Do you find yourself scratching your head when looking at the market's performance?
They say that the first step in overcoming an addiction is to admit the problem and eliminate the denial component.
Ok, here it is: “I am a bear! Am I cured now?”
“Not quite. Explain to me, what moved you to become a bear?”
Oh my, where to start. There is so much that went wrong and so much that can still go wrong.
Anytime the broad indexes a la Dow Jones (DJI: ^DJI), S&P 500 (SNP: ^GSPC) and Nasdaq (Nasdaq: ^IXIC) rally more than 75% in a one-year span is concerning. I think the last time this happened was in the 1930s.
Reasons for denial
I’d like to be a bull, but being a bull would have gotten me burned twice already in the past decade. In 2000 it was the tech bubble (NYSEArca: XLK) that busted, in 2007 it was the financial spill (NYSEArca: XLF) that flooded the system.
Being a bear wasn’t wrong back than. And today it feels just like 2000 and 2007 all over again. Ok, there are a few major differences.
Unemployment is higher today, much higher. For much of 2000, the unemployment rate was below 4%. For all of 2007, unemployment was below 5%. Today, unemployment is around 10%.
It’s not just the cold hard unemployment numbers that concern me, it’s the negative feedback loop created by a lack of jobs. Jobs are money. Without jobs there is no money, without money there is no economy.
Without consumers willing to spend, there is also no real estate recovery. If there is no real estate (NYSEArca: ICF) recovery, how will banks (NYSEArca: KBE) deal with all the toxic assets on their balance sheets?
It seems like nobody really cares, but the FDIC has already shut down 57 banks, mostly regional banks (NYSEArca: IAT), year-to-date. That’s more than for the same timeframe last year.
Don't worry, be happy
“Well Mr. Maierhofer, you shouldn’t worry about all this, nobody else does. Mr. Bernanke and his team are taking care of matters. You just have to trust them.”
“You mean trust “them”like in 2000 or 2007 or even in the late 1920s.”
“No, this time it’s different.”
“Isn’t that what you bulls say every time before the market crashes? It seems to be different every time, yet the outcome is the same – investors get hurt.”
“No, this time it’s really different. Haven’t you looked at the government deficit? It’s at an all-time high, which means the Fed is doing everything they can, even more than in the past. Even the bailouts are working. Did you hear that General Motors has repaid all their bailout funds?”
“I heard. But didn’t they use bailout money to repay bailout money? Neil Barofsky, the inspector general for the Troubled Asset Relief Program (TARP) told the Senate Finance Committee that GM used bailout money to pay back the federal government.”
Abandon common sense
“As I told you – don’t worry about that. People think the economy is getting better, that’s all that matters. Look at prices, they are going up, whether you are a bear or not.”
“I can see that, but …”
“Shush, nobody wants to listen. Nobody does listen. We are in a bull market, just face it. That’s why consumer spending is up.”
“CNBC just reported that mortgage defaults may be driving consumer spending. Lender Processing Service reported that the nation’s foreclosure inventories spiked 51.1% year-over-year. That means that 7.9 million Americans are not paying their mortgages. Assuming the average mortgage is $1,500 a month that would free up $11.85 billion every month of extra spending money for iPads. Perhaps that’s why Apple now makes up 18.12% of the Nasdaq (QQQQ). What will happen to the Nasdaq if Apple stumbles?”
“I can see you are pretty set on being a bear. Have you always felt this way?”
“No, in fact I was one of the first to say BUY in March 2009. Via the March 2nd Trend Change Alert, the ETF Profit Strategy Newsletter issued a strong buy signal and predicted the biggest rally since the October 2007 all-time highs. We gave Dow (NYSEArca: DIA) 10,000 as upper target range. I was bullish when nobody else was. Now it seems like I’m bearish again when nobody else is.
History, does it matter anymore?
It’s lonely and tough being a bear. Who likes to swim against the stream when it’s so much easier to float downstream? But historically, there has rarely been more of a pronounced sell signal than what we see today.
The CBOE Equity Put/Call Ratio dropped to the lowest level in nearly a decade, the Volatility Index dropped to the lowest level since July 2007. Investors’ cash allocation is the lowest since April 2000 and investor sentiment is the most optimistic since 2007.”
Even though the market continues to rack up new historic extremes, stocks (NYSEArca: TMW) continue to climb higher. Higher beta stocks like small caps (NYSEArca: IJR) and mid caps (NYSEArca: IJH) rally harder and faster than its more conservative counter parts.
Does this mean the rally is over? Not necessarily. But historic patterns suggest the upside potential is limited.
The rush hour effect
Take for example your commute to work, perhaps downtown L.A. or New York. Chances are there’ll be traffic jams at or around rush hour. Does that mean there has to be traffic? No. But you are going to work prepared to encounter traffic.
This is the same with the stock market. When you see historic extremes like we do right now, you should prepare for what’s coming. It’s simply common sense. Over the short-term, the common sense approach is not always profitable, but it keeps you safe in the long run.
The ETF Profit Strategy Newsletter has outlined a road map with long, mid and short-term pit stops. The long-term forecast provides the general direction; the mid-term outlook further shapes the investment approach.
Technical indicators are used to compile the Technical Forecast, a market update published twice per week. Technical indicators include pivot points, relative strength measures, moving averages and candle formations.
This combination of indicators has provided some low-risk entry points just this past week and point towards higher prices. How high? The ETF Profit Strategy Newsletter outlines the target range for the top of this rally and the ultimate market bottom.
My name is Simon Maierhofer, I am a bear and I am prepared for what might be coming.