Why This May Have Been a Sucker's Rally

Mark Twain said:

History doesn’t repeat itself, but it does rhyme.

Right now, investors and traders are getting ready for it to rhyme again.

Earlier this week, the government felt the stock market was getting a bit too low again. Our great leaders delved into their ever-shrinking bag of tricks and pulled two of them out. In the process, they sparked the strongest rally since last summer when they stepped in.

Barney Frank, the House Financial Services Committee Chairman, told reporters he has spoken to the Securities and Exchange Commissioner and said:

I am hopeful the uptick rule will be restored within a month.

Frank went on to add his support to the current mark-to-market accounting rules (which will make the bank “stress tests” much less stressful).

Surprised? You shouldn’t be (we were waiting for a change in the “uptick rule”).

Analysts, pundits, and traders have been pleading for these rule changes for months. We warned that the government still had these rabbits to pull out of their hats. The only question we had was how bad the markets would have to get before they would.

Now that the market has fallen enough, the government gives Wall Street what it wants. And Wall Street gave the government what it wants (especially right before the G20 meeting): a climbing market.

A Sucker’s Rally?

I wouldn’t get too excited yet. If this lasts through the weekend, we’ll undoubtedly be bombarded with “that was the bottom” calls. Odds are, however, this rally will sputter out very soon – just like every other government-created rally in the past.

You see, bear markets are a fickle animal. The two-down-days, one-up-day pattern can and has wrecked many portfolios.

The pattern provides the right mix for complete disaster. It provides just enough hope to keep a lot of investors hanging on. In the end, there is still a lot more down than up and the markets end up lower.

Of course, this hasn’t been your average bear market. The two days down, one day up cycle has been stretched out into five down days, one up day. But those rare up days are usually pretty big ones. Whether it’s short-covering or investors thinking “that was the bottom,” hard and fast upswings are a telltale sign we’re still in a bear market.

But right now, the stock market is racing upwards. Day traders who jumped on early are enjoying a nice ride, but the ride may soon be coming to a screeching halt.

History is Rhyming

Quite frankly, I’m wary of this rally for a number of reasons. The number one reason is because it’s all coming from the anticipated swipe of a bureaucrat’s pen.

This isn’t a major change like rewriting the tax code to redistribute wealth from companies who “make too much money” (read: oil companies) and implementing policies which will increase everyone’s utility bills. That’s a different matter which forces, for better or worse, structural economic change.

This is a one-time deal like the stimulus package, an emergency Fed rate cut, or temporary ban on short selling. As we’ve seen time and time again during this downturn, they just don’t last. Just take a look in the chart below. The numbered circles are when the Government intervened (please keep in mind, I’m an analyst and publisher, not a graphic designer):

1. January 2008 Meltdown – Everyone thought this was the BIG ONE. The world later learned it was just the start. That wasn’t going to stop the government (or technically de facto government – Federal Reserve) from stepping in with a temporary Band-Aid. The Fed made an emergency rate cut of 0.75% - the biggest one-time cut since 1984.

2. July 2008 Bank Stocks Plummeting – “The banks were ‘fine.’” It was the short sellers to blame. SEC bans short-selling on financial stocks and sends bank shares soaring…temporarily.

3. TARP Unveiled – Nobody knew what it was supposed to do, where the money was going to go, or exactly how it was going to work, and they still don’t. But it meant most of Wall Street bets would get paid. Good enough for a brief rally.

4. Obama Stimulus – Obama won! The initial idea of $787 billion spending spree unveiled. The economy will be saved. By solar and infrastructure stocks! Or so they said. As we expected, it didn’t last.

5. Uptick Rule Reinstated and Mark-to Market Rules Relaxed – Strong three day rally which eventually ....?

See a pattern?

The government is setting them up again and, if history is any indicator, there will be a time to knock them down again soon.

There is absolutely no reason not to expect this time to be different than any other time the government intervened in the markets.

That’s why, now more than ever, you’ve got to stick to your disciplines. A couple of rule changes are not going to make too much of a difference. The U.S. and world economy are in drastic need of structural change and it’s not going to be easy.

And just wait until the fireworks really start going at the G20 meeting in a few weeks. I expect the world’s leading economies to blame the U.S. for everything, renounce President Obama’s call for them to go deeper into debt (retaliation for someone sticking their nose where it doesn’t belong), and for them to demand a stronger dollar thereby hurting U.S. exports.

Yes, I’m going out on a limb here, but it just doesn’t make any sense. But at the Prosperity Dispatch, we also went out on a limb talking up stem cells the day after the market’s bottomed in November. And we did it again when we picked apart infrastructure stocks when they were all the rage in January.

So we’re due for being wrong on another short-term call (the markets have a way of doing that), but as long as we have sound rationale on our side and by maintaining discipline and not getting caught up in the euphoria, we’ll be better, much better off over the long run. Again, history has a way of regularly rhyming. If it rhymes this time, this rally won’t last much longer.

Comments

[Moon Kil Woong:]

What we need for a real rally is sectorial leadership in a growth area not banks. Bank rallies are by nature not fundamental market changes. So far we have seen every bank rally lead to a trading range and that's all. As noted, recently the bank rallies have all eventually eroded to new lows because it means just one more government trick has been used up. If Paulson had a bazooka we are now left with sticks and stones.

What is the Fed and Treasury going to do next time the economy fails and market falls, strip down to their skivvies and start wrestling a bear?


Constructe now known as Moon Kil Woong

Mar 12 11:27 PM

[jeerio:]

i'd tend to agree, and would call this 'rally' more mental relief than renewed belief. while making money the past three days, i've also added to my short positions. many layers yet to be exposed, and they will be nasty, and dash the hopes that this is getting better soon.

