To rally, or not to rally

By Duru

November 20, 2002

I am writing this message quickly because the markets may be on the verge of another big leg up in this latest bear rally....or the biggest head fake of the year.

After hitting big-time lows in early October, the market rallied sharply for the following week and quickly settled into a loose trading range. We have been stuck there for the last 4 or 5 weeks - the Nasdaq, the market full of technology stocks, has outperformed with a noticeable continued climb upwards. The Nazz's performance makes sense since a lot of the latest rally has been based on pure speculation and people typically turn to these kinds of stocks to speculate. Plus, these stocks have been heavily shorted during this bear market and shorters are quick to close out positions when they turn against them (these close-outs require buying BACK the stock.)

Anyway, I write to give my last warning of the year of how to treat the possible arrival of another sharp rally. IF, and I do mean IF, we begin rallying again, the Nasdaq will be the first to confirm the next leg up. It will eventually drag the Dow and S&P with it, but, in the end, the Nasdaq's run should be particularly sharp and swift. This rally might mark a major capitulation for those betting against tech stocks by shorting them. The rally will simply be too painful for the bulk of them to hang on, and they will scramble like mad to buy these same stocks back. The rally should then die out as this momentous covering activity finally dies out.

I do not like to give such general prognostications, but in this case, I think it allows me to describe some of the dynamics that are likely at work here.

And the eternal question is "what should I do?" Well, I continue to maintain that this market is not going to be one to invest in, only trade in. If you happen to be a great stock picker, there are probably a few good investment ideas that you can buy and hold onto (high-dividend paying stocks come immediately to mind). But in general, this new era will be the one of the trader - nimble enough and willing to buy into fear and sell into hype as the market gyrates all over the place. I also still foresee the lows of October eventually being broken, most likely in Spring of next year as all the weight of economic reality finally bursts this latest round of speculation. Essentially, as I argued last year around this time about Spring of 2002, it will take that long for the true outlook for 2003 to become apparent to those with even the biggest rose-colored glasses. Do not forget, Nov-April is a seasonally strong period for stocks, even with all the grand economic and political risks across the nation and the globe bearing down on us. As long as the year has not happened yet or gotten too far along, people can be optimistic about its prospects.

To bolster my case that you should *not* be surprised if the market remains relatively flat for the rest of the decade (YES! For the next 7-8 years!), I have attached several charts of the Dow {see quarterly chart from 1950-2002, monthly chart from 1964-1982, and monthly chart from 1997-2002}. They are self-explanatory, but pay attention to how you can be in the midst of a trading range and be either bearish or bullish and still manage to make $$$.

So, look out above or below! However the market shakes out going into year-end, it should be dramatic....