damage if cancelled?

An Example of Not Selling into Bad News

These questions can really help you avoid doing something rash at the wrong moment. Let me give an example: I hold a long position in Chipotle Mexican Grill (CMG). The stock has been a major growth story for the past several years. On January 1, 2009, the stock closed at $47.76. It peaked at $749.12 on August 3, 2015. That’s about 1,470% gain. Then the stock began hitting some rough patches and negative press. It seemed like a good discounted price to grab some shares around $485, 35% off its 2015 peak.

(Please note: Jason Bodner does not currently hold a position in Chipotle Mexican Grill. Navellier & Associates does not currently own a position in Chipotle Mexican Grill for any client portfolios).

Well, the stock troughed at $251.33 on February 13 of this year. The market was in free fall, the stock was out of favor, and it was battling negative press. I was down almost 50% on paper in my $485 position. I wanted to sell it. I wanted to take my money and put it to good use elsewhere. The tone of the market was negative, and the fear factor was high. It was the perfect moment to NOT sell it, so I held on; and here we are a few months later, and the stock closed this past Friday at $469.94. It is now down about 3% from my entry price, but more importantly, it is up almost 87% from its low, in just four months.

Why didn’t I sell? The company has shown explosive growth from a handful of locations to over 2,000 stores since it began in the 1990s. It has double-digit sales and earnings growth, a nice profit margin, and 3-year earnings growth of over 200%. The company now sits in one of my favorite sectors: Consumer Discretionary. Money has been flowing into apparel, footwear, and restaurants. The supportive facts were too strong to sell into despair. To be clear: I am not making a recommendation to purchase CMG now. I am merely giving a real-world example of how logic and facts can overcome desperate emotional urges.

The Consumer Discretionary, Information Technology, and Energy sectors continue to be the strongest leading sectors for the past three and six months. These sectors are economic growth engines, bullish for the market. I continue to pay attention to the following Industries and Sub-industries: Retailing, Internet Software & Services, Semiconductors, Health Care Equipment, Apparel, and Restaurants. I see much of the market strength concentrated in the leading stocks of these areas.

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The point here is this: Emotional investing can do you in, like the witches of Salem. I told you why I didn’t sell. “Why didn’t you buy more?” you may ask… That will have to wait for another day’s musing.

In the words of Billy Wilder: “Hindsight is always 20/20.”

About The Author

Jason Bodner

Jason Bodner writes Sector Spotlight in the weekly Marketmail publication and has authored several white papers for the company. He is also Co-Founder of Macro Analytics for Professionals which produces proprietary equity accumulation/distribution research for its clients. Previously, Mr. Bodner served as Director of European Equity Derivatives for Cantor Fitzgerald Europe in London, then moved to the role of Head of Equity Derivatives North America for the same company in New York. He also served as S.V.P. Equity Derivatives for Jefferies, LLC. He received a B.S. in business administration in 1996, with honors, from Skidmore College as a member of the Periclean Honors Society. *All content of “Sector Spotlight” represents the opinion of Jason Bodner*


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