The Tycoon Report

Bear Rally: Is it for Real?

Tuesday, December 9, 2008 | Chris Rowe

For the last six weeks I've been showing you how to make incredible profits in China. But I think it's time to bring it back to the U.S. Today will be short and sweet with some quick analysis of the stock market and where it might be headed.

I hadn't been buying into the bull argument that the market has been shrugging off bad news and rallying in the face of it all until the employment numbers came out on Friday. There had been a slew of negative news leading up to the announcement on Monday, Dec. 1, that we have been in a recession since December of last year. Even so, the market had been rallying higher. But I blew off the bull argument pointing to the ignorant strength because I thought the argument was weak, and one filled with hope more than anything. That was the Thanksgiving week rally which posted the largest 1-week gain in 34 years. However, that's typically the strongest week of the year on average, and it was on light volume as usual as so many traders were not on the job. 

Then we got the announcement of the recession when the Dow 30 closed down 677 points. But at the same time, I considered that, historically, the day that a recession is officially recognized/announced is typically a great time to be a long-term buyer. Still I was not convinced.

However, my skepticism faded away when the much anticipated employment numbers came out on Friday. They were a surprise to many as U.S. employers axed 533,000 jobs from payrolls in November, the most in 34 years, yet the Dow 30 ended up 310 points after being down 258 points. That 568 point rally from the intraday low wasn't a sign of enormous strength, but a sign that investors had already been as negative as can be on the market. It was just a lack of supply - there was hardly any stock left to sell!

Below is the Investors Intelligence Advisors Sentiment chart. The firm polls over 200 reputable newsletter writers asking if they are bullish, bearish or neutral. It's a contrary indicator meaning when people are too bullish, the market is near a top and when they are too bearish the market is near a bottom. In this 10-year chart, you can see that the last weekly poll shows bullish advisors (red line) were as low as 21% and bearish advisors were at about 50%.


Today we have more BEARISH advisors and less BULLISH advisors than we have seen on the entire 10-year chart. I'm pretty sure this is as bearish as the polls have ever been. When there is that much bearish sentiment, most of the selling (for the time being) has already occurred.

The next chart is a 3-month chart of the S&P500 and the first green arrow shows the day the recession was announced and the second green arrow shows the day we learned that unemployment rate hit 6.7% (the highest since 1993) and that 533,000 jobs were lost in November (the most in 34 years).  The market has just been gunning higher.
 

At the same time, we just pierced a key resistance level (on the S&P500, it's 900). Below is the same chart showing what makes this a key level for the market. What you might also notice is the level had been slightly pierced on the upside and downside (the third and forth arrows) so we can certainly allow for a bit of play before feeling very confident that the bulls will maintain control. But we have to respect this bull run's ability to rip higher in the face of such awful news.

One thing to keep in mind is traders will be watching the 50-day moving average (blue squiggly line) to see if the market is strong enough to pierce it. 


We are approaching that point, but you should also keep in mind that while traders will celebrate this, the 50-day was pierced back in April. We stayed above the 50-day for two months until we resumed the downtrend. Next is a 1-year chart of the S&P 500. You can see what I'm talking about in April. 

There are two more things to focus on. The MACD and RSI recently showed us a positive divergence (lower lows in the market while the two indicators show higher lows), which is typically a precursor to a bullish reversal. To be fair, I decided to point out that this happened from January to March also (purple lines) and that positive divergence turned out to be a false signal. That happens from time to time as no indicator is 100% accurate, but that doesn't mean you should ignore a very accurate indicator.  

The market is currently MUCH further away from the 200-day moving average, which means a regression to the mean would mean a much larger rally than what we saw early this year.


So what does it all mean? Well, the bottoming process is a long process. In the 2002 - 2003 bear market bottom, there were three bottoms at the same level. The third bottom formed eight months after the first one formed. No two markets will be identical so we can't base our EXACT view of the market on the past. But the past gives us many reliable clues.

What the market is telling us right now is that much of the selling is over. If the market can move, and stay, above the 50-day moving average for a couple of months, it's more likely that we won't see a LOWER low. However, it is likely that we will at least test the recent low again. It may happen in several months, but it will almost certainly happen. 

The bigger the pop off of the recent low (or the larger this advance is) the more likely the recent low will be the lowest we will see for quite some time. If the market turns around soon and resumes its downtrend, we can slice right through the 741 low on the S&P 500. I will keep you posted in The Tycoon Report as to my stock market stance. But for now, I'm more bullish than I am bearish, and I will therefore need to make some adjustments at my trading service "The Trend Rider" to take advantage.  I'll continue to run both bullish and bearish trades, but I will have to adjust - carefully - for the latest strength.



“Profit from the Trend”

Chris Rowe
Chief Investment Officer
The Trend Rider