Weekend Update- May is at Hand

I always like to think in term of fundamentals. So what are the fundamentals of this bear market? For years, ever since WW II, Americans have been voracious buyers and consumers (much of it on credit). The Fed, free from the discipline of gold, could create money at will and it's been doing exactly that. Politicians want an ever-increasing Gross Domestic Product, and they have always encouraged spending. With its endless hunger for the good life, the US became buyer to the world. For decades, US consumers bought what they wanted through credit cards and debt. Debt piled up and asset prices inflated.

The rest of the world used the US to unload their goods on. Capitalism went global. Asia grew relatively rich selling every type of merchandise to Americans from refrigerators to toys to cars. Then in the 2000s via the Greenspan Fed, US housing evolved into a giant bubble. The price of housing in the US grew grotesque. Finally, housing toppled over. Real estate was the biggest asset in the nation, and with a collapse in the price of housing, deflation set in, unemployment sky-rocketed, and every business sought to reduce overhead the quick and easy way -- by laying off every worker they could.

The "death-spiral" took over. Frightened workers, those with and those without jobs, cut back on their buying, retail stores went bankrupt. Within a few months, contraction, deflation and unemployment became the watchwords of the day and the week and the month.

In stepped the Bernanke Fed and the Geithner Treasury. Next, I want to insert a few words from my favorite columnist, Caroline Baum of Bloomberg.

"The odds that 19 men and women (a.k.a.the Federal Open market committee) will be able to select the overnight interest rate that keeps the US economy growing at its potential in perpetuity are next to nil."

"There would be a huge outcry if the Fed set the price of oil or copper or soybeans. Yet, we accept the central bank as a price setter, a monopolist, when it comes to the interbank lending rate."

Now the Fed along with the Treasury, are trying to head-off a potential deflationary crash in asset values. They are doing it the same way they always do -- pump up the money supply, and keep interest rates low, down to zero if possible. This is laying the groundwork for the next bubble. Where the next bubble may lie is unknown. The next bubble could be the inflation of all assets. Or the next bubble could be -- simply inflation. But the Fed has a sure cure for inflation. The cure is rising interest rates and higher taxes. All of this is giving way to populist cries that "capitalism no longer works."

Right now the big question is -- can the Fed and the Treasury halt asset deflation, and can they halt the bear? The answer is out there, but not obvious yet. So far, the money managers have rushed into the market because, above all, they can not afford to miss a potential big advance in the market. I don't think the big individual investors and the institutions have come into the market. They're still weighing the situation and the risks. As for the retail buyers (the public), I suspect many have come back to the market, mostly in a vain effort to recoup some of their fearful losses.

Me, I go back to the Dow Theory axiom -- the primary trend of the market cannot be manipulated. On that basis, my belief is that this bear market will continue to its destination, regardless of all that the Fed and the Treasury have done to end it prematurely. In other words, I believe this bear market will fully express itself, no matter what. This means that the bear market will take longer and decline further than most people are envisioning. The surprise of this bear market will be its length and its depth and the amount of damage it will do.

Most bear markets take the form of a major decline, then a major upward correction, and finally an extended and destructive decline to final lows. The chart below shows the initial decline from the peak down to A marked on the chart. We are now in the second wave of the bear market, the upward corrective marked B on the chart -- to be followed by the final down-leg -- C. In all, an A-B-C bear market (this is in Elliott wave terms).



The A to B leg may be erratic since it is the corrective leg of the correction of the bear market. In other words, we are now in the (upward) corrective segment of the correction.

There are undoubtedly a lot of shorts locked into this market. Since the shorts like to exit the market on a decline, probably most of the shorts are frustrated since we have had no important decline since March 9. Thus, the shorts will slowly be forced to cover as this market works its way higher.

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We may be seeing the end of the US auto industry. Chrysler has filed for bankruptcy. GM is now being run by the United Auto Workers and the US government, hardly an exciting combination. The deal. Let's say you own $220,000 of the old GM bonds. The government is "offering" to give 80% of the face value of your bonds to the UAW while giving you 45,000 shares of stock. At the same time, the government is offering stock to enough other people to dilute the value of those shares to about ten cents on the dollar or $4,500. By owning stock instead of bonds, you end up further back in the line for repayment in case GM files for bankruptcy. In all, not a juicy deal. Say "bye-bye" to the US auto industry.



Yesterday is the second day after the Dow broke out and confirmed the Transports. And it's a second disappointing day with the Dow barely higher both yesterday and today. Lowry's Selling Pressure Index is still far above their Buying Power Index, which means that any drop in Buying Power will send the market lower (since Selling Pressure dominates).

Yesterday the Dow was up just 3 points five minutes before the close. Desperate situation. Then in the last two minutes the Dow popped up 44 points! Who came in the last few minutes to "save" the Dow? Talk about manipulation, I think we're seeing it. Doesn't matter, the Dow will do what it has to do, regardless of last minute manipulations.

It's becoming obvious that the urge to buy is leaving the stock market. Only heavy Buying Power will now send the market higher. It seems that the initial (early) buyers have taken their positions. But there's no follow up.

Dollar and bonds were lower today with the commodity index sharply higher. All hints of forthcoming inflation -- all except gold with June gold down 3 dollars today. Gold should be near bottoming.