Top of Bear Market Rally? Protect Yourselves!  

 Written Tuesday, May 27th, 2008

THE STOCK MARKET

Briefly, the stock market pulled back sharply last week.  Obviously this pullback may be about over and may be just a normal “shake out” on the way to higher prices.  While that could be true, it usually is during bull markets, another alternative is it also could be the top of a bear market rally.  And selling near the tops of any/all rallies has always a good thing in the past, right?  So I would listen to the market -- it does communicate with investors who monitor it closely enough – and bow down to its judgment.  Today, that means protecting ourselves.  And if this doesn’t prove to be any big top, just a shake out, short and intermediate term players can jump back in.  Remember my first guesstimate was we were just running out of buying power and thus could fall back to where this last run up began, about Dow 12,325, S&P 1330, Nasdaq 2275 and the mid April lows in the other indices.  Now, though, after watching all the bad technicals show up last week and some reemerging economic worries, like more inflation and less growth, I’d say the odds have risen that we’ve just seen an important bear market rally top.  Schwartz View:  Bottom line, it’s much more important today to protect our portfolios than continue to take on unnecessary risk right when we could be headed into a second and possibly even worse leg down than we’ve just been through.  If we do go down and break to lower lows, there won’t be any disagreement left that we’re just in a normal bull market correction.  And that could feed on itself and  lead to a more extended market decline.  We don’t want to be complacently caught up in the early days of that move down.  So better to be safe than sorry.  Maybe we’re going to miss a market “melt up” such as the most bullish advisors think is ahead but even most of the bulls feel it’s going to be a tough slug ahead.  So let’s protect ourselves here.

PORTFOLIO STRATEGY

The always-to-be-expected bounce back rally after the July/October declines to the March lows may be over.  The technicals pronounced such last week.  Four day or more sequences, distribution days, poor breadth, narrowed-down leadership and weak trading volume all said the two-month rally is kaput.  Investor complacency, built after the Fed backstopped Bear Stearns and thus implicitly, the whole financial system, just adds to the likelihood that this decline may be a resumption of the big bad bear market.  Thus my recommendation last week which read:  ‘We’ve played this “sigh of relief” market bounce since the mid-March lows back up.  But now’s the time to cut back exposure to about where we stood back at the lows, to again hunker down to the point where we can ride out any retreat back to test those lows or even go lower.’ 

Schwartz View:  I’ll stick with that market advice kicking off a new week.  If you increased your stock market exposure back near the January lows and then maybe again near the March lower lows, which I suggested, and thus made yourself some paper profits since, cut back now, get rid of that extra exposure, and lock in those profits now.  I followed my own advice last week and now have added some bets on the market dropping again, going back into inverse funds.  I want to be back in my hunkered-down position going into summer.  FYI, I’m still nervous about what July will bring since about six months earlier, in January this year, stocks fell so sharply.  Mr. Market discounts about six months in advance.  And July’s can be awful as I remember back on vacation in Hawaii in July of 2002 seeing the stock market open down and sink lower day after day after day.