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Rallying Through the Chaos


You know things are getting ugly when you get the call that close friends and acquaintances are rumored to be going under. Or when the presidents of $500 million to $1 billion companies call you demanding to know what is wrong with their stocks. Or when you yourself don't want to play in the big softball game after work, because you want to go see your wife and kids who have been away for a couple of days.

But ugly is not a bottom.

In the midst of the pure chaos that was small-cap yesterday, wouldn't you know it, there was good tech and drug stocks flying toward old and new highs. Bottomed? Those stocks are enjoying good old-fashioned rallies! Who expected


(MSFT) - Get Microsoft Corporation (MSFT) Report

to rally after the

New York Times

reports that the


have the Wintel smoking gun? Who believed that


(PFE) - Get Pfizer Inc. Report

could rally despite 60-odd


deaths and a screed from

Maria Bartiromo

saying that the stock would be weak before the opening? Damn, that's the definition of strength.

And then there is small-cap. Which now includes a lot of stocks that were once mid-cap. These stocks have not only not bottomed but they seem to be only midway through their free fall.

How can we explain the dichotomy? Pretty simple in some ways: Classic growth stocks do well in times when bonds are strong, as they are long-dated assets priced off of long-term Treasuries. They are in control of their destiny, generate huge amounts of excess cash flow and buy back stock with abandon. Their managements are seasoned and they can TAKE ADVANTAGE of the chaos overseas with their great balance sheets.

They are winners.

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Small-cap stocks don't have the cash on hand to buy back stock. They are trying to grow their business, and any excess cash generation is used to fuel growth. They can't be judged as long-dated assets if you think they may not be able to weather the storm. Their balance sheets are almost always crummy and they are owned by managers who are being pummeled. The managers themselves have to sell to meet real or feared redemptions. The stocks are illiquid per se, and there are no natural buyers out there. And if there were, how can these buyers be sure that the managements of these small-cap stocks have their destiny under control. Does anyone really believe that a small-cap can weather the worldwide chaos as well as


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I thought about this yesterday when I was covering some Coke I had put out short the day before. I shorted it because some firm had said that Coke might have currency problems. But in times of chaos, I can't imagine a better-run firm than Coke, and I have to believe that this hot weather will be great for volumes, which is what the stock trades off of anyway.

In fact, one of the reasons why the "market" can rally as it did yesterday is that managers are hedging their small-caps with SPX puts or large-cap stocks (small stocks are a nightmare to short and very difficult to cover) and these shouldn't go down any more. The fundamentals just aren't bad enough.

Sure, nothing can be worse than one of these great classic blow-ups.

Computer Associates

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, for instance, still can't get out of its way. Neither can


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, over fears that it may not make the numbers. But anybody who is shorting Coke in order to hedge the small-cap market risk is looking for the double whammy: losses on small- and large-cap stocks.

This is, however, one unbelievable time to be a retail small-stock investor. You do not have to report results or risk redemptions. Not all small-cap stocks are in the terrible position. Some have cash. Some are seasoned. Some are just down on pure redemption concerns. Those are the ones that you will put away and get rich on.

In the meantime, DON'T expect your first purchase to be your only one. The redemptions are just beginning.

James J. Cramer is manager of a hedge fund and co-chairman of

At the time of publication, he was long Intel and Microsoft, though positions may change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Cramer's writings provide insights into the dynamics of money management and are not a solicitation for transactions. While he cannot provide investment advice or recommendations, he invites you to comment on his column by sending a letter to