Wall Street's Soap Opera: 'As The Market Turns'

By Lou Carlozo

Last month's accounting scandal at Toshiba Corp. (TOSBF) -- which left the company facing as much as $3 billion in charges -- is an ongoing soap opera. The investigation is widening; Toshiba CEO Hisao Tanaka and seven other senior officials are out. And yet could it be, as with so many contradictory happenings in the investment world, that bad news is good news for investors?

"My college-age son has an internship at Toshiba this summer and called me last week to ask if Toshiba's stock was tanking," says Bennett Gross, investment strategist with EP Wealth Advisors in Torrance, California. "I told him that I lived in a perverse world where sometimes good news is bad, and bad news is good." Indeed, the stock was up 8 percent on a recent day, a possible reaction to Tanaka's departure.

%VIRTUAL-pullquote-The fact is, stock market investors do not want to see a great, flourishing economy.%To be sure, Toshiba's stock price has taken a short-term hit. It's down nearly 25 percent since news of the scandal emerged in mid-April. Yet Gross likens the latest ousters to "a cancer surgery. Going forward, Toshiba's accounting is likely to be cleaner and more transparent than it's ever been."

Yes, bad news can be good news -- not only for Toshiba but for any company not so much crashing and burning, but riding out shaky turbulence. For starters -- and as any savvy analyst will tell you -- bad news can create plenty of buying opportunities.

Citing the last four pullbacks of the Standard & Poor's 500 index (^GSPC), "all of these were caused by an overreaction to seemingly bad news: an uptick in unemployment, fiscal cliff concerns, the Ebola scare and the Chinese market rout," says Randy Frederick, managing director of trading and derivatives at the Schwab Center for Financial Research. "Yet they all turned out to be excellent buying opportunities."

Closer to home, consider the U.S. economy. It may lead to all sorts of finger-pointing on Capitol Hill, but on Wall Street, fingers are poised to hit the "buy" button.

"The fact is, stock market investors do not want to see a great, flourishing economy," says Cary Greenspan, director of investments at PNC Wealth Management in the District of Columbia. "Great, flourishing economies eventually lead to inflation, higher rates to borrow and market peaks. Now, this type of activity is all part of a business or economic cycle. It does not happen overnight. But for now, a plodding economy or economic malaise is stock market heaven."

Thus, it follows as sure as stock market daylight turns into night -- good news can be bad. Really.

"Good news in the form of stronger economic data will be interpreted negatively by the market insofar as it may increase the trajectory and timing of rate increases," says Katie Nixon, chief investment officer for Wealth Management at Northern Trust.

Which Way Is Up?

So if good news is bad, bad news is good, an epic scandal means opportunity and an improving economy leads to jitters, then which way is up? Is Ebola a better market indicator than earnings? In the end, is the stock market as volatile as a spurned lover?

Well, not really -- and often, it's more complex than that.

"I've always been fascinated with how markets digest news, both good and bad," says Jeffrey Mortimer, director of investment strategy for BNY Mellon Wealth Management in Chicago. He's dedicated his career to studying market cycles that date back to 1969.

Here's what he found: Sometimes the market is irrational in a way that's actually ... predictable.

Confused? Read on.

"The middle stages of a bull market are commonly known in the media as 'wall of worry' stages," Mortimer says. "I define 'wall of worry' by an adage: If you give the market bad news, it goes up, and if you give the market good news, it goes up substantially. Thus, during this stage of a bull market, an investor can utilize bad news with great confidence, knowing that markets generally move higher after generally small pullbacks."

The Long View

If you're throwing your hands in the air by this point, take heart. An overwhelming number of market watchers will tell you that in the long run, numbers don't lie, although emotions often do.

And here's the truly good news: Patience often pays off.

%VIRTUAL-WSSCourseInline-1023%"Creating a long-term investment plan is far more beneficial to accomplishing your financial goals than looking to buy at the bottom or sell at the top," Greenspan says. "If you're focused on short-term nuances, you are likely to miss the long-term opportunity."

And here's the truly bad: Gut feelings and guesswork are a recipe for loss.

"Investors need to avoid catching the proverbial 'falling knife,'" Nixon says. "It's never a good idea to be on the wrong side of negative stock price momentum, as this can, and does, continue for some time."

So goes your starring role in the stock market's soap opera. True, you can never tell when irrational exuberance or irrational anxiety will rear their heads -- or just irrationality altogether. But if you keep following the plot and hold out for the long-term happy ending, you'll be fine.

Sigh. Or not. Gross quotes famed economic guru John Maynard Keynes for his parting shot: "The market can remain irrational longer than you can remain solvent."