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Is This Just The Beginning?


It is ironic that some of the smartest market observers who, for the greater part of the past four years, have been more or less cautious, if not outright bearish, are only now asking the question...


Lights go down, it's dark
The jungle is your head
Can't rule your heart
A feeling is so much stronger than a thought.

-U2 (Vertigo)

I got into the financial markets in 1982 at Drexel Burnham. I remember my mentor saying in May of that year, "I'm so bullish my teeth are chattering."

Over the years I have observed some wise old owls, those who have a keen sense of history and an ear for popular psychology. Someone who can hear the roar of the crowd and the rumble of the locomotive as the train of the trend turns.

In the dog days of summer in 1982, as the market continued to slide ever lower and lower, I began to doubt my mentor. I wondered how someone with so much knowledge of the markets could be so wrong. Of course he wasn't wrong. My mentor was just a tad early.

Timing is everything. However, the big view is just as important.

As legendary trader Jesse Livermore said, "The diabolical purpose of the markets is to continue higher with as few people on board as possible," (and vice versa). Since 1982, I have experienced multiple examples of the perverse nature of the markets. The market has its own internal clock; no one can tell us when the market will decide something matters or when something will cease to make a difference.

It is ironic that some of the smartest market observers who, for the greater part of the past four years, have been more or less cautious, if not outright bearish, are only now asking the question, "Is this just the beginning?"

It is ironic that after a virtually uninterrupted four-year plus advance, the hypothesis is that the U.S. public could finally turn bullish, that it could start throwing money at the market and fuel what has been a parabolic rise into a hyper-parabolic phase.

Of course, anything is possible in the market. Perhaps a more appropriate question is whether the public will sell now that the S&P is back to its 2000 bubble high.

Why would it? It is my belief that the majority of investors never really sold out in the 2000/2002 bear market. For one thing, the public had been well indoctrinated with the buy-and-hold mantra. The fact that there was an inconsequential period in 2002 where, compared to other historic market bottoms, bearish sentiment exceeded bullish sentiment, supports my notion that most investors never really sold.

Now, as the S&P does its prom-dance thing with its all time high of seven years ago; is a tapped-out public, burned by the new paradigm in 2000, drained by a jump in gasoline prices and a spike in sub-prime mortgage defaults, going to buy into new stories of new-era stocks? Perhaps. Stuff happens, but last week confidence among U.S. consumers fell to its lowest level in eight months. At the same time, NASD regulators warned the public of record margin debt. So it seems, the players are playing. Those that are going to play are probably already playing. From my perch, it seems reasonable that what is going to drive the market is what has been driving the market – professionals.

Those who see last week's record short interest as some kind of guarantee to fuel stock prices higher would do well to consider that there are substantially more hedge funds now than in the last bull run into 2000. There are more assets under management with these 9000 hedge funds, and there is more money dedicated to the short side. Consequently, it isn't surprising to see the short interest ratio increase.

The market's persistent refusal to allow as much as a 10% correction in over four years is based off a bullish proselytization. It is worth noting that a normal year sees two 10% corrections, and one 20% correction. Consider the current eight week run where the S&P has failed to dip below any prior week's low; it is clearly a blow-off. Where is the backing and filling? Where is the breathing?

What is driving the market into uncharted, over-bought, over-stretched territory? When many technicians, including myself, were predicting a four-year cycle trough to drive prices lower into the fall on the heels of the summer sell-off; what launched the market higher last fall?

My guess: With a new Fed chief at the helm, is it possible the helicopter engines were revved up in order to cushion the financial markets from the blow-up of Amaranth Advisors – nipping another LTCM in the bud? It is important to view this event in the context of an accelerating housing slide and sub-prime mortgage blow-up and persistently high gasoline prices. Bring on the Sikorskies. How about a fleet of them.

Be that as it may, the fact is money growth has exploded over the past six months. A sea of endless liquidity amidst a timeless river of demand. And the sea refuses no river. Risk premium is drowning, an endangered species, when the greater Fool Theory floods the market at the hands of the Feds spigot.

Money managers aren't stupid. Some believe the drill. Some just believe they will be able to get out. They will not all be able to get out.

Bubbles have a way of creating this false sense; this thing where you compartmentalize what is really going on, where you allow yourself to suspend the way you perceive things. You imagine that the news and the fundamentals create the psychology rather than the other way around. Then, that is something to fear. You believe that you can actually understand the news and the market. You interpret that because the market has shrugged off all concerns that it is supremely bullish. Then, you're imagining that the flow of a river can be controlled.

I suspect that seven years after the crash of 1929 there was little vertigo among market participants at the 1937 high. I suspect that seven years after the top of the Go-Go sixties market when the DJIA broke out in all time highs in January 1973, few market participants had vertigo. I suspect that there were few market participants with vertigo in 1987 – seven years after the 1980 low (the 1982 low was actually a higher low and a test).

Here's a pop quiz. How much vertigo can you spot, seven years after the 2000 top? We should find out soon. Blow-offs have a tendency to play out over 90 to100 days. Counting from the March low, that takes us into mid-June, when curiously a milestone is scheduled – the IPO of Blackstone. An event to measure the river of demand as well as the rarefied atmosphere in which this bubble of hope floats.

No positions in stocks mentioned.

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