The media has devoted a majority of attention to the current soft patch in the economy to the point where the rare Double Dip Recession seems a predetermined conclusion. Double Dip recessions are rare but talk about them is not. To add to the popularity of deflation chatter is the drumbeat of Bernanke-san economic commentary from Paul Krugman at the NY Times. However we must keep in mind that the data do not support a double dip recession at this time and talk of deflation in 2011 is simply too far out with too many potential variables to contend with. The irony is that last week the IMF raised its outlook for worldwide GDP growth for 2010 from 4.2% to 4.6% while keeping the 2011 estimates steady at 2011. Someone forgot to tell them of the impending double dip.
We live in a very confusing period and I’d be on guard for any person or firm that knows exactly what will happen in the future. To balance out this negative media attention is the fact that investor sentiment is now at the lowest level since March of 2009, and we know what that lead to. Negative sentiment is a good thing, especially from groups of investors who are notoriously wrong way traders who assume that the current trend will continue forward.
Last week the American Assoc. of Individual Investors (AAII) data revealed that only 21% of its members were bullish which is one of the lowest readings in the last 15 years. Bullish figures this low generally halted a move lower in stock but more frequently led to rallies of significance in 2003, 2005 and 2009 where six months later the average gain was 8.1%.
This data is confirmed by Rydex Traders who are now at a level of bearishness rarely seen. When the Bull/Bear ratio dips to .88 or below the forward return on the SP 500 has averaged 5.9% three months later with 79% of the time periods producing positive returns.
Too add to the incentive for a rally is the relative overvaluation of bonds relative to stocks along with the significant underexposure to equities by retail investors and hedge funds. Should a meaningful rally begin to form (we believe it already has) then both retail and hedge funds could pile on at a rapid rate using bonds as a source of funds. This asset allocation shift from bonds to stocks could be ferocious and rapid, about as fast as LeBron James plummet in popularity. Hence, beware of treasury bonds right now. Treasury bonds have their rightful place in portfolios but not at this time IMO.
According to Jason Goepfert at sentimenTrader.com: The last time S&P futures gapped up 1% after five straight up days was September 2006. There were two other times in history (March 2003 and September 1996) where this occurred. Both dates marked the launch of bull markets.
Be careful out there.
Brad
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