The Value Line Mutual Fund Survey

Buy Low, Sell High, Don’t Panic (continued)

During the week of October 6-10, the Dow Jones Industrial Average ended the worst week in its 112-year history. Friday, October 10th, was its most volatile day ever, with the Dow swinging 1,019 points. Hopes for a major international bank rescue plan were overwhelmed at the end of the day by another wave of selling.

The week’s 18% decline, including Friday’s huge swing, was the biggest since the Dow was created in 1896. Until now, the worst week for the Dow was in 1933. Weekly New York Stock Exchange volume also hit a record 11.1 billion shares.

Some investors would normally have jumped in to buy beaten-down stocks during such a week. However, many said that the continuous declines left them frozen into inaction and not willing to commit more money to equities. In fact, preliminary reports indicate that September mutual fund redemptions were in excess of $75 billion, accounting for a good part of the selling that has taken place. Some also say that investors have reduced their investments in hedge funds, adding strength to the selling pressure.

Some traders say that part of the decline is attributed to margin calls. Investors who borrow from their brokers to purchase stocks must meet a request for more funds within a day or two. If they don’t, brokers are required to sell the borrower’s stocks to pay off the loans. This often occurs as stocks fall to new lows.

The chief executive officers of both Chesapeake Energy Corp. and Coca-Cola Enterprises commented on such forced sales of their own personal holdings in their respective companies. News of such selling reinforces the idea that much of the recent downward pressure was not based on rational investment decisions.

The Federal Reserve continues to be supportive during this time. It is making shortterm loans to corporations by directly purchasing their commercial paper. It has, in unison with other countries, lowered interest rates. Recently, the U.S. government announced plans to inject up to $250 billion into banks. Further details have yet to be announced. It is hoped that such actions will help provide a backstop to lending between banks, which is essential to national and global financial stability.

Such planned steps follow earlier actions taken by the Federal Reserve, such as lending billions to American International Group. Our government will continue to carefully avert crisis, certainly on an as-needed basis, until markets stabilize and longer-term adjustments can be made. A new book of rules will certainly be written governing most, if not all, financial institutions.

This week, I received another call from my friend, Rich from New England. Rich, you may recall, is married with children, and is almost 60 years young. He has participated in a 401(k) since about 1980, and has seen his account reach a peak about two years ago, and has watched it drop in value since. Of course, his greatest decline was within the last few weeks. He still contributes to it through payroll deduction, although he is uncomfortable since his contributions are offset by the decline in value of his funds. This profile could easily fit many current subscribers.

He again asked me what to do. I said, right now, this week, don’t do anything. I offer this same advice to all subscribers. Review the percentage you have in each asset category. I again suggested Rich review when he thinks he might need to start withdrawing his funds. He still said he would probably start in 10 years. All subscribers should make sure you know where you currently are, because, if your stock funds decline in value, your money market funds represent a greater percentage of your total assets.

I suggested that if he feels the markets have stabilized, take about 20% of his cash and put it into the funds categories he already owns. Then, with the balance of the cash he wants to invest, perhaps another 20%, pick a time frame, such as six months from now, and buy again. If his funds are higher, he will buy less, if they are lower, he will buy more. This would be a form of dollar-cost-averaging. I suggest all subscribers consider doing the same. If you have excess cash as well, look for possible new funds Ranked 1 or 2, where the upside potential is far greater than lowerranked funds.

Robert J. Adamski