Once More Up, Then the Big Down   (June 28, 2010)

The ingredients for a classic head and shoulders topping pattern in the stock market are all present. That suggests one more rise and then a massive grinding move down to 2009 lows.

Officially, of course, everything's peachy with the economy. Europe is fixed, China is booming, consumer confidence is rising, and we are encouraged to resume our borrow and spend ways as the economy will not "double-dip" into recession. The economy will not slide into another recession, we are reassured constantly, even though roughly 80% of Americans don't think we ever left the recessionary quicksand.

Please see "Two Scoop Special": Double-Dip Recession Guaranteed (May 21, 2010) for more.

Courtesy of Imperial Economics, here is a chart of the growth rate of the Economic Cycle Research Institute's (ECRI) Leading Indicators (WLI). (Please visit Imperial Economics to view a the full version of this chart.)

Needless to say, this chart does not inspire the confidence that the Mainstream Media and Central Governments are so desperately attempting to inflate. The WLI appears to be moments away (figuratively speaking) from slicing into recession territory.

I have made a few notes to indicate the past few bubbles and recessions. The spike down of the Global Financial meltdown was truly significant, as was the stimulus-juiced spike of "recovery." (Recovery if you are a bank, recession if you are a debt-serf.)

The mere whiff of recession cratered the stock market. If we glance at a long-term weekly chart of the S&P 500, we can easily see the euphoric spike of the initial "V-shaped recovery" which was followed by a slower but steady rise to a classic top in April as the SPX kissed the 200-day moving average.

MACD is now threatening to drop below the neutral line for the first time since July 2009, and the stochastic is oversold. The decline in MACD is bearish, and the stochastic could stay oversold for an extended time.

I have a funny feeling the market "should" crash but instead it will do the opposite and rise once more before "The Big Down Move" The Powers That Be fear and loathe kicks in. Here is the moment when the stage falls silent and I ask you to re-read the HUGE GIANT BIG FAT DISCLAIMER below which states that these are the freely-offered (i.e. you get what you pay for) random observations of an amateur and they are not intended as investment advice.

Time and again the real economy has shown unmistakable signs of serious illness, yet the market rallies--often in most peculiar ways such as "ramp and camp Mondays" in which the market shoots up and stays elevated all day with essentially no volatility. Another favorite move is a down day that is erased with a sharply manic rally which begins liftoff at 3:45 pm sharp. Hmm.

So given the tenuous causal connection between the real economy and the market, we should be on the lookout for yet another rally which flies in the face of reality.

Here is a daily chart of the SPX which reflects the dual forces at work. The MACD reflects a major decline in the market, but on a short term basis, it is signalling a Bullish divergence (rising as the market fell). This is setting up a classic head-and-shoulders topping pattern:

There are two key reasons to suspect the market will rise to the 1,150-1,175 range. One is that the right shoulder can be expected to reach the previous line of resistance shown--the left shoulder around 1,150.

The other is the possibility that there will be time-symmetry in the head-and-shoulders pattern. Note that it took about 3 months for the market to top from the right shoulder. Symmetry suggests that the right shoulder will form around 3 months out from the top in late April. That would target early July as the high point of this final rally which will complete the head-and-shoulders topping pattern and set up a long, grinding decline to the 2009 lows around 667.

For those of a fundamenal analysis bent, please read U.S. Profit-Margin Outlook `Extremely Bad' and glance at the accompanying chart, which shows U.S. corporate profits reached an all-time high in Q1 2010, blowing past the highs of the dot-com era and the credit/housing bubble peak in 2006-2007.

Exactly what drivers are there for future gains in corporate profits? I can't think of any, short of Martians landing and going on a shopping spree with gold they manufacture in their spacecraft. On the negative side, we have:

1. The rising dollar is a huge headwind to sales in the Eurozone and elsewhere.

2. The low-hanging fruit of pushing the workforce to produce more output for the same salary/wages have all been picked.

3. The inventory build-out is done for everything but the iPhone 4 and iPad.

4. So-called "fiscal austerity" (when did living within one's means become some sort of brutual "austerity"? Talk abour propaganda!) in the eurozone and U.S. states will remove tens of billions of dollars from corporate sales.

5. Global overcapacity is alive and well. There is overcapacity in everything manufactured except the iPhone 4, and that will be in glut by 2011 as well.

6. Uncle Sam is not distributing trillions of dollars quite as freely. There seems to be some glimmer of awareness that there could be consequences of squandering trillions of borrowed dollars on essentially worthless projects such as occupying Iraq, inflating the housing market by socializing the entire mortgage market, propping up Fannie Mae, Freddie Mac and FHA, etc.

7. Housing is rolling over now that the socialized mortgage market has been tentatively allowed to go off life-support (it is wheezing and turning blue in the face, not signs of vibrant health).

8. There is no pricing power anywhere once stimulus-goosed demand declines to organic demand (flat to down).

For those who want to exit long positions, there may yet be a golden opportunity to do so. It's even possible that the Powers That Be squeeze the market so tightly that we see a double top around 1,200, just to frustrate the Bears one last glorious time.

As they say, keep an eye on the referee as the Bull and Bear duke it out. Here is my long-term look from May 26: Stocks Due for a Bounce, But Long Term...

HUGE GIANT BIG FAT DISCLAIMER: Nothing on this site should be construed as investment advice or guidance. It is not intended as investment advice or guidance, nor is it offered as such. It is solely the opinion of the writer, who is NOT an investment counselor/professional. All the content of this website is solely an expression of his personal interests and is posted as free-of-charge opinion and commentary. If you seek investment advice, consult a registered, qualified investment counselor (As with any other professional service, confirm their track record and referrals).

If you would like to post a comment where others can read it, please go to DailyJava.net, (registering only takes a moment), select Of Two Minds-Charles Smith, and then go to The daily topic. To see other readers recent comments, go to New Posts.

Order Survival+: Structuring Prosperity for Yourself and the Nation and/or Survival+ The Primer from your local bookseller or from amazon.com or in ebook and Kindle formats. A 20% discount is available from the publisher.

Of Two Minds is now available via Kindle: Of Two Minds blog-Kindle

"This guy is THE leading visionary on reality. He routinely discusses things which no one else has talked about, yet, turn out to be quite relevant months later."
--Walt Howard, commenting about CHS on another blog.

NOTE: contributions are acknowledged in the order received. Your name and email remain confidential and will not be given to any other individual, company or agency.

  Thank you, RAL Communications ($35), for your extraordinarily generous contribution to the site-- I am greatly honored by your support and readership.   Thank you, Robert W. ($60), for your outstandingly generous contribution to the site -- I am greatly honored by your support and readership.

Or send him coins, stamps or quatloos via mail--please request P.O. Box address.

Your readership is greatly appreciated with or without a donation.

For more on this subject and a wide array of other topics, please visit my weblog.


All content, HTML coding, format design, design elements and images copyright © 2010 Charles Hugh Smith, All rights reserved in all media, unless otherwise credited or noted.

I would be honored if you linked this wEssay to your site, or printed a copy for your own use.



Making your Amazon purchases
through this Search Box helps
support oftwominds.com
at no cost to you:

Add oftwominds.com to your reader:

Survival+   blog  fiction/novels   articles  my hidden history   books/films   what's for dinner   home   email me