what hasn't happened

There seems to be an emerging consensus that yesterday's EU summit meeting was a partial failure and a partial success - sort of like all the other EU initiatives taken to control a potential banking crisis.

There is an extraordinary conviction among investors that this half -success, half-failure result was too little and too late, that an Euro zone break up is inevitable and will have devastating, world-wide economic consequences. At least that is what I am reading in the print media and getting from on-line sources.

Here are a few headlines I found within minutes of searching on line for reactions to the summit. They are quite representative.

"Europe's blithering idiots and their flim-flam treaty" - Ambrose Evans-Pritchard, The Telegraph (UK)

"Europe's Disastrous Summit" - Felix Salmon, Reuters US

"Eurozone banking system on verge of collapse" - Harry Wison, The Telegraph (UK)

I think I am on safe ground in asserting that a very bearish investment crowd has developed around this theme during the past few months.

The odd thing is that the European stock markets as well as the US market have rallied today - not by a huge amount - but quite substantially. I also note that the Euro-currency has been trading quietly for the past two weeks in a narrow range a little above its early October lows.

This surprises me, and I think it means that the widely accepted view that a European crash is imminent is wide of the mark. I think the Euro will rally against the dollar from here and that European and US stock prices will advance well above their late October highs.

important update

In my last post I suggested that aggressive contrarians should wait until the cash S&P 500 closed above its 50 day moving average (red dash arrow) before reducing the current, above-average exposure to stock to below-average levels.

I had envisioned this happening around the 1220 level in the S&P. The market is currently trading there but the 50 day moving average is 30 points above the market. I think it is better to be safe than sorry, so I think aggressive contrarians should take advantage of current prices to reduce their stock market exposure to below-normal levels.

Panic II

This morning's editions of The New York Times and the Chicago Tribune presented the front pages you see above this post. Just as it did this past Friday the stock market has made it into the headlines. Generally speaking big rallies start a day or two after headlines like these appear in the newspapers. Today's 6% rally from yesterday's close is probably only the first stage of a bigger move which should take the S&P (daily chart above this post) back above the 1200 level.

Aggressive contrarians still have above average long positions which were increased from average levels while the S&P was in the 1250-1290 range. This latest break has dropped the average nearly 20% from its May 2 high on an intraday basis. Frankly, this is a much bigger drop than normally appears in the context of an ongoing bull market.

For this reason I think it makes sense to adopt a defensive strategy even though the 200 day moving average of the S&P 500 (red line in the chart) has yet to turn downward by 2%, the mechanical method I prefer for signalling a bear market. I think the thing to do now is to hold on to long positions for the time being, but to adopt the strategy of dealing with bear market rallies which was described on page 133 of my book. Wait for the S&P 500 to close 1% above its 50 day moving average (the black wavy line on the chart) which currently is at 1293 but falling rapidly. When this happens reduce stock market exposure to below normal levels.

The blue arrow projects this drop in the moving average linearly into the future. It looks like the market is likely to meet its 50 day moving average somewhere in the 1200-30 range.

My best guess is that the drop from the May high at 1370 is only the first wave down in a bigger decline. I estimate that the low of this decline will develop somewhere in the 950-1000 range.

Conservative contrarians are still carrying a normal stock market long position. I think this is the appropriate strategy until such time as the 200 day moving average drops 2% from its recent high.

Panic

Here is the media reaction to the latest 12% drop in stocks which I think culminated in high volume, panic selling yesterday.

My favorite image is right above this post and appeared on page one of today's Chicago Tribune business section. In big, black, block letters, the Tribune's business editor leaves no doubt about what he or she thinks you should do!

Above that are images of today's front pages of the Tribune and of the New York Times. The stock market is in the headlines, spread across the front page, in both papers. The emotional content of the headlines is subdued relative to those we saw in 2008-09 but I wouldn't expect to find hysteria in the headlines in a bull market.

The top chart is a daily bar chart of the cash S&P 500 going back to the start of 2010. The most significant thing about this chart is that the 200 day moving average is still rising. Unless and until it drops 2% or more the bull market is entitled to the benefit of the doubt. In a bull market a drop below the moving average is a buying opportunity. Compare this one with the one we saw in 2010 (green dash ovals).

I think this is a buying opportunity for the contrarian investor. The aggressive contrarian strategy I described in my book already has an above average commitment to stocks so no action is called for.

I think that this selling squall will soon pass and that the S&P will resume its bull market advance to new highs above the May top at 1370.

euro trash

The image immediately above this post is the cover of Der Spiegel (the Time magazine of Germany) which appeared during the last week of June. The cover image is of a casket draped with the Greek flag on which a picture of the one euro coin appears. The caption reads "Sudden and Expected - Obituary for a Common Currency".

Above that cover image is the cover of the latest Economist in the colors of fear and danger - red and black. It shows the one euro coin teetering on the edge of a precipice which takes the shape of Italy, the latest worry of Euro bond traders.

Normally I don't pay much attention to covers like these unless the market in question is at an obvious extreme in price. The Euro currency is not, at least not against the dollar.

Even so, I think it is remarkable how universal is the bearish sentiment about the Euro which is expressed by these two cover images. I happen to think the Euro is headed for 1.5000 against the dollar. These covers make me think that it has a good shot at its all time high of 1.6039 against the dollar. I think Europe will muddle through the current crisis. Global economic activity in the US and Europe will begin to pick up and this will ease the pressure on European banks, increase tax revenue, and temporarily put off default by Greece.

Update

Here is an image of today's front page of The New York Times. The stock market hasn't made it into the headlines yet, but the story is at the top of page 1 right next to the headline. I think this just reinforces the conclusion I reached in this last post.

BUY say the New York Times and Time Magazine

Wow! The cover of the latest issue of Time Magazine is above this post. Black headlines bordered by red - the colors of danger and fear. The five myths cited on the cover are in my view not myths at all - but they are what Time thinks its readers believe and it is happy to reinforce those fears. The torn dollar whose pieces shrink in size moving from left to right (the direction of time progression) symbolize the shrinking values of stocks, real estate, and the US dollar, and the shrinking purchasing power of the dollar in times of high food and oil prices.

The New York Times chimed in Saturday with a stock market story on page 1, above the fold and just to the left of the headline column. "Stocks Plunge" is a pretty emotional description of what happened Friday and of the trend since May 2.

Take a look at the daily bar chart of the S&P 500 which goes back to the start of the bull market in March 2009. Notice the the S&P is above its rising 200 day moving average (red line), a fact that warrants the presumption that the bull market is still intact. Note too that the drop from the May 2 top is comparable to several other reactions seen within this bull market. In fact the market is still above the steep trend line (green dash line) I have drawn through the March 2009 and July 2010 lows. It is also above the April 2010 top.

Finally note that while the S&P is above its rising 200 day moving average it is well below its 50 day moving average (wiggly blue line), a typical buy configuration in a bull market.

Taken together these facts all point to a market which is offering aggressive contrarians a terrific buying opportunity. I think the S&P will be much higher 6 months from now and will probably reach the 1500 level before this bull market ends.

the rear view mirror

As the saying goes, gloom among investors and the public is now so thick you can cut it with a knife.

The chart right above this post shows the 30 year record of people's expectations that their income will increase during the coming year. For the past two years this percentage has been hovering at its lowest levels of the past 30 years. During this time of pessimism the stock market has steadily advanced.

Of more immediate interest is the middle chart. It shows the results of the weekly survey of investor sentiment conducted by the American Association of Individual Investors. The blue line is the weekly ratio of the number of bears divided by the number of bulls plus the number of bears. The higher the number the more bearish is the average investor. The five week moving average of this poll is depicted by the red line.

On a moving average basis AAII investor sentiment is the most bearish it has been during the past 18 months, and is even more bearish that at last year's July low which ended a 17% drop. This is remarkable because the S&P 500 has dropped barely 9% from its May high.

In fact the latest drop looks perfectly normal in the context of corrections within this bull market (blue dash rectangles in top chart). The 200 day moving average (red line in top chart) is rising strongly and the market is well above it. The S&P is also well below its 50 day moving average.

This combination of circumstances is an buying opportunity for the aggressive contrarian. In my view the aggressive contrarian would have assumed an above average long position near the April 2011 lows after dropping to only a normal long position last November. So while no new buying is possible I think this above average long position should be held. The S&P should soon move to new highs for the bull market.

the beat (of pessimism) goes on....and on...and......

Here is an image of the cover of the latest Economist. I love the line chart of a "crash" photoshopped onto Miss Liberty's tablet.

The Economist is a little late to the pessimists' party, but does contribute its bit to the chorus of naysaying. As I have repeatedly emphasized here, the pessimists are going to have to quiet down quite a bit before this bull market ends in the US, and indeed in the rest of the world too.

Gloom

Here are images of the front page from The New York Times for this past Friday, Saturday, and Sunday. Friday's headline included the phrases "...Darkening Mood..." and "...Pessimism On Economy...". Saturday's headline informed us that "Bad Times Linger...". On Sunday at the top left of page 1 was a story headlined "Stimulus By Fed Is Disappointing..."

I think the New York Times is accurately reflecting (and reinforcing) the public mood at the present time. This is good evidence that no bullish investment crowd of any consequence has built up in the US stock market. Until the public gloom lifts substantially stock prices will only go higher.

opportunity for the aggressive contrarian

At the top of this post you will see an image of today's front page of The New York Times. This is the first time in quite a while that the stock market was mentioned in the headline. It is a very subdued mention. But it comes a month after the "Apocalypse Now" cover in Newsweek. And the S&P 500 is below its 50 day moving average (blue wavy line on the chart) and above a rising 200 day moving average (red wavy line).

The credit warning by S&P for the USA is complete nonsense. The US governments debt is denominated in dollars which the Federal reserve can print at will. There is no chance whatsoever that the US will default on its dollar denominated debt. Yet on the news yesterday the S&P 500 dropped nearly 2% within an hour of the announcement. Dumb selling if ever there is such a thing.

I think the aggressive contrarian should move to an above average long position from just an average one. Before anything resembling a bear market develops in the US stock market I think we shall see the S&P at 1500 and the Dow at 14000.

Apocalypse Now !!

Here is the cover of the latest edition of Newsweek magazine. I think it is a good reflection of the over-the-top reaction to the disaster in Japan. Irrational fears of radiation overdoses make people crazy. (Geiger counters for radiation detection have sold out of the stores in Paris!)

At the top of this post is a weekly chart of the Tokyo Nikkei stock market average. You can see the panic drop on the earthquake- tsunami - nuclear meltdown fears. The Japanese market has since recovered part of that drop. I think it is a buy at current levels.

The Newsweek cover is not something I would expect to see near a bull market top. I think that the current bull market has further to go - at least to the S&P 1400 level and probably to 1500 or so. This would put the Dow at new historical highs near 15,000.

America in Decline ... (NOT!!)

Here is the cover of the latest issue of Time Magazine. It does not directly comment on any market. But despite the ham-handed attempt at editorial balance, the cover makes it pretty clear what the Times editors and, by inference, their readers believe.

This is not the kind of cover story one sees anywhere near a bull market top. It just reinforces my belief that stock prices in the USA have much further to rise before a drop of as much as 25% can materialize.

crude oil redux

Two weeks ago I highlighted the New York times headline on crude oil prices. Crude prices have moved up about five dollars a barrel since then. Above this post you will find two more pieces of evidence for what I see as a bullish investment crowd in crude oil.

The first image is of the latest cover of The Economist. It tells us that crude oil prices have lit the fuse of a bomb which will destroy the worldwide economic recovery.

The second image is of the front page of today's Chicago Tribune. It speaks for itself.

At the top of this post is a monthly chart of West Texas crude oil prices. The market is still trading well shy of its 2008 high of $147. But it is also up 300% from the $35 low of late 2008 and has been moving steadily higher for more than two years.

I think that while prices will probably move higher from here, maybe to $112 or so, the next big swing in crude oil prices will be downward.

crude oil

Things have been pretty quiet on newspaper front pages and on magazine covers over the past few months. But this morning the New York Times headline concerned the oil market (image at top of this post).

The headline itself is emotionally very restrained. However, I do think that the two year rally from the December 2008 low at $35 has built up a substantial bullish investment crowd in the oil market. People keep telling me that oil can only go up from here because of inflation, and improving world economy, etc.

But oil is a commodity like other commodities, and it has a substitute for many bulk uses - natural gas. Natural gas prices are near historically low levels and I think this is not only going to keep a lid on oil prices but will also soon be exerting substantial downward pressure on the crude market.

Political uncertainties may well drive crude a little higher, say into the 100-105 range. But once the psychological $100 barrier is breached I think sellers will come out in droves. Within a couple of years crude oil should be selling below $50.

QE2

I have been reading a lot of nonsense about the effects of the Fed's policy of quantitative easing (QE2). Here is my e-mail response to a friend who asked me about this:

Catherine:

I think Bernanke did exactly the right thing when he pushed the Fed into QE2. Moreover, at least so far, QE2 is a success. How do I know? First, the dollar index is going down (and I think it has a good shot at 65 - but when QE stops the dollar will rally, and rally big time). Second, the yield on the US 10 year is going up while the tips spreads are pretty much unchanged. This shows the bond market is expecting more economic growth, not more inflation. Third, the US stock market is going up, also reflecting expectations of higher growth.

QE works by inflating asset prices (stocks, commodities, real estate and other real assets) which rise initially because investors re-balance their portfolios after they sell assets to the Fed. But rising asset prices encourage their production (real investment) and also make people more optimistic about the future (more bullish "animal spirits" to borrow Keynes' phrase). These last two effects boost economic growth if there is slack in the economy as there is now.

Carl