Is it Beginning of Bull Market or a Bear Trap?

Published on November 28, 2008

Is it Beginning of Bull Market or a Bear Trap?

November 28, 2008

We are witnessing extremely volatile markets. From the worst two-day drop since 1987 to the best two-day rally since ’87 – all in one month. Another fun fact is that US Markets had 1st 4days winning streak in last 6months. Too good to expect in such an environment. Albeit, the fact is that markets did rally and it was supported by 2 impressive 90% up volume days. This just create a little more confusion. Have we seen capitulation?

I am not on either side and staying cautious. But let me present two cases to you, one Bullish and another one bearish.

First Bullish case by Barton Biggs, who shared this insight originally in Financial times “We are in for the mother of all bear market rallies”. There are 4 key points that Barton has made in the article-

  1. By definition the bottom of a bear market has to be the point of maximum Bearishness.
  2. Valuations are cheap
  3. Stock markets have been obliterated and are deeply oversold.
  4. De-leveraging that has caused such heavy selling is two thirds done.

He thinks that there is compelling evidence that investors, hedge funds, pension and mutual funds, and the public are not just talking bearish, they have raised astounding amounts of cash. We must be pretty close to maximum bearishness.

Furthermore, the 4 per cent dividend return on the S&P 500 exceeds the yield on the 10 and 30 year Treasury bonds for the first time in 50 years. He adds “If emerging market equities, where the growth is, at 6 to 8 times earnings are not cheap I don’t know what is”. History shows that even in enduring, secular bear markets there are not just 20 per cent bounces but usually one 30 to 50 per cent rally. He thinks we should be due.

The reasons why he is not in the market is because he would like to see the credit markets unclog and spreads come in more.

There is one point though where I wholehearted agree with him-

At the bottom of a panic, the news doesn’t have to be good for stocks to rally, it just has to be less bad than what has already been discounted. I want the markets to stop going down on bad corporate and macro-economic news. The fact that it still does shows the bad news has not yet been fully discounted. I have no idea when the next bull market starts, but I do think we are setting up for the mother of all bear market rallies.

Barton Biggs is managing partner at Traxis Partners, a New York based hedge fund, and the author of Hedgehogging and Weatlh, War and Wisdom, two of my favorite books.

Let’s move to a bearish stand by famous Dow Theorist, Richard Russell of Dow Theory Letters.

“The bull market started in 1982 and lasted until 2007, a period of 25 years. Most bear market have lasted from a quarter to a third as long as the preceding bull market . The current bear market started in October 2007. It is now just a bit over one year old. Based on Dow Theory, this bear market might have been expected to last six or eight years. I’m skeptical that a bull market that was in force for 25 years could be corrected by a bear market that has lasted for only 13 months”.

We all know how much Bernanke and Pualson duo is spending to keep deflation away. Massive spending almost of the WW-II footing is taking place. Here is what Richard Thinks of spending and efforts to scare the bear away-

“Being a Dow Theorist, I find it hard to believe that the government will be able to halt or reverse the primary trend of the market and the economy. This is a sneaky way of saying that deflation will remain in force until this bear market ends. Frankly, I hope that Bernanke-Paulson win the battle to halt the bear market. But I’m afraid that this bear market, like all others before it, will only end in exhaustion. Exhaustion will not occur until the last sellers have sold. And sadly, I don’t think we’re there yet.”

What do you think? Have we seen the market bottom? or we are yet to see the worst?

Profitable trading OP

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