There seems to be a general consensus that things are going to get a lot worse before it gets better. For the stock market, this means, that we are going to undercut the November lows prior to any kind of rally. From Jim Welsh @ Green Faucet:
By Jim Welsh | January 23, 2009 | 2:27 PM | 0 Comments
If you think the economy bottoms between April and July, it probably makes sense to buy stocks now, since the downside would be somewhat limited. You’ll also be inclined to buy gold and gold stocks because all the Fed liquidity would lead to more inflation sooner, if the economy improves quickly. You’d sell Treasury bonds, but buy corporate bonds, as an improving economy will curdefault rates and narrow the spread between corporate bonds and Treasuries.
On the other hand, if the economy remains in recession until the end of 2009 or early 2010, all these moves could take a fair amount of heat in the short run, even if they eventually work out.
The stock market was very oversold as it reached its low on November 21, and investor sentiment was lopsidedly bearish. Between the end of November and January 9, the S&P fell from 896 to 890. But, during this 5 week window, the plurality of bulls and bears in the Investor’s Intelligence surveyswung from there being -15.1% more bears, to +7.7% more bulls, while the AAII survey showed a swing from -13.6% more bears to +13.6% more bulls! This is a dramatic shift in such a short period that would only be understandable, if the S&P had rallied 10% or more. It is unhealthy for bullish sentiment to have increased so much absent a big rally, which underscores how advisors and investors have really bought into the notion that the economy will turn by mid 2009. And, technically, by early January, the market was overbought.
Sometime in the first half of 2009, the S&P will challenge and likely break below the November low at 740. I don’t know if this decline will end at 739 or 699. The DJIA will fall below 7,450, and ideally below the 2002 low of 7,197 That’s the bad news. The good news is that once that decline is over, the market will enjoy the largest rally since the bear market began in October 2007. It will be ignited by economic statistics showing that the rate of decline in the economy is getting less bad. The optimists will jump to the conclusion that less bad equals recovery.
I advised investors to sell into strength in July 2007 when the S&P was 1535, in October 2007 when the S&P was above 1550, in May 2007 as the S&P peaked above 1420, and over 1310 in August. In November, I advised buying as the DJIA fell below the October low of 7,882, and selling at 8,600 in December. On January 5, 2009 I thought the market was within 2% of a high. The S&P popped less than 2% on January 6, and then fell more than 13% over the next 7 trading days. The next several months are going to be challenging, as the market deals with a wall of ugly news and the hope of better times to come.
