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Why Buying the Dip Could Be a Bad Idea


Technically there's room to rally -- but there's also room for plenty of misery.

Professor Tony Dwyer posted an interesting chart to the Buzz & Banter yesterday about recessions and payrolls that's worth another look.

Click to enlarge

Tony commented:

"The long-awaited correction is finally showing up in the index prices. The equity market has been weakening internally since mid-April following a historic rally off the March low. I continue to expect the market to follow the 2002-2003 playbook that suggests the S&P 500 (SPX) should move back toward the mid- to low-800s as the non-government credit markets continue to improve and hold the historic gains.

"I've been waiting for the correction to become a more aggressive buyer as long as credit held the gains. The dramatic government intervention and historic improvement in credit, coupled with the cash buildup by investors, should protect the downside and lead to a second-half rally, while a weak economic recovery should keep the market from running too far ahead of itself into 2010.

"While the correction may cause many to focus on the still-problematic economic influences, the good news is the second derivative improvement in just about all the macroeconomic indicators suggests the recession is very close to being over.

"As an example, since the 1940s, every time the quarterly change in payrolls -- adjusted for the size of the labor force -- reached a low and turns, it was the last quarter of the recession. The significant headwinds facing the consumer should limit the economic recovery, but there is sure to be a least a temporary recovery that should show up in higher stock prices by the end of the year."

I've been waiting for the correction to use the liquidity as an opportunity to become more aggressive, and see no reason to change that plan. When the SPX moves back toward the mid- to low-800s, I'll add to equity market exposure with a particular focus in Information Technology and Health Care."

It seems everyone is waiting to buy the dip. Can it be that easy?

Perhaps it can, as the herd is often right. However, recessions since 2000 don't exactly seem to be playing out like other post-WWII recessions.
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