Mar 12 11:28 PM

[Dr. O:]

If the banks are seen as stabilizing, and remaining independent and viable, the rally has legs.

Mar 13 12:01 AM

[The AntiCramer:]

Nice article. The classic battle between economics and politics. I asked a fellow trader today why the government keeps putting taxpayer money at risk. He responded "well, they have to do SOMETHING, don't they?"

When I asked him how adding massive debt to a problem caused by overloading on debt would fix the problem he had no answer.

We've used the bazooka. We're on sticks and stones. All that is left is spitting in our faces.

Mar 13 12:02 AM

[Buckley:]

I think you are too young to fully understand your own comments regarding what a bear market is and isn't. Sure, anyone can state that a bear market is "fickle", but not having really seen a bear market in your lifetime, your statements end up sounding cliche and trite.

Mar 13 12:05 AM

[samwise:]

this is going to be a suckers rally all right, but not in the way you think. what's going on here is the reality of explosive growth funded by massive amounts of hot money. The uptick rule? Big whoop. Getting rid of mark to market, however--this is the ultimate sell out for the democratic party. in other words, there will be no accountability for the biggest theft in American corporate history because these "special investment vehicles" will simply be valued at whatever the banks deem the value to be. that saves them from doing rightoffs whose mere threat of being admitted to brought these institutions and all of wall street itself and the so called "global economy" to its knees. in the meantime uncle sam is stuck with TRILLIONS in bad paper in fannie and freddie which was stuffed in there by the likes of BofA, Wachovia, Country-wide, etc...THIS SIMPLY CAN'T BE PAPERED OVER BECAUSE THESE INSTITIONS HAVE A FEDERAL GURANTEE NOW. So now that the wall street banks know they're not only not going to die but are to be given the "keys to the city (meaning DC itself)"--darn right they're going to start lending. And what happens? The price of oil leaps 4 dollars in a single day and Goldman and Morgan Stanley soar in price. In other words, "that death star is fully opertaional" and the government is the rebel force that's about to be annihilated. How so? INFLATION. Helcopter Ben is about to start pushing rates higher to fend off once and for all this moronic beast called the Democratic Party. In the meantime, treasuries get clobbered by "door gunner Ben" and CASH IS KING. Who has cash? BANKS. And ones that were suposedly prostrate of all thing. Amazing. HSBC had a rights offering that was the deal of lifetime this week. Sorry if you missed it, but you can still buy the stock. In the meantime, hope you can still get that loaf of bread because who knows what the supply of that's going to be in the few months or years.

Mar 13 12:11 AM

[Tradememe:]

The two-down-days, one-up-day pattern will wreck portfolios only if one sells in the very short term. But with a longer outlook this search for bottom will look futile.

Mar 13 12:50 AM

[scotty1560:]

Too strong of a rally, too quickly, no base building.
No expert here but I agree with Andrew.

Smart traders can make some money here. I'm not
good enough, so I'll watch the action.

Mar 13 01:21 AM

[Fred Voetsch:]

I agree. I am tired of posting data that perma-bulls just ignore so I will spell out in two words why this market has much farther to fall: deflationary spiral

Mar 13 02:21 AM

[Steven Hansen:]

the economy will not heal until the banks are on sound footing, but this is not saying that the banks will be the foundation of the economic rebound.

i am one of the few who believe the banking crisis is a symptom, and not the cause of this recession. i am sure fixing the banks will lift the gdp some, but there is systemic weakness in the job creation market which must be repaired before we recover.

Mar 13 02:25 AM

[pmm:]

Trust has left the building. The SCC, naked shorters, politicians all bought by the pound like meat in a butcher shop .......and is continuing even now into the so called stimulus. The cleansing will require very long enduring pain for the masses and the resulting shift in mentality back to strong moral values. Nothing else will fix thi long term. Without trust the sytem is bricks without mortar.


On Mar 12 11:27 PM Moon Kil Woong wrote:

> What we need for a real rally is sectorial leadership in a growth
> area not banks. Bank rallies are by nature not fundamental market
> changes. So far we have seen every bank rally lead to a trading range
> and that's all. As noted, recently the bank rallies have all eventually
> eroded to new lows because it means just one more government trick
> has been used up. If Paulson had a bazooka we are now left with sticks
> and stones.
>
> What is the Fed and Treasury going to do next time the economy fails
> and market falls, strip down to their skivvies and start wrestling
> a bear?
>
>
> Constructe now known as Moon Kil Woong

Mar 13 03:55 AM

[Ranger:]

Yes, yes, all is bad forever until the 17-year-olds like you determine it's better. The shorts have destroyed the market because of M2M. And now you're mad because your vehicle for wealth will be curtailed.

Mar 13 10:40 AM

[je:]

Do you ever have anything original Andy?

Mar 13 03:56 PM

[User 305589:]

we could well se a market climb of anywhere between 10-25% from here. That would not reverse the overall bear, but it would, for a change, kill a lot of shorts, especially all the johnny-come-lately ones. and it would make bulls a decent chunk of money - as long as they take it off the table and do not misread it as the beginning of a new secular bull market.

And, Andrew, I don't care whether you call it government-made and therefore, short-lived or sucker. fact is, that usually all sorts of reasons are given AFTER a rally or a decline and 99% of the time these 'reasons' were simply irrelevant or outright silly. Fact is, the rubber band has been stretched to the downside to the hilt and is simply due for a strong rebound. bear markets are there to separate BOTH bulls and bears from their monies (most of them). And currently, the bears are due to contribute their 'share'.

Mar 16 06:24 AM