How’s the economy doing? More than any other way, we measure that by what’s happening with real GDP, or Gross Domestic Product adjusted for inflation. GDP, in turn, is equal to C+I+G+(X-M), shorthand for spending by Consumers, Investment, Government, and foreigners (Exports minus Imports). Consumer spending (C) is by far the largest component of most countries’ GDP, with the materialistic USA certainly no exception.
The good news last week was that GDP was up a very healthy amount in the US, with the bad news being that C was actually rather anemic, and the big gains coming from I (Investments). Well, how could it be “bad” that businesses are optimistic enough about the future that they’d build new factories, distribution centers, buy new machinery, and that people would feel similarly confident so as to step up and buy new homes? And you’d be right! These are signs of a strong economy, which would, now that I think of it, make it easier for the Fed to taper its bond buying, which in turn is a bad thing—
Yet, it turns out that much of the increased “I” was a result of increases in business inventories (considered involuntary investment). It’s involuntary because you made the stuff intending to sell it now; but since it didn’t sell, then it’s sitting on the sales floor or in storage or whatever, waiting to be sold at some future date. Therefore, it’s money spent today for revenue to be received at some future time or – an “investment.” And having more unsold stuff lying around is basically not a good thing (bearish), which then makes it more likely that the Fed won’t taper, which then is (finally!) bullish. And so the market goes up. Unless it did so for a different series of convoluted reasons, such as the latest, positive unemployment numbers, which imply that the economy may now be strong enough to continue its recovery even with the Fed tapering—
What we DO know is that the market finished very strongly last week, up nearly 200 Dow points. I’m reluctant to say that the market did so for rational or irrational reasons, only because of the Fed’s actions, or whatever because, as the prior discussion showed, there are often rather complicated reasons behind whether a particular development is “bullish” or “bearish”. We shouldn’t pretend to know all the intricacies behind the final tally of good or bad in the market, and that’s just another way to explain why the Dow Theorist believes that the market knows all, or at least more than we mortals know.
So here’s the short-term picture, with the S&P 500 rallying to finish just below its all-time highs. The MACDs, shown at the bottom, have crossed to the downside — a potential danger signal. Could this be an early warning of the market top I’ve been expecting later in the month? Perhaps, but the market plows higher after such a signal almost as often as it rolls over and drops, so let’s not read too much into this sell-signal, while staying aware of the dangers it implies.
[Hear More: Jeffrey Saut: Portfolio Managers Still in the "Disbelief Phase" of This Bull Market]
The following is an excerpt of Richard Russell's Dow Theory Letters. To receive their daily updates and research, click here to subscribe.
