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SO -
IS THE CORRECTION OVER?
by Michael A. Nystrom
BullNotBull.com
March 22, 2007
Let's review the
action: The stock market had been cruising along nicely, steadily making
new high after new high. Suddenly background nervousness unexpectedly
burst to the forefront. The market dropped sharply. After a weak
recovery, the Dow fell to new lows, scaring the bejeezus out of nearly
everyone and turning even the most steadfast bulls into vicious,
gnarling, howling grizzlies. But before long, a powerful erection of
prices -- fueled by a sudden, renewed sense of investor optimism and
relief -- lifted hope once again. Can new highs be far behind?
Lets take a look at the price action on the Dow chart:
Hey!
What the ---
Observant readers will notice immediately that the above is not the
story and chart of recent price action, but rather a chronicle of the
Dow's activity nearly ten years ago, in reaction -- we can now
confidently say, overreaction -- to the "Asian Contagion."
Shortly after those fear-filled days, the Dow went on to recapture 8,000
and beyond. One year later, it was a thousand points higher. Speaking of
which, after capturing the 9,000 level, the Dow had a similar fit of
panic and displayed a nearly identical chart pattern in reaction to the
'98 Russian bond crisis: A new high, a reaction, lower low and then
recovery to new highs. After the scare had passed, Dow 10K was not far
behind:
Both
cases were brought on by extreme nervousness over external events that
seemed powerful enough to bring the economic expansion to an end. While
it is easy to laugh those events off now as "overreactions,"
it is wise to remember the real terror they generated at the time. I
recall quite clearly the fear and uncertainty, and it is not all
dissimilar to the current concern over the 'sub-prime bust.' Then as
now, there was a focused, media frenzy with everyone imagining
worst-case scenarios.
In 1997, while some remained confident that the Asian contagion would
not spread, others argued there was no possible way such an event could
be contained. It would spread like a cancer through the global economy
and spell the end of economic growth. Sound familiar? Having not
occurred, others were convinced one year later that the Russian debt
default would result in a cascading daisy-chain of defaults across the
globe. In both cases, the bears were wrong and investors who stayed long
or went long while everyone else panicked did quite well for themselves.
To me, the market events of late are developing a similar feeling to the
events of a decade ago. After years of complacency, suddenly everyone is
in a panic. This time, rather than international events, the worry is
over the domestic housing market - its slow motion bust and the impact
that millions of foreclosures, defaults and the tightening of credit
will have on the US, and by extension, global economy. Could this be the
final nail in the coffin for the bull market, the expansion, the US
economy?
Up until yesterday's sharp rally, it sure did look like it. But with the
market's strong show of confidence, suddenly things don't look so bad
after all. Today's chart bears a striking resemblance to Dow '97 and Dow
'98, which went on to "happy endings."
But
what brought about this sudden surge of optimism? It was traders'
conviction - real or imagined - that the Fed is inching ever closer to
lowering rates. In other words, traders believe that the Greenspan put
that has been in effect since the '87 crash has been successfully rolled
into the new Bernanke put. Whether this was Bernanke's intention or not
remains to be seen.
But if traders are correct - that Fireman Ben is standing at the ready
with his magic liquidity hose - then by all means now is the time to
buy. Buy - hand over fist, because true to his promise, Printing Press
Ben is lighting up the print shop, and more money means more inflation
and asset prices will be going up - let the dollar be damned. Mortgage
meltdown? That will go down in the annals of market history along side
the Asian Contagion and the Russian Default as fears that never came to
pass.
Caveat Emptor
But remember, the market has misinterpreted Bernanke's statements before
- something
you may remember that he tried clumsily to correct with private
statements later to the "Money Honey." Could it be that
the markets misinterpreting him again? This time perhaps purposely -
forcing him to either call their bluff or just back down silently.
Interestingly, while the market was strong in its reaction, analysts
remain divided about the true meaning of the Fed's statement.
So far, nothing has been able to stop this bull market, but that is not
to say that nothing will. A resemblance of charts present with charts
past is certainly nothing to base your entire decision on. However, the
reason they look the same is because the underlying psychology is
similar, and the reason I post them is to remind you of what the fear
was like. If you were in the market 10 years ago, you certainly remember
the terror and the uncertainty -- in
August '98 the Dow fell 512 points in one day -- that ultimately
came to naught. But somehow, at this bleeding edge of history, it is
much more difficult to be confident about a future yet unwritten.
If Bernanke is serious about lower rates, the bulls may yet have a
chance. Not a guarantee, but a chance. If Bernanke somehow tries to
"clarify" his position in the coming days - forget it. But
remember, the stock market's rise or fall takes place within a larger
context, and that larger context remains bloated with monetary
imbalances and peppered with risks - economic and otherwise. If a
correction is avoided now by the reckless printing of money - the
ultimate crash is not prevented, only delayed.
So, is this correction really over, or is this just a dead
cat bounce?
We should know soon enough.
© 2007
Michael A. Nystrom
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Michael A. Nystrom
Cambridge, MA
www.bullnotbull.com
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