Bear Mountain Bull

It’s time again for a little BMB R&R, especially with the market behaving as bizarrely as it’s been. Maybe if we stop watching it start to behave a little better…

Posting will be very light and variable over the course of this week, but we’ll put up an open thread each market day for our readers to comment on the day’s market activity or to post any interesting links they might run across.

Check the space below for whatever the latest might be during this ‘off’ time, and please visit the various sites in the ‘Links’ and ‘Regular Stops’ for up-to-date market news and analysis.

BMB will be back in full swing by next weekend.

Some thoughts from Doug Noland this week fit in with the comments made by BMB readers on the big dive in silver prices Thursday night:

I could go on and on with a discussion on deteriorating fundamentals. The economy is rapidly sinking into what will prove a deep and protracted downturn. Mortgage problems are broadening and worsening, ushering in another leg of financial system and housing market tumult. Financial sector spreads widened meaningfully again this week, and it is worth noting that American Express issued 5-year debt this afternoon at an eye-opening 425 bps above Treasuries. Fannie and Freddie debt spreads also widened significantly this week, as did benchmark agency MBS spreads. A severe Credit crunch is now tightening its noose around much of the real economy.

But, for now, fundamentals are not driving market prices. As I wrote last week, markets are about Greed and Fear - and right now Fear Dominates. Those that crowded into the crowded energy and commodities trade are having their heads handed to them. It is also my sense that the scores of long/short funds are likely struggling as well, as many popular longs are performing poorly and popular shorts are in many cases rising spectacularly. The proliferation of “market neutral” and “quant” strategies created too many players all working cleverly to play the same game. Those ranks will be thinned over the coming months.

Today’s Wall Street Journal chronicled the pain suffered by one particular hedge fund. Launched in September 2006 by a hot UBS Trader, the fund immediately raised $3.0 billion. Performance has not met expectations. The fund dropped 34% in 2007 and was down 77% y-t-d through July. Worse yet, investors had agreed to up to a five year lockup. So, even the small amount of their remaining investment is inaccessible.

A lot has been written about all the crazy mortgage and derivative products that were peddled during the Bubble. The incredible mania that engulfed the hedge fund community has not yet received it due. It’s simply hard to believe the days of new fund managers raising billions with extended lockups isn’t coming to an abrupt end. And this is an industry that has for the past few years luxuriated in enormous investment inflows.

Carl Swenlin’s assessment of the S&P chart’s rising wedge formation, which we’ve pointed out here at BMB (click here to view the full column with charts):

The rally that began off the July lows has not demonstrated the kind of strength we normally expect from the deeply oversold conditions that were present at its beginning. Instead, the meager price advance has served only to relieve oversold compression and advance internal indicators to moderately overbought levels. In the process, as the chart shows, the price pattern has morphed into an ascending wedge formation, a bearish formation that usually breaks to the downside. Since we are in a bear market (the primary trend is down), odds of the negative outcome are increased.

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A correction would not necessarily be a bad thing. The July low needs to be retested on a medium-term basis, and a successful retest would set up a broad double bottom, suitable to support a decent rally; however, in my estimation, prices will need to go a lot lower than they were in July before internals will be sufficiently oversold to fuel a healthy advance.

A bullish take on current conditions would emphasize that the subject ascending wedge is a short-term condition, and any downside resolution is likely to be short-term as well, meaning that a very short correction could result in a higher low that keeps the rising trend intact, albeit at a less accelerated angle. There could even be an upside breakout from the formation, but that is a long shot.

Bottom Line: While our trend-following model has us on an intermediate-term buy signal, my opinion is that we should expect a correction which, at the very least, will retest the July lows. Since we are in a bear market, there is also a strong possibility that any correction could be the start of the next leg down.

More on 300-point Dow rallies from The Big Picture:

One final note on our prior discussions of 300 point rallies since 2000:

The first firm to make note of this (as far as I can tell) was a study by Lowry’s Reports. They discovered that during the 2000-2003 bear market, there were sixteen three hundred-point up days in the DJIA. Despite these big surges, the market continued to make lower lows.  That began in March 2000, and ended 3 years later in March 2003.

By contrast, this volatility was not present during the bull run from March 2003- October 2007. There were no three hundred-point up days during that entire period. 

Bear market rallies tend to be much sharper than bull market advances.  Volatility is higher, shorts have profits to protect, and bottom calls are rampant.

There you have it: The past bull market: None; the past bear market: 16.

Health Care and the Staples look the best at the moment:

The Discretionaries have gotten the strongest bounce up, Techs and Industrials to a lesser degree:

After their initial move up, the Financials have done next to nothing:

Energy. Materials and Utilities have been sent to the end of the line:

Here are the numbers for ‘back to school’:

Charts courtesy of StockCharts.com