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Stock Market Strategy – Pray for peace…prepare for war

Posted At : April 9, 2009 12:22 PM

We currently have had a nice advance off the lows, and I do expect it to continue for a bit. However, there is not enough tangible evidence at this point to suggest that the current advance is anything more than another multi-month recovery within a bear market.  Thus, the rally appears to be most appropriate for very nimble investors.  That said, the rally appears to be the healthiest and most dynamic recovery since our original Intermediate Trend sell-signal, warning of a bear market, was registered on July 26, 2007.  And the positive signs for this rally continue to accumulate: During most of the past 20 months, the occurrence of a 90% Downside Day was commonly followed by several more 90% Down Days, as investor psychology turned increasingly negative.  But, the 90% Downside Day on March 30th was immediately followed by a series of progressively stronger days of rally, culminating in a 90% Upside Day on Thursday, April 2nd.  This break of pattern indicates a positive change in investor psychology. The Dow S&P 500 Index, NYSE Index and the Nasdaq Composite have risen to new rally highs, above their previous March 26th peaks.  Volume expanded on the rallies, generating the sixth 90% Upside Day for the NYSE during the past four weeks, and today looks to be another.

While these improved signs of strength are encouraging, they do not necessarily indicate that a new bull market is now underway.  Extended bear markets in the past have frequently included strong rallies lasting two to three months before dropping to new bear market lows. There have even been some bear market rallies lasting as long as six months, such as from mid-Sept’2001 through mid-Mar’2002 and Nov’29 through April’30.  Many bear market rallies are strong enough and last long enough to justify new equity purchases.  But, the renewed strength can also cause buyers to throw caution to the wind, and become complacent just before the bear market resumes.

With regard to the economy, there is quite a bit of optimism that the recent market advance represents a forward-looking call that the economy will recover in the second half of the year. Indeed, some analysts have noted that year-over-year consumer spending has only declined very slightly, hailing this as evidence that economic concerns are overblown.

The difficulty is that consumer spending has never declined on a year-over-year basis, except in this downturn, so that slight decline is actually the worst showing for consumer spending in the available data. Likewise, capacity utilization has plunged to levels seen only in 1974 and 1982, both which were accompanied by far deeper valuation extremes than at present. The only way that stocks could be considered extremely undervalued here is if we assume that the record profit margins of 2007 (based on record corporate leverage) are the norm, and will be quickly recovered. While we never rule out the potential for surprising strength or weakness in the markets or the economy, the assumption that profit margins will permanently recover to 2007 levels is equivalent to assuming that the past 18 months simply did not happen.

Strategy: There are many investments doing very well, and many high dividend paying stocks and many high yielding short term corporate bonds. Use this period of “non-plunging” to re-examine your portfolio and tweak it for the current bear market and NEXT bull market. DO NOT get complacent. DO NOT procrastinate. If you are sitting on a portfolio built before this economic Tsunami hit, you probably need to make adjustments. If you lost more than you thought you should, could or wanted to, you definitely need to make some adjustments. Take charge of your finances while there is a period of calm so you can make rational decisions. If you would like a free honest 2nd opinion, just reply back or call me at 916-925-8900. I’ll tell you where you are going right, where you are going wrong and give you the resources to make proper decisions. If something doesn’t look good, I’ll tell you why and how you can improve. If you are in good shape, I’ll congratulate you on a job well done. I love happy endings.

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