Tuesday, April 13, 2010

Dow 11,000, New Bull Market! Not so fast

Yesterday (Monday, April 12, 2010), the Dow Jones Industrial Average closed above 11,000 for the first time since September 2008. Most of the financial media is calling this a new Bull Market, and even the people who were bearish on the market the whole way up are being capitulated out of their short positions and into the "New Bull Market" camp. Now that investor sentiment has once again hit a territory of extreme optimism, everyone thinks this is a new bull market and good times are back. Earnings are improving, the economy is expanding, and we even had positive jobs growth reported a couple weeks ago for the first time since the recession began. People are optimistic that the economy is on its way back to sustainable growth. People seem to like stocks again over Dow 11,000. Isn't it funny, though, that on March 6, 2009, when the Stock market bottomed, none of that was true? All the news was bad news, the focus was on declining earnings, more job losses, and a contracting economy, not to mention credit markets that were virtually frozen. People thought the economy was going into the abyss, the Dow was headed to 5,000, and it was the end of the world. However, amidst all that pessimism, Ironically that was the time to be buying. The stock market has had a 70%+ rally since, then, and at these extreme prices once again, all of a sudden people like stocks again. Now that the news it good, people are just as sure that although it might be sluggish, the economy is on its way back to growth, and the Dow is on its way back to all-time highs than they were about a continued economic contraction back in March 2009. They are just as sure about the market continuing to go up as they were about the Dollar continuing to go down in late November 2009 with Inflation worries. Yet, the Dollar has rallied over 10% off its low, beginning only 6 days after my post on November 20, 2009 about the extreme pessimism present in the Dollar and the extreme optimism present in the metals markets. Even with optimism returning to Wall Street, the reality is, in my opinion, there are still many more problems with debt and credit markets that have not been solved, and we are still in a long term secular bear market. In 2003, the market bottomed and went to all-time highs, but just to fool everybody into thinking it was a new long-term sustainable bull market. What followed was the biggest decline since 1929-32, which produced the most oversold condition since that bear market. That gave this market the fuel to rally this high, but there are signs of waning upside momentum, just like we saw in 2007, and the wave structure is similar as well. Often times extreme optimism is accompanied by negative divergences in oscillators, such as the MACD, an indicator of momentum. A negative divergence in the MACD indicates waning upside momentum, when price makes a higher high, but the MACD does not. For more info on this, read my prior posts. Attached to this post I am showing a weekly chart of the Dow Jones Industrial Average, where negative divergence is clearly present. Sentiment readings are extremely high, and stock valuations are horrible. The next time pessimism is as it was in March 2009, and valuations are reasonable I'll be buying. A lot of people who cannot control their emotions (the vast majority of people, especially the mom and pop businesses and individual investors, who typically get in at market tops and out at bottoms), may not have the money to invest when the bargains finally do show up, but the people that are patient and keep their wealth safe will not have to worry about losing money and will most likely get rewarded with bargains on cheap stocks and receive good dividends on undervalued companies (high dividend payments relative to the price of stocks are an element of cheap valuations). The worst that can happen to someone who stays conservative, if I am wrong about the market, is missed higher returns. But someone who takes unnecessary risks can lose all or most of their money. In the mean time, don't be fooled by the market, because that is what the market does all the time. Keep your wealth safe, in safe cash equivalents(short term only t-bills) and at savings accounts at safe banks, and when the final bottom comes, you will have to money to invest for better times ahead.

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