Investors worry about different things at different times, but it’s times marked by no worries and a feeling of entitlement for future profits that raise a red flag. Investor sentiment had reached levels of extreme complacency, which validates a detailed look at where the market’s headed.

For over 45 days, the S&P 500 (SNP: ^GSPC) has traded within 4% of the magical 1,000 mark. On August 18, the Wall Street Journal reported that “traders position themselves for S&P 500 pullback.” Against expectation, the S&P went on to rally and has not even pulled back to August 18 levels.

For right now, one thing is for certain, due to the 50+% rally in the S&P 500 (NYSEArca: SPY), Dow Jones (DJI: ^DJI) and Nasdaq (Nasdaq: ^IXIC) and the S&P’s resilience to drop significantly below 1,000, investors have stopped wasting time worrying about a deeper correction, let alone a meltdown. Is this absence of concern validated, or the calm before the storm?

Getting priorities straight

The focus has shifted from whether there will be a recovery, to – as CNNMoney reports - “who should get credit for a recovery.” Consequently, at a time when savvy investors wonder whether this pace is sustainable, money managers are dumping (hopefully not yours) funds into stocks, trying to take advantage of what’s been termed a job-less recovery.

Isn’t a jobless recovery as much of an oxymoron as waterskiing in the desert?

Many seem convinced that it isn’t. Even Bloomberg reports that a “U.S. recovery leaving workers jobless may spur company profits.” We’ve seen from the last earnings seasons that job and cost cutting can and will improve the bottom line, for companies that is. Simultaneously, the consumer, which accounts for over 70% of the economy, is dying on the vine.

If the consumer doesn’t spend, it’s just a matter of time until corporate profits decline even further. This results in a downward spiral nearly impossible to reverse. You may find it interesting to note that the consumer discretionary sector (NYSEArca: XLY) has been lagging the broader market.

As one of the most economically sensitive sectors, consumer discretionary stocks should be the first to rally in a new bull market.

The case for the bulls

Last week’s better than expected ISM manufacturing activity on the other hand, has given the bulls more hope that the rally may continue. Milan Mulraine, economist with TD securities, said that “given the very good historical performance of this indicator in predicting U.S. economy activity, the report provided further evidence that the U.S. economic recession may have come to an end.”

Not to sound cavalier, but if this indicator is so accurate, why does it have a 50% (that’s how much stocks have rallied since March) lag time? Furthermore, why has it taken economists, Wall Street gurus, and the financial media several months and a 50% rally, to finally declare a new bull market?

Based on a simple but common sense application of basic indicators, the ETF Profit Strategy Newsletter sent out a Trend Change Alert on March 2nd alerting subscribers that the biggest rally since the October 2007 all-time highs was about to unfold.  This rally was expected to push the Dow Jones (NYSEArca: DIA) into te 9,000 - 10,000 level.

ETFs recommended at the time included the Financials Select Sector SPDRs (NYSEArca: XLF), Ultra Financial ProShares (NYSEArca: UYG), Ultra S&P 500 ProShares (NYSEArca: SSO), and many others. Early in March, when no one wanted to own stocks, most definitely proved to be a much better entry point than July/August/September when Wall Street and Main Street started to fall back in love with stocks once again.

The case for the bulls demolished

In late August, U.S. consumer confidence climbed to 54.1, the first gain since May. Bloomberg reports that the government’s efforts to right the world’s biggest economy are starting to pay off. Perhaps we should ask, are they really starting to pay off or running out of steam?

The consumer, along with the financial media, usually jumps on a trend right before it exhausts itself. This happens because news tends to be good at the top and bad at the bottom, thereby intensifying the prevailing trend right before it collapses.

Consumer sentiment has been linked to consumer spending, which is up too.  Before getting excited about increased consumer spending, the savvy investor will consider the cause for higher spending and whether it is sustainable.

The cash for clunkers program must have been a huge contributor to the better spending numbers. Aside from the lack of sustainability and the fact that it merely pushed buyers to buy earlier, probably creating a subsequent sales vacuum, one should consider the following:

Is replacing a paid off car with a new car and a big payment really the right step to rehabilitate ailing consumers? Doesn’t that just create more toxic loans down the road?

Seeing that the consumer is unlikely to revive the economy, some economists are now calling for an inventory-driven recovery. This notion is supposedly supported by last week’s Institute for Supply Management’s factory index. They reason that, with goods on their shelves now at low levels, businesses will have to vamp up orders to restock.

It doesn’t take a rocket scientist, however, to see that an inventory-driven recovery can’t happen without the consumer either. Furthermore, inventory improvement that is not backed by higher final demand will most certainly result in an economic relapse.

Rear-view mirror analysis

You don’t drive your car by looking in the rear view mirror, why would you invest that way? This is more than just a rhetorical question, as most of the financial world bases their decisions on indicators that pose a snapshot of current affairs, at best.

The Supply Management’s factory index didn’t break above the psychologically important 50% threshold until September 1 and will fall below it again, if inventories increase. The recent spike has no crystal-ball like features concerning future economic developments.

Consumer spending was spurred by the cash for clunkers program. Also, keep in mind the millions of homeowners in limbo with their banks who haven’t made a mortgage payment in months.  The banks are slow to modify mortgage payments and start foreclosure proceedings at current selling prices in order to bump up their real estate portfolios, and to protect earnings reports; meanwhile, homeowners have new found cash. Is this increased consumer spending healthy for anyone, or could it be as much of a Trojan horse indicator as an indication for economic growth?

S&P 1,000 – is it sustainable?

Over the immediate short-term, there are a number of cross currents clouding the immediate future of stocks. Nevertheless, high-volume, post-labor day trading should soon clear up any doubt about whether September will usher in another nasty bear market.

Reminiscent of the 2007 and 2008 market highs, the KBW Bank ETF (NYSEArca: KBE) has cut out early and dropped below the August 17 levels, while other sensitive areas like the iShares S&P 600 Small Cap ETF (NYSEArca: IJR) and Vanguard REIT ETF (NYSEArca: VNQ), along with the Nasdaq (Nasdaq: QQQQ) have stayed above this level, albeit just marginally.

Regardless of what the next few days has in store for investors, the big picture long-term outlook seems crystal clear. Stocks have rallied 50% and investor optimism has reached levels that rival or surpassed those seen at the 2007 all-time highs. We all know what happened then.

Even more worrisome for the bullish case, is the fact that the stock market has never bottomed unless P/E ratios and dividend yields have reached the kind of levels needed to support a healthy, new bull market. P/E ratio and dividend yield bottom levels were reached in the 30s, 70s and 80s but not in 2002 and today.

Subsequently, the gains following the 2002 – 2007 advance have been completely retraced. Based on historic precedence, P/E ratios and dividend yields at market bottoms of historic proportions can be used to calculate a range for the ultimate market bottom. This market bottom is far below today’s levels.

The March and June issues of the ETF Profit Strategy Newsletter contained a detailed analysis of four powerful and accurate indicators – because of their implications we’ve named them “the four horsemen” – along with a target range for the ultimate market bottom. The most recent newsletter contains a detailed short and mid-term outlook, with a target range for the top of this rally.

Savvy investors should not ignore the subtle signs of the prevailing investor optimism, realizing that such levels of outright (unfounded) enthusiasm for stocks foreshadow significant declines. S&P 1,000 could very well be the last kiss good-bye before a steep and protracted decline.