Is This Rally Out of Sync with the Economy?

In the good old days, farmers knew better than to yoke a bull and an ass together to plow the field. The yoke would be uneven and no
good would come from it. How about a bull and a bear, would those two harmonize?
We shall find out soon. Unknowingly, investors have been watching a bull and bear work together simultaneously. We have a stock
market bull and an economy bear. How so?
For nearly five months, the major U. S. indexes such as the S&P 500 (SNP: ^GSPC), Dow Jones (DJI: ