Originally published in The Papyrus, Fall 2001. A Publication of Hermes Econometrics

Timeline: September 2001

Imagine for a moment that it is September 2001. You are responsible for managing
tens of millions of dollars for portfolios held by clients of Hermes Econometrics. Equity
markets have been highly volatile for eighteen months. The U.S. economy has been
teetering on the edge of recession. Nasdaq prices have crashed over 60% from all-time
highs. The Dow Jones Industrial Average and S&P 500 have dropped severely.

Monday, September 3, 2001. Hermes Econometrics clients have been invested in money market positions since August 16th, and the Dow is at 9, 949. Based on Monday’s closing prices, Hermes Econometrics equity model generates a buy signal for the following day.

Tuesday September 4, 2001. Client accounts are placed into stock funds with the Dow at 9,997.

Wednesday September 5, 2001. So far, so good. The Dow edges upward

Thursday September 6, 2001. There is unusual and negative selling activity on European exchanges. The buy on September 4th doesn’t look so good. After the market closes, Hermes Econometrics’ equity models generate a sell signal, three days after our buy signal! With our model, such a sudden reversal is almost without precedent. The Dow drops down 160 points to 9,840.

Friday September 7, 2001. European markets have closed down: London FT-100 down 1.5%, Germany’s DAX down 2.9% and the Paris CAC down 2.5%. Friday morning U.S. markets open down and continue down throughout the session. We make the exchange and by the close of the day client stock funds are placed in money market funds. The Dow closes down 235 points to 9,650; which is 353 points lower than the day of our buy.
This is an unfortunate side effect of a rapidly deteriorating market.

Monday September 10, 2001. After Friday’s close, it does appear that in fact our sell signal is correct, and we are confident about the trend. We publish our weekly market notes to brokers, announcing their Hermes Econometrics stock accounts are in money market funds. The Dow closes at 9,605.

Tuesday September 11, 2001. All of America looks on in horror as New York’s financial district and the Pentagon are devastated by terrorist attacks. All stock exchanges are closed, and all domestic aircraft are grounded.

Wednesday September 12, 2001 to Friday September 14, 2001. Equity markets remain closed. Commercial airline schedules are suspended. Many questions about damage to Wall Street infrastructure and the potential for additional attacks persist. The Federal Reserve commits to slashing interest rates and meeting any liquidity demands. Many companies have announced unprecedented stock buy-back programs to support their company’s stock prices. Leaders across the nation are calling for investors to patriotically support U.S. stock markets.

During the week, European markets remain open and bare the brunt of a severe investor sell off. With no U.S. markets to cover, television and print media report these events. They provide U.S. investors a frightening glimpse of what they can expect when the U.S. markets open. Many believe we are now moving into a war-time market from a traditional bear market. Historically such markets are met with increased volatility and opportunity.

Rumors persist that U.S. markets may open on Thursday.

Thursday, September 13, 2001. New rumors predict that U.S. markets may open on Friday.
Friday, September 14, 2001. U.S. markets remain closed.

Monday, September 17, 2001. The New York Stock Exchange has never been closed for seven continuous days. It opens, to the watching eyes of the world. Investors worldwide hold their breath. No one is really certain what will happen. Markets open to a decline of epic proportions. We close the day with conflicting emotions. While relieved our models protected our clients’ accounts during this terrible time, we are concerned for our country.

The Dow closes at 8,920, down 685 points since the previous Monday.

Late September 2001. As the days unfold, the market decline immediately following the September 11th tragedy will play itself out. Now the dilemma: when the next buy signal comes, do we implement it? The model has no feelings, no fear of terrorist activity and no anticipation of our future victory. It only measures closing prices on a daily basis. It works because it is calculated and objective.

October 8, 2001. A buy signal occurs. The Dow closes at 9,068, down 582 points since our sell, and a 6.4% loss is avoided by our clients.