If it looks like a duck, walks like a duck and quacks like a duck … it must be a duck.

On October 2nd, 2008, the House granted final approval of the $700 billion bailout package (TARP) which was introduced on September 18th, 2008. While not everybody thought this package to be a cure-all to the economic problems we are facing, most thought this package would prevent the worst.

Since the first of many bailouts was approved in October, the patient – financial institutions and banks – has been moved from the sick bed to the intensive care unit. The Dow Jones (AMEX: DIA) and S&P 500 (AMEX: SPY) dropped as much as 30%.

The market's vote of no confidence is in too. The Financial Select Sector SPDRs (NYSEArca: XLF), iShares DJ US Financial Sector ETF (NYSEArca: IYF) and Vanguard Financial ETF (NYSEArca: VFH), have lost an additional 50% since the $700 billion injection was approved.

It hasn’t been much publicized, but the last four months have seen the creation of the Commercial Paper Funding Facility (CPFF), Money Market Investor Funding Facility (MMIFF), Term Asset-Backed Securities Loan Facility (TALF), Government Sponsored Entities Purchase Program (GSE) and other initiatives with a price tag of several trillion dollars.

As the chart below shows, none of these initiatives (CPFFMMIFFTALFGSE) has been able to stabilize the markets, let alone resurrect the economy, stocks or consumer sentiment to its previous glory.

Since December 2007, 3.6 million jobs have been lost. 600,000 jobs were lost in January alone. If January is an indicator for the rest of the year, another 6 million jobs might be lost before the year is over.

On October 2nd, the day the $700 billion bailout was approved, we issued a Special Bailout Report (available to subscribers of the ETF Profit Strategy Newsletter). This report outlined in detail why this bailout won’t work.
 

“The auction model "cash for toxic loans" - as good as it sounds for banks - may prove to be a double-edged sword. Until now it has been close to impossible to value bad debt on bank's balance sheets. The "reverse auction" pricing mechanism will use actual prices to establish a value for distressed assets. The auction might brutally expose how little these phony loans and mortgages are really worth. Banks may wish they never even touched, let alone opened this can of worms.”

Besides the fact that the new bailout, as the previous one, will include “pork” (politically motivated, non-related programs) such as funds for the National Endowment for the Arts, global warming research, child-care subsidies, Medicaid payments and more, there are at least four remaining economic and “socionomic” factors undermining this bailout.

One of them is the perception of the American consumer and investor. The stock market is the best gauge of investor sentiment. A look at the chart plainly reveals that investors don’t believe the government’s efforts will work. If the investor doesn’t believe it, the consumer won’t believe it. If the consumer doesn’t believe, the consumer won’t spend. If the consumer doesn’t spend, …(it's a domino effect as you've figured.)

The day before the $700 billion bailout was approved, the Dow Jones rallied past 11,000 and closed at 10,831. On October 2nd, the Dow moved as high as 10,843 and closed at 10,482. Within six trading days, the Dow lost 1,500 points.



In a similar fashion, the financial markets rallied on the news that the government might seize control of Fannie Mae (NYSE: FNM) and Freddie Mac (NYSE: FRE) but sold off sharply on the actual news.

The government’s announcement to spot AIG (NYSE: AIG) some $85 billion was actually followed by a brief rally which soon turned into a steep sell-off. The same happened when the government announced to provide a cash injection for Citigroup (NYSE: C).

As of January 20th, financial stocks have already dropped below their 2008 lows. The last time this happened, the broad market followed suit. In fact, on November 14th we wrote: “The Financial Select Sector SPDRs actually closed beneath its October 27th low. This should serve as a nice foundation for the next push down. Broad short ETFs such as the ProShares UltraShort S&P 500 (NYSEArca: SDS) should be used as a hedge or profit centers. Once the Dow breaks beneath 7,500, it's time to lighten up on the short ETFs”.

Financial stocks are not the only sector to revisit last year’s lows. The Consumer Staples Select Sector SPDRs (NYSEArca: XLP) dipped slightly below their November lows on February 4th. Other consumer staples ETFs such as the iShares DJ US Consumer Goods (NYSEArca: IYK) and Vanguard Consumer Staples ETF (NYSEArca: VDC) remained above their respective lows.

Another nail in the coffin is bullish investor sentiment, a contrarian indicator. Bullish sentiment is encroaching upon recent highs, which is often indicative of a downward move.

While the jury is still out what the next few days will bring, trustworthy indicators have already spoken regarding the long term prospects of the US stock market. A comparison of current dividend yields and P/E ratios with historic levels of dividend yields and P/E ratios seen at bear market bottoms shows there is plenty more room to the downside.

Back in December we suggested to buy short ETFs such as the UltraShort Russell 2000 ProShares (NYSEArca: TWM), UltraShort Financials ProShares (NYSEArca: SKF) and UltraShort Real Estate ProShares (NYSEArca: SRS) around Dow 9,000. This buying window was open between January 2nd and January 6th, 2009.

How much further can equities drop? The December issue of the ETF Profit Strategy Newsletter includes a detailed analysis of historic dividend yields at market bottoms. Furthermore, we evaluated the Dow Jones Industrial Average based on real currency not an inflated dollar. Gold is the only true currency, the only true measure of value. The Dow, measured in gold, serves as a compass for the Dow as we know it. This trusty compass is desperately needed in times like this.

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