Is This a Sucker's Rally?

Includes: DIA, QQQ, SPY
by: Jeff Miller

There is a widespread viewpoint that last year's financial crisis changed the world for the worse. Those taking this perspective see one of the greatest rallies in history as insanity -- a sucker's rally.

If you put "sucker's rally" in a Google search, you will get thousands of hits. You were told that you were a sucker in March, April, May .... well, you get the idea.

David Merkel, one of our best sources, has a thoughtful analysis of sentiment, based upon reactions to his writing. (And thanks for the references to our questions!) He has good reasons for his caution on the market, but he still posts a thoughtful analysis about sentiment. In a typically thoughtful fashion he writes as follows:

Look, I see it in myself. I tend toward the negative in this era, because I think it is under-told. Would it surprise you if you knew that I was one of the more bullish guys in my last three firms (1998-2007)? But even if under-told, there is something that always makes the bear case sound smarter. Skeptics almost always seem smarter than optimists. But, the optimists usually win, except when there is war on your home soil, famine, plague, or extreme socialism

We strongly encourage reading the entire article. He is correct in his analysis of bullish viewpoints. Trying to explain that conditions are better is a tough sell -- based upon data that many disbelieve, fighting anecdotes that we all see.

Barry Ritholtz, another featured source, has a reputation for seeing the negatives. He became more constructive on the market in March and still sees the rally in the sixth or seventh inning, mostly based upon technical analysis.

Jim Grant, bearish for as long as we can remember, now takes a bullish stance. In a thoughtful and nuanced article, Grant cites many of the factors --hard data used by the ECRI, for example --- that we have frequently cited. Once again, read it all for yourself.

An Alternative Viewpoint

Daniel Solin at Daily Finance writes If this is a sucker's rally, I'll take it :

A globally diversified portfolio of low cost index funds, conservatively invested 60 percent in stocks and 40 percent in bonds, is up 20 percent year-to-date. How's your portfolio doing?

Probably not very well if you listened to "market beating" brokers or to much of the financial media.

Some of us have done even better, mostly by spotting stocks that had the best rebound potential.

Circumstances Change

Some investors are locked into backward-looking valuation methods, using ten-year P/E ratios including an era of massive write downs. Is this what we should expect for the future? These methods will be very slow to adapt to changing conditions.

It seems wiser to adopt a method that adjusts to the facts. This is not a blind "buy and hold" strategy, but one that attends to both time frames and the opportunities of the moment. In July, for example, we noted a need for caution. As the evidence changed, our posture changed.

Investors who are not looking ahead, or who lack ideas, need help. There are many attractive stocks trading well below pre-Lehman levels. With a depression off the table, valuation prospects have changed.