The Dragon Coaster

I will never forget the first time I rode the Dragon Coaster at Rye Playland. After the very big first dip, my father said, “hold on---there’s more than one of those drops on this trip!” That’s kind of how I felt yesterday, when the stock market reversed a morning drubbing and finished the day with gusto on the upside.

The day felt both scary and exhilarating, not unlike the ol’ Dragon Coaster. The Dow Jones Industrial Average saw a 631.86-point intraday swing, its biggest since July 2002—a time that was close to one of the low points of the three-year bear market in stocks. You will hear folks saying that there have been just nine days with 500-plus point swings since 1995, many of which occurred at major market turning points. Then again, with the index at higher levels, the point swing is less important on a percentage basis. Still, after an anxiety-ridden couple of days, the frenzied buying was a welcome relief and left the Dow at 12270.17, up 298.98 points, or 2.5%, but still down 7.5% on the year.

So what happened? Well, there have been many that pointed to oversold conditions, but the true catalyst was a rumor…and you know the old trading mantra, “buy the rumor, sell the fact!” Stocks were trading higher when whispers started leaking out about a meeting that was transpiring between insurance regulators and some key Wall Street firms to discuss ways to stabilize and potentially bail out big bond insurers, the latest casualties of the sub-prime fiasco.

Most bond insurers have encountered problems because of their exposure to securities tied to sub-prime mortgages. Prior to the meeting, it was even rumored that some of these firms would have to fold as a result of the losses. Now maybe you think that they should go out of business, but the regulators are concerned that if bond insurers are the next pillar to be toppled in this credit crisis, it would severely harm the broader financial system because these firms insure tens of billions of dollars in bonds, many of them held by Wall Street firms. In other words, this is another case of government intervention, where the theory is that the broader good is served by avoiding failures --- moral hazards be damned!

Who knows what today will bring, but I’m thinking that my Dad’s advice might be worth repeating for all investors: hold on---there’s more than one of those big drops on this trip!