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John Hussman Weekly Market Comment: Wishful Thinking

John Hussman's Weekly Market Comment (which has become can't miss reading for me) for April 20th, Wishful Thinking casts a very skeptical eye on the recent market surge:

Over the past several weeks, the stock market has enjoyed a strong but low-sponsorship advance from deeply oversold conditions. Not surprisingly, this advance has prompted hope that the market is “looking over the valley” toward an economic recovery. This confusion between economic information and an oversold bounce is typical of strong bear-market rallies, as we saw during the 2000-2002 decline, as well as the surge off of the November lows. It immediately strikes me that investors don't understand that a near-term economic recovery would require a major and immediate resumption of the housing boom...

...In short, we should be careful to make distinctions between what constitutes improvement, and what only constitutes a backing off from extreme risk aversion. Put bluntly, the economy is not improving, and it is not likely to improve within a few months, because we have far more defaults, foreclosures, and credit excesses to work through. It is simply not true that the stock market heads higher 6 months before the economy bottoms. That simplification was true of 1970 and 1975, but not much else. Rather, there is enormous variation, and about the only reliable tendency is that stocks are usually advancing strongly within about 3 months of a recession's end. That said, in the 2000-2002 plunge, the market didn't bottom until about a year after the recovery started.

It is wishful thinking to believe that the stock market is forecasting the economy here just because we've observed a sharp advance off of an oversold trough. Yes, the stock market will probably bottom before the economy does, but lacking any credible approach to foreclosure abatement, the economic pain could easily extend well into 2010. We are likely to see a very wide and extended trading range, more deep selloffs, more short squeezes, and eventually disillusionment and revulsion from investors.

As the Wall Street Journal made clear in last Wednesday's front-page headline (“Banks Ramp Up Foreclosures”), much of the relief in the recent pace of the deterioration has been the result of “internal moratoriums which temporarily halted foreclosures.” The Journal also noted “the resulting increase in the supply of foreclosed homes could further depress home prices and put additional pressure on bank earnings as troubled loans are written off.”...

...At present, the advance we've seen over the past several weeks is looking increasingly speculative. We certainly cannot rule out a further advance, but the basis for expecting one is currently weak. Better internals, higher quality leadership, broader sponsorship, and needless to say, a credible foreclosure abatement plan, would all be helpful "legs" if this advance is to be durable. For now, we don't observe enough of that evidence...