One thing that I realized a long time ago was that emotions/psychology are what determine prices of stocks in the short term.  The average stock on the NYSE fluctuates 50% in any given year.  Does anyone really believe that the fundamentals of each company gyrate to the extent necessary to justify that level of volatility? (maybe in this environment but not historically)

When investors become fearful because they are unable to quantify the economic risks that face our economy, when they see their portfolios continue to get battered every day, when the leadership from the government seems uncertain at times, you have a recipe for a market bottom.  Why?  Because with such a high level of anxiety and unknowns the market is going to shoot first and ask questions later.

When the market is shooting the natural question to ask is when will the carnage end?  I am considering the following factors as strong indications that either Friday’s low was the bottom or the bottom will be put in place in the next several days.  One is the level of fear in the market.  A common way to measure fear is the VIX, which tracks the expected level of volatility in the S&P 500 during the next month.  The VIX trading above 40 would be considered extremely high.  Until last week it had never traded above 50.  The VIX topped out at 76.94 on Friday!  That implies that the S&P will trade in a 12.8% range in the next 30 days.  That is virtually guaranteed to happen as the S&P moved 11.8% Friday from top to bottom.

Another measure of fear is the intraday volatility of stocks.  Intraday volatility has  increased to historic levels as well. The S&P 500 Index, a broad measure of the market, moved well over 70% intraday on Friday. The market has no idea where to price stocks right now and most likely is overshooting on the downside.

Another factor to consider is the acceleration of the market decline itself.  As traders we know that when a stock chart gets too steep in either direction the stock will have a powerful move in the opposite direction.  In the long run whether the top/bottom holds is determined by the underlying fundamentals of the company itself.  In the case of the S&P 500 there is quite a bit of wiggle room with respect to the fundamentals.  The operating earnings of the S&P in 2002 were around $46 and it closed the year at 879.  2009 operating earnings for the S&P are projected at around $103 per share.  Obviously, there will be downward revisions to those projections but it is hard to see the numbers coming down more than 30%.  That would put S&P operating earnings at around $72 for 2009.  Still 56% higher than the last time the index traded at its current level.

For the above reasons I am going to put money at risk in new long term positions for the first time since 2002.  I will begin to scale into positions in the following names: GE, WFC, AAPL, RIMM, and VZ.  The dividend yields are great on GE, WFC, and VZ.  RIMM is trading at a very low P/E in relation to their earnings and growth.  AAPL is trading very cheaply compared to its free cash flow and it has enough cash on the books to buy back 30% of its shares if it wanted to.

I usually don’t like to venture beyond what will help me make money trading intraday but the past week was so historic in nature I thought I would share my thougths.

One final note.  I have dream entry prices for the above listed stocks: AAPL: $72 RIMM: $45 VZ: $21 WFC: $24 GE: $16.  At dream prices I would back up the Brinks truck and load up!