10,000

by JDH on July 25, 2009

I will keep my comments brief and to the point this week. It’s the summer, nothing much changed this week, my overall opinions have not changed, so writing 10,000 words that say nothing will serve no purpose.

Barron’s seems to think that we will see close to Dow 10,000 this year. Here’s their reasoning:

The U.S. economy is likely to expand in the current quarter for the first time in a year. Economies in Asia and much of the developing world are healing, and corporate profits have bottomed. Monetary policy is highly accommodative in most developed nations. The corporate bond market has had a huge rally, with investment-grade debt spreads narrowing to where they stood just before last fall’s Lehman Brothers bankruptcy.

All major U.S. market indexes — and major foreign bourses — now are solidly in the black in 2009. The Dow, at 9093, is up 3.6%, while the S&P 500, at 979, has risen 8.4%. The Nasdaq has starred, rising 24.7% this year, to 1966, boosted by sharp increases in tech stocks such as Apple (ticker: APPL), Intel (INTC), Oracle (ORCL) and Cisco Systems (CSCO). The Dow has been held back by year-to-date declines in such blue chips as ExxonMobil (XOM), General Electric (GE), Chevron (CVX), Procter & Gamble (PG) and Wal-Mart Stores (WMT).

They go on to say that the March 9 lows were “generational lows”. Well, that’s one opinion. Here’s mine:

The U.S. economy is experiencing very high unemployment. 64 American banks have failed this year, and when you look at the number of branches that have closed we’ve had more bank closings than in the Great Depression. Interest rates are low, but banks are still very reluctant to lend, even in New Zealand. It’s hard for an economy to recover when people aren’t working, and when banks aren’t lending.

Then as the cooler weather of the Fall approaches, we will have the renewed threat of swine flu, that may infect as many as 40% of Americans. How good for the economy will it be when 40% of us are off sick?

dowjuly24-09

I know the Dow chart “looks good”. The intermediate down trend line appears to be broken, so the next obvious resistance level is the long term down trend line around 11,000. We are above the 50 and 200 day moving averages, so all is well, right?

spxjuly24-09

Unfortunately the more broadly based S&P 500 shows a slightly different story. The market is now approaching the intermediate down trend line at the 1,000 level, which presumably will offer some significant resistance, both psychological and real. Even worse, on both the Dow and S&P charts the Relative Strength Index is over 70, which almost always indicates that the market is getting ahead of itself.

Could the S&P rally to 1,200 this summer? It could. Could it rally even while being over bought? It could. But it’s highly unlikely.

The last time the RSI was over 70 was in April, 2007, and it’s easy to see where the markets topped out soon thereafter.

I have been pessimistic all the way up over the last four months. I have stayed on the sidelines, and I have let this rally pass me by, so at the moment I look completely wrong. But we all know from past history that there can be sustained and powerful rallies in the middle of bear markets, as we saw in early 1930. That doesn’t mean the bear market is over.

We each have a decision to make: Do we decide that the worst is behind us, and the trillions of dollars in government spending will save the economy, and it’s only a matter of time until the unemployment rate falls and all is well? Or do you decide that massive government debt has never lead to a sustained economic boom, so there is still some trouble ahead?

I am obviously in the latter camp. I know we could rally for a few more weeks, even a few more months, but I will not be swayed by week to week gyrations in the market. I will not be fooled. I will sit on the sidelines, and if I’m wrong I’ll leave some profits on the table, but I’d rather do that then start buying now in advance of a crash.

My cash is ready, and when the time is right, it will be deployed.

Maybe next week. We’ll talk again then.

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