Can the Dow and S&P Last 15 Rounds?

by: Fritz Hottinger

If the first 2 weeks of trading are any indication, these next 6 rounds (two quarters) will be a very bruising indeed, with steeper drops to come. Using other analogies, the ping pong ball still has not reached the bottom of the stairwell. And though she is now on stage, the fat lady has not yet sung.

Back in October, we cautioned about 4 Horsemen of the Apocalypse appearing on the horizon, posing a threat to our stock market. They were Fed Policy, Economic Data, Corporate Quarterly & Annual Reports, and Political Events. Well, they each have arrived - - - and from all appearances, they will not soon depart. In general, stock markets are fed by 4 forces: economic growth - profit growth - interest rates - inflation.

Regardless of whether these market factors are viewed in the lens of a past, present, or future tense, we here in the U.S. are facing the worst of all scenarios - - - the economy and profits are slowing, not growing, while inflation is rising, and interest rates are soon to follow. (There is little room for Mr. Bernanke to do any cutting, and sooner or later the dollar does have to be defended.)

Recent statistics have been miserable to read: Dow and S&P now in bear territory;

Fannie Mae (FNM) and Freddie Mac (FRE) at their lowest prices since 1992; weekly jobless claims topping 400,000 (another sign of economic weakness); Wachovia (NASDAQ:WB), second-largest chain of U.S. banks, expecting a second quarter loss of $2.6 to $2.8 billion; General Motors (NYSE:GM) fighting bankruptcy rumors.

We could fill more paragraphs with similar notes, but by now you have the picture.

Our economy is in deep doo-doo, is not likely to emerge soon, and there is more bad news to come. Continuing to cloud the future is the fact that our U.S. economic problems are now affecting other major world economies. This bout of global flu will have to run its course, and that means our trading partners in Europe and Asia will have to suffer. And much like the U.S., there will be no quick fixes for them either. As a famous econ professor put it, “economies are like ocean liners; their momentum prevents any quick change of course”.

We expect that before things turn around the Dow will have reached the 10,200 area.

A similar drop for the S&P would take that index down to the 1,100 range. Given no exogenous events like earthquakes, terror strikes, or missile launches to create a sudden drop, the best analogy remains the ping pong ball, bouncing down the stairwell.

Such an up and down scenario will present many opportunities for traders, and also for investors looking to average down on their holdings. Income seekers should investigate Canroys like Harvest Energy Trust (HTE) and Penn West (NYSE:PWE). Value seekers should be looking at stocks like MV Oil Trust (NYSE:MVO), Continental Resources (NYSE:CLR) and Mariner Energy (ME).

More cautious investors should consider adding some UltraShort S&P500 ProShares ETF (NYSEARCA:SDS) on its drops. Obviously, you should do your own due diligence, and then consider using some technical indicators like Bollinger bands or the E-Zone System to find your best entry points - - - and especially those exit points if you are trading.

Disclosure: Author holds long positions in HTE, PWE, SDS, MVO.