Last week, I gave you an in-depth look at the stock market from the technical standpoint. This week, I want to approach the problem of understanding the current market conditions from a bit more of a fundamental perspective.
As you already know, I spend a lot of my time analyzing my faithful, dependable, charts. But, I also make it a point to read stock reports, economic analysis, and news stories to keep up with the action of the stock market. Now, I must tell you, what I am seeing in my charts and what I am reading in the media often seem like two different worlds.
At one end of the spectrum was a report by none other than George Soros that, after reading it, makes you want to head for the hills. At the other end is the current Van Eck-Tillman report that relates how they put 100 percent of their investment funds into stocks on Jan. 22, right at the low. Wow, talk about two different worlds!
In between these two ends of the spectrum, there are hundreds of other reports and articles that tell us that we are either due for disaster or that we are headed for Dow 20,000 by next year! The one I like best is from that respected analyst John Mauldin, who sees problems, but believes we will "muddle through," as he so eloquently puts it.
Now, it is obvious that one end of this spectrum is clearly going to be wrong. But, the trick is to know which end, isn't it? If you invest in either one, you surely have a 50 percent chance of being wrong. Just what is one to do in light of such disparate viewpoints? Here is how I would approach the matter. See if you agree.
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First, I would start by looking at some of the most recent facts, starting with the financial sector. After all, that's where all the problems began seven to eight months ago. To say that the sector was hurt is an understatement — more like it was decimated. If you shorted the group, like a few of the hedge funds did, you probably can retire very comfortably right now. If you held on hoping for a rally, you are likely much poorer today. But, if you covered your positions at the 10 percent to 15 percent loss level, you are probably just okay today.
As I see things, the worst is over for financials. The best evidence of that is that bad news came out about several big financial companies last week and their stocks held their ground. Washington Mutual actually rallied in the face of its write-offs, as did Wells Fargo, Citigroup, and Merrill Lynch. Wachovia was an exception and was tagged hard for worse than expected earnings. When bad corporate news starts result in good news for a stock, it generally means a bottom is near.
Then, I would look at corporate earnings for signs that the dire predictions of deep recession — even depression — are developing. That doesn't seem to be happening. Look at the better than expected results from companies like Coke, Caterpillar, IBM, Johnson & Johnson, and Honeywell — to name just a few — that reported better than expected results. These are no minor or mid-cap companies. These are the top-of-the-line companies, and they are performing well.
Next, I would check out the current crop of economic reports. They are clearly flying in the face of the predictions of disaster, too.
The index of leading economic indicators, March retail sales, and industrial production each showed better than expected results. And that's just from the past five or six days.
Now, it is fair to say that the gains were not big ones by any means. However, the fact that gains were achieved when disaster was expected is truly significant. This fact alone is enough to refute all of the incredibly bad expectations put out there by some analysts in the first quarter.
Finally, I would also recognize that the really, truly important number — the advanced report of the GDP on April 30 — will be the most watched of all recent economic reports. Some are predicting negative numbers and some positive. I expect a low, but still positive number.
Why? Well, it is obvious that since January, unemployment has not risen to the 7 percent to 8 percent level, as some predicted. It is also obvious that the March retail sales gain, small though it was, was not fodder for recession-like activity in the first quarter either. Remember, the GDP must decline (be in negative territory) for two quarters in a row to be labeled an official recession.
In conclusion, the financial sector took a deep hit, but it seems to be leveling out. What's more, the more important of the current economic reports indicate that we are not falling off a cliff. So, you can turn part of your frown upside down now if you like.
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What do my charts say? Well, as I showed you last week, here is where the rubber hits the road. While my Super Chart is still signaling a bear market, it has been holding its key supports and even broke above some of the key resistance levels last Friday. While those breakthroughs are being tested this week, they have so far held up well.
Even more important, the charts that I watch almost as closely as my Super Chart, the "point and figure" charts, are all breaking to the upside. For those of you not familiar with the point and figure charts, they are charts that record price movement only. No time or volume levels are involved whatsoever. This view of price movement allows chartists like me to see more clearly how buyers and sellers are responding to all the reports and news articles out there.
Here is a list of those important indices that broke to the upside recently along with their predicted highs. The predicted highs use a long-standing, accepted formula to calculate the next high:
Dow Jones Industrials with a predicted high near term to be 13,800 (closed April 22 at 12,720)
S&P 500 with a near term predicted high of 1,510 (closed April 22 at 1,380)
Dow Transportations with a near term high predicted of 5,220 (closed on April 22 at 4,965)
Dow Jones Composite with a predicted high near term of 5,400 (closed April 22 at 4433)
I could go on with several more important ones, but you get the idea. My own charts, as I showed you last week, have clearly stopped predicting new lows. In fact, they have been doing just the contrary, slowly eating away at resistance and breaking into higher ground.
As I said when I began, to read the media and to look at my charts, you would think we were in two different worlds. But, this is really not unexpected. One of the points that many investors tend to forget is that the stock market is a discounter. It never cares much about the current news (unless it is a totally unexpected 9/11 type). Instead, it is looking forward six to 10 months all the time.
Remember that the Dow is generated by all of the investors in the world. The fact is that all investors know all the facts, and whatever is known by this collective "grand investor" is recorded in the daily indices, including a good measure of speculation of what might happen in the months ahead as a result of the current news.
So, it is pretty obvious where I come down on all of this. I am a chartist and, first, I believe my charts. I believe that the charts show investors "saw" today's current news in January and discounted it fully. I think they do not now see any worse a scenario than they predicted on January 22 when the market recorded the year's low to date. That being the case, I go with that crowd that is looking for better times in the second half of 2008 and a good period in 2009.
So, count me mildly bullish for the good reasons cited above and in my last week's column. But, I must, in all fairness, qualify this by saying a lot depends on who is elected president in November. That will have a huge effect on the market later this year and for 2009. But, that is a topic for another column.
I expect that the portfolios that are picking off well-priced stocks today, committing maybe 50 percent of their cash, will do very well by year end. And when do you commit the other half of your portfolio? Well that too is a topic for another column.
I hope you find some of the information that we developed together over the last two weeks will prove profitable over the next 12 months. I firmly believe there is light at the end of this tunnel and it is not another train. It is the end of this current market malaise and the bad news overhang.
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Do hope your coming investment week is good one. In the meantime, you keep in touch. I do! See you next week.
Editor's note:
The Recession's Silver Lining. What it Means for Investors.
Cash in on the Shocking Growth of Personal Debt
Why the Dollar May Have Hit Bottom. New Actions to Take Now.
How to Make Healthy Profits in Sick Economy.
