Mutual fund flight

Here are two charts which appeared in today's "Abreast of the Market" column in the Wall Street Journal. The bottom chart shows the cumulative money flow into U.S. stock market mutual funds (pink graph) and into foreign stock market mutual funds (blue graph). As you can see investors have been pulling substantial amounts of cash out of mutual funds that invest in U.S. stocks and putting that much and more into foreign stock market mutual funds.

It is quite unusual to see such a prolonged outflow from U.S. stock market mutual funds. This is yet another piece of evidence that global investors are generally bearish on U.S. stock prices. And it tells me that the bull market that began in March of 2009 has much further to go.

The fact that there has been such a substantial inflow into foreign stock market funds by global investors I see as evidence that these investors are bearish on the U.S. dollar. I take this to be more support for my contention that the dollar has begun a new bull market which will carry the US dollar index to the 100 level.

Finally, the top chart above this post shows shows enormous inflows into various U.S. bond market sectors. This contrasts with the outflows from the U.S. stock market. Apparently investors who want to invest in the U.S. markets think that bonds are a better bet than stocks. This is a piece of evidence which supports my view that the U.S. and global bond markets have begun a multi-decade trend towards lower prices and higher yields.

Building the Wall of Worry

Here are the latest covers of Newsweek and The Economist. How do they make you feel?

Do these covers make you want to increase your exposure to the stock market?

Probably not. That's why I see them as the latest bricks laid atop the wall of worry. The more bricks the media lay on the wall, the higher stock prices can climb.

Buying opportunity

If you have read my book and been following this blog you know that the aggressive contrarian trader purchased an above-normal long position near the 690 level in the S&P near the March 2009 low. The aggressive contrarian is still holding this position. More than 9 months have passed since the low. So now he is waiting for the 50 day moving average to turn down by 1% from its recent high near the 1114 level (blue line in the chart above). According to the trading strategy for the aggressive contrarian that was discussed in my book's chapter 11 such a turn down in the moving average would cause him to sell his entire long position.

However, in the current situation I think that even if the 50 moving average does turn down by 1% the aggressive contrarian should stick with his above-average long position and not sell it. Here's why.

For the first time since the March 2009 low point the stock market was mentioned in a New York Times headline - see the image above of the February 5, 2010 front page. The headline shows a moderate but not extreme amount of bearish sentiment, about what you would expect from a decline that has lasted only 3 weeks. For many examples and a thorough discussion of extremely bearish setiment in newspaper headlines read my book.

The fact that this headline appeared on the day that the market matched the length in percentage terms of the previous biggest drop within the up swing from the March 2009 low makes the headline doubly significant as a buying opportunity. Finally note that the market has dropped well below its 50 day moving average, and at Friday's low was just 2% above its 200 day moving average.

This combination of circumstances is a buy opportunity for the aggressive contrarian as I discussed in chapter 11 of my book. But since he already has an above-normal long position I think he should just stick with it. The only event that could alter the situation would be an S&P 500 close at least 5% below its 200 day moving average. Such a close would suggest that the market has begun a new bear market. I don't think we will see such a close any time soon.

Bubbles, bubbles everywhere

Here is an image of the cover of the latest issue of The Economist magazine. The bull market in world stock markets is only 10 months old. For the most part world markets are trading visibly below their 2007 tops. The Economist admits that it sees no bubbles at the moment. But it asserts that assets are overvalued world-wide. It also predicts that unless monetary policy around the world gets tighter, bubbles will begin to inflate everywhere.

Here is my view. Assets now may well look overvalued. But markets are forward looking and are anticipating a strong economic recovery. At bull market tops one typically does not find much concern about overvalued assets or bubbles. So I think this cover is one more manifestation of the Wall of Worry that world stock markets are climbing.

I think the bull market is stocks has much further to go and will last at least through the end of 2010.

So What?

Here is a chart of the Investor's Intelligence Advisor's survey that comes to us courtesty of Elliott Wave International. I want to use this chart to illustrate the futility of drawing anything other than relatively short term conclusions from sentiment data polls.

A large number of blogs and opinion makers I follow cite the current high level of bullish sentiment among newsletter writers as evidence that another bear market leg is about to start. Some even think it will drop the averages below their March 2009 lows.

I remember a similar situation back in June of 2003, about 8 months after the October 2002 bear market low (first vertical green arrow on the chart). At the time bullish sentiment was even higher than it is now (blue dotted line). But the market advanced an additional 50% during the subsequent four years, a bull market punctuated by reactions of less than 10% in the averages during that time.

So what can we conclude about the future course of the averages from the current level of bullish sentiment among investment newsletters? Not a thing! At worst it suggests that a reaction of perhaps 10% or so is likely to develop within the next few weeks. But even that is not a forecast that can be written in stone.

What matters most for the market's longer term direction is that the general public still hates stocks and is pessimistic about the economy. Until that gloom lifts this bull market will continue.

Big Ben

Ben Bernanke, the chairman of the U.S. Federal Reserve, is Time magazine's 2009 person of the year. I have been thinking about the significance of this cover. Here are my conclusions.

First, I think that this marks the high point of the public awareness of Bernanke's economic role in the U.S. and world economy. If I'm right about this there will be no more financial or economic crises that require the Fed's emergency intervention for the foreseeable future, i.e. for the next several years. This means that the March 2009 low is in all likelihood a once-in-a-generation low point for stock prices.

It also means that interest rates are about to return to more normal levels, levels which reflect expectations for average economic growth and growing employment in the U.S. and the world. In particular, the gap between short term rates and the 10 year note yield should start to shrink significantly and the yield curve should start to flatten a great deal.

Finally, since interest rates are likely to rise in the U.S. and since the Fed is likely to scale back its support for the securities markets, I think the U.S. dollar is likely to begin a long and extended bull market, one which will carry the dollar index to the 100 level. In this connection I would bring your attention to the background for the cover image of Bernanke you see above. It is an image of the U.S one dollar bill with Bernanke's picture in place of George Washington's.

Sell your villa on the Riviera and buy one in Palm Springs!

A few more bricks for the Wall Of Worry

Here are three recent items from the news media that show the Wall Of Worry on Wall Street is still getting higher. The top image is the latest cover of Newsweek. The story is by Niall Ferguson, a very talented historian, author, and financial journalist. Over the past year he has also found a big audience among doom and gloomers. The thrust of his Newsweek story is that the U.S. budget deficits, current and projected, and the resulting projected increase in the Federal debt are unsustainable. He offers no solutions, but does assert that the U.S. in well along the road to disaster. Why similar disasters won't afflict the rest of the world he doesn't say.

The middle item is a chart from Floyd Norris' New York Times column this past Saturday. It is a chart of one of the major surveys of consumer confidence. You can see that it has reached the lowest level seen during the past 30 years.

Right above this post is the front page of the Chicago Tribune's business section of November 25. The headline speaks for itself.

As you know I think the U.S. stock market is in the middle of a bull market which I expect will last through the end of 2010. By that time I expect to the the S&P 500 close to its 2007 high of 1576. The articles and images above reinforce my view that public sentiment is still quite bearish, despite a 60% advance in the market averages during the past 9 months. While a drop of 5-10% in the S&P can occur at any time, I think it would present another buying opportunity for the contrarian investor.