Making Money Alert
Is this Rally too Much, too Soon?
10/12/2011
Stocks have been on a tear for the past eight trading sessions, and the broad-based buying has sent the S&P 500 Index nearly 10% higher over that time. It’s a big change from just more than a week ago, when the S&P 500 dropped down to more than 20% below its previous high, which is officially a bear market.
One thing that we have to keep in mind here is that when stocks have been trending lower for some time, and/or when stocks are in a bear market, rallies tend to be extreme. In fact, some of the biggest one-day gains in market history come during bear markets, and that’s because you have a lot of traders buying dips and trying to take advantage of the quick turnaround trade.
Now, fueling the buying in stocks is word that European leaders were extremely close to at least a short-term resolution to the region’s ailing financial system. As of this morning, the so-called euro-zone rescue fund was set to get approval from all European Union (EU) members. Even the lone holdout country, tiny Slovakia, has struck a deal to ratify more powers for the euro zone’s rescue fund, known as the European Financial Stability Facility (EFSF). This effectively ends the crisis that threatens the euro’s survival, and that has weighed on global equity markets for the past several months. Still, there is nothing definite in terms of an agreed upon bailout for Greece. Until that issue is settled, there likely will be more market-pressuring uncertainty to come.
Despite the progress made in Europe, I still think there’s a big chance that this rally is destined to fizzle. I think we’ve seen too much buying, too soon, which makes this latest move higher more of a hope-inspired move than a fact-based surge. I suspect that this news-driven, mini-bear market still is susceptible to any bad news, and that means that we still are likely to see a lot more volatile trading that sends stocks down very, very fast.
One big factor likely to influence the market going forward is earnings. We’ve already seen the first company to report, Alcoa (AA), give mixed results. As the market digests more Q3 results, we’ll start to see how the numbers influence the markets.
As for global equities, we’ve seen stocks in the beaten-up emerging market segment come way off of their recent low. In the chart below of the iShares MSCI Emerging Markets (EEM), we see a big surge off of the September low. EEM now has just breached its 50-day moving average, the first step in a sustained move toward more gains.
Unfortunately, I think we are due for some more pushback in emerging markets as stocks fight their way higher. There’s still big uncertainty facing the emerging markets, and the biggest is the recent slowdown we’ve seen in China. That country’s appetite for commodities has slowed of late, and that’s caused many emerging market economies to slow, too. If we continue seeing the economy slowing in China, we are likely to see the emerging market rally falter.
I will be keeping a close watch on the emerging market segment, because if this rally does prove to be sustainable, this market will be a good indicator that a wider bullishness has taken up residence on Wall Street, and on trading floors worldwide.