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Tuesday, 1 September 2009

The Market Rally Is Running on Fumes

ByBert Dohmen, RealMoney Contributor

Is it still a bear-market rally? The big question on investors' minds is whether this is a new bull market or merely a bear-market rally. I don't care much for these labels, because there is great disagreement on the definitions. So far, all the evidence suggests it's a rally in a major bear market. However, the popular opinion among analysts seems to be that this is a new bull market.

Our work shows that over the past several weeks we have had "distribution." This means the pros have been selling to the masses, i.e., mutual fund managers and the public. But a distribution process can last for several weeks, or even months. In 2007, the first top occurred in July, when we called that top perfectly. The market corrected sharply thereafter.

Then there was a rally off of the bottom in August. The indices made slightly higher highs in October 2007. Our work showed that the October rally saw very little participation and was engineered. The majority of stocks did not participate in that rally, meaning they had been under distribution. We caught that top within two days. As it turned out, it was the end of the five-year bull-market top.

Currently, corporate insiders, the top managers, are selling their company stocks like crazy. In recent weeks the ratio of sells to buys is a huge 30-to-1. It would appear that corporate executives believe that their stocks are overvalued. Below we give some examples of what some big companies are reporting, and it is quite different from what the analysts say.

Chevron's second-quarter (June) earnings were 87 cents per share. Revenue fell 51.0% year over year to $39.65 billion.

Exxon Mobil's second-quarter profit fell 66%, to its lowest point in about seven years. Excluding items, earnings fell to 84 cents a share from $2.27 a share. Revenue fell to $74.46 billion from $138.07 billion.

Deutsche Bank's CEO, Josef Ackermann, said, "Rising delinquencies among consumer and corporate borrowers are the 'next wave' of the financial crisis." He said, "Bad loans are the next wave. Banks that have fared relatively well so far will also be affected by this."

Wall Street tells us that over 70% of companies are "beating expected earnings." That's deceptive, because the "expected earnings" came from Wall Street and were low-balled, just so that companies could beat them. The actual earnings are down substantially from prior year's earnings, but that doesn't get much media attention.

Traders are now just as bullish as they were at the bull-market top in 2007. We all know what happened after that. Imagine, 88% bulls! That's a huge warning signal. When everyone gets on one side of the fence, it's just a matter of time before there is a rush to the exits. It only takes a trigger. Could the Chinese stock market plunge be a "shot over the bow"? The big trigger will come when the U.S. Congress gets back to work. The biggest spending and taxing programs in history will be debated. That can't be good.

In the past, we have enumerated all the terrible fundamentals for the global economies, the $50 trillion to $60 trillion Mt. Everest of global debt denominated in dollars, the fact that the banking system currently has a much higher leverage than at the peak in 2007, that corporate earnings and sales have plunged, and the fact that actual unemployment as calculated in years past is now between 17% and 19%.

The debt problems have temporarily been suspended by way of the U.S. Treasury and the Federal Reserve issuing about $12 trillion of new debt and guarantees. Just 18 months ago, such a staggering amount was beyond anyone's wildest imagination. And then we have soaring unemployment, which will only worsen because of the huge tax increases on those who create jobs in the future.

We caught the bottom in the market on March 6 to the exact day. The major part of the rally, 48.5% on the Nasdaq Composite, took place by June 11. Then the market had a correction. The second phase of the rally has extended gains by another 7.6% from the June 11 top. That's not much of a gain, considering all the enthusiasm this part of the rally has produced over the past 10 weeks.

In a low-volume summer trading market, it's easy to squeeze the early short-sellers who are using good analysis and who realize that stocks are much too expensive. Don't let it fool you. Our work shows that the smart money has been selling.

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