Remaining Bullish, Despite the Storm Clouds

Includes: DIA, QQQ, SPY
by: Caleb Sevian

Every industry veteran is familiar with the attitude that there is 'pending doom ahead', there are 'storm clouds on the horizon' or that there are 'warning signals flashing everywhere'. It doesn’t matter what industry it is -- cynics are always able to make optimists feel as silly as a boy on prom night hoping to impress his date with his tux.

Right now even the most seasoned stock market cynics are scratching their heads about last week’s lackluster news and the stock market’s reaction to it. Here’s a little guideline about momentum trading: when all news the market receives is perceived only one way, in our case positive, try to make sure you’re on the same side of the trade as the perceptions. We are in a period where market psychology is driving the market. The problem with periods like this is that no one knows how long they will last, but knowing when to leave your chips on the table or take them off means the difference between watching everyone else around you make money or making some for yourself.

Just ask Greenspan, who gave an immortalized speech on irrational exuberance in December of 1996. The NASDAQ went up about 300% from there before it was time to take the chips off the table.

We are in the midst of a momentum market driven by positive market psychology. The fundamental drivers to take us aggressively higher seem meager. On the positive side, we have continued earnings strength and a Fed that is parked in neutral. On the negative side, we have a flurry of geopolitical issues including escalating unrest in Iraq, North Korea playing with nukes, Iran continuing to defy the US.

We also have a slowing economy at full employment, with only one feasible direction to go, OPEC panicking about falling oil prices, and a Fed that is verbalizing that they are becoming increasingly more uncomfortable with persistent inflation data. This is all piled together with an in-term election that is shaping up to be a landslide for the Democrats, who have historically led less business friendly movements. (In fairness to the Democrats, it’s hard to tell what they stand for today, I’m not even sure they can tell you that.)

Given all these 'storm clouds', I remain a bull for some compelling reasons. As I’ve harped on for weeks, current market valuations are near a ten year low, limiting potential downside. We are in a seasonally strong quarter in a seasonally strong time in the election cycle, and as Bernie Schaeffer pointed out last week in his research, many investors are out of position right with overweight positions in underperforming sectors of the market, which may likely cause a rotation into the S&P which is being artificially suppressed by hedge funds who have been piling on protection trades, leaving the upside move exposed.

Above all else, I believe in the optimism and continued innovation of Americans and consumers around the world to maintain aggregate demand.