Why This Is a Sustainable Rally and We Are in a Bull Market (Part II)

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Includes: QLD, SSO
by: Michael James McDonald

This is a continuation of an earlier article with the same title.

Summary

The model I used to decide that the market's ten year trading range is now over and that we’ve started a new bull market, is the same model I used ten years ago to predict the end of the 18 year bull market and the beginning of the trading range.

The model does not supply the economic reason for a move, however. That must be discovered by research. I believe that the economic reason for a bull market is based on a new way of looking at the U.S. stock market explained in the original article. This continues the article showing how the idea aligns with the bull market message that the theory of contrary opinion is giving.

The Standard Paradigm

Most investors are still thinking with the standard view that the US stock market measures and reflects the US economy. Using this paradigm you become bullish or bearish based on the outlook for the American economy, and you use metrics such as GDP, unemployment, US housing etc.

Yet it's clear this can no longer be correct. For example, over 50% of earnings to the S&P500 now come from the foreign operations of the multinationals, not their domestic operations. So the standard paradigm now omits over half the picture.

The New Paradigm

The new paradigm acknowledges the global changes of the last twenty years and the fact that foreign earnings now dominate. Foreign earnings are also growing more rapidly than domestic, which gives them even more importance. Once this view is taken, a little study shows that for the multinational companies, a weak US economy could at times be a plus - as long as it wasn't too weak. A weak US economy keeps interests rates low and low interest rates, according to standard theroy, allow for much higher valuation ratios (PE ratios) and therefore stock prices, on their foreign earnings growth. There are also other additional positives written about in the first article

The Original Model

An integral part of my original model is that the theory of contrary opinion forms a fundamental, conceptional framework for predicting the stock market and right now most investors are bearish or at best cautious. A contrarian, therefore, has to be optimistic and bullish right now. That stance puts us on an immediate collision course with something I call BABES and OBUCs.

BABES and OBUCS

If contrary opinion is an important and fundamental theory, then there must be a BABES and an OBUCS. BABES stands for Broadly Agreed to But Essentially Wrong Scenario. OBUCS stands for Occluded But Ultimately the Correct Scenario.

This just means that the consensus argument the majority is using to be bullish or bearish must be wrong; there must be omitted data or there are holes in the thinking about the data. It also means there must be a correct scenario, one few agree with or see, that will soon emerge and explain why the market went opposite to what investors expected.

I believe this is what we have here. Investors, following the standard paradigm, see more weakness to the American economy so they forecast down stock prices. This forecast, however, since it based on a paradigm that now omits over 50% of the equation, must be seriously questioned (BABES). The new paradigm is more accurate (the global view) and I believe it is indicating, as long as the American economy doesn't get too weak, a strong new bull market. Its based on high growth rates of foreign earnings and a higher than normal pe ratios which the current low interest rates now allow (OBUCS). This last intem - the higher valuations that lower interest rates allow - is the yet unspoken but senior important item on Wall Street.

The theory of contrary opinion always brings a person to this critical point and its at this point where it vital to look at every thing including basic assumptions.

Investing for the Bull Market

This is the time to invest with American multinational companies with heavy overseas exposure especially in Asia. Right now, until further research clarifies something as better, the best way to get that is through the large capitalized US indexes. I’m recommending the 2X ProShares of SSO and QLD. This is the right time to take high risk positions especially with margin carrying costs at historic lows.

Disclosure: Long SSO, QLD