Buy the Rumor, Sell the News; Part 2
This week’s sell off in the markets is very similar to the Q2 reporting season beginning at the end of June or the Q1 reporting period beginning in March to April. Investors are now “Buying the Rumor of solid corporate earnings, and Selling the News, no matter how good it is.
This is one of the oldest and most solid rubricks of the stock market. (Why does it work? I think it is because of human psychology: rumors always originate at a time of fear and weakness in a company stock price; the news of higher earnings a period of time later will be met with satisfaction and smugness, which creates the circumstance for a price peak). Take a look at the charts in late July and early August. This is essentially a repeat performance. But this time, the market is 10% higher.
I think we will see a repeat performance of August and September in November and December. Once the selling has run its course, the market will kick back up for another 10% run higher to 1200 SP500. That is my thesis.
The dollar trade is also exacerbating this pattern. The currency traders, who are by defition speculators since there is no fundamental value behind the trade, have discovered the currency side of this equity-driven pattern. The currency trade is reinforced by the pattern of declining stock market leading to a strong dollar. This has not always been the case, but is now with all markets trading together and the US Dollar as the safety trade (non-risk asset). So, when the markets decline, they rotate to the dollar. This pushes up the dollar and gives the currency traders a big payday by betting against the stock market and for the USD. Here is the chart of the Euro – US Dollar cross. Note the wild swings and their relationship to the US stock market.
So, the currency traders are adding volatility to the stock market, pushing normal buying and selling up and creating bigger market swings. This should go on for quite a while. But the fundamentals will win out, and there is nothing to indicate that the economic and business fundamentals are not getting better day by day. And the US Dollar must weaken over time against other currencies unless the Fed does something completely unpredicted (and against Bernanke’s past form) and raises interest rates and sops up liquidity way sooner than expected or warranted.
I am staying long this market and finding funds to reinvest at lower levels, by closing out of short positions (mostly covered calls). I expect the market to begin recovering on or about November 10. This is exactly the date when the July selloff bottomed out at 875. That was a time of great fear, but also a time to get long with a 25% up move from there to October 23. Now, Carter Wirth just came on CNBC’s Fast Money and predicted a bottom in this decline of 980 based on his chart work. That is just about right to fit the trading pattern established. From that point, the market can go to 1200 by year end and fit the current pattern. 1200 is also the point at which the market broke down in September 2008. That is a very significant level. After the market makes its year end top, I am in the “sideways” camp with most of 2010 moving up and down in the channel between 1000 and 1200 as the economy recovers and higher earnings eventually push stock prices out of the channel.
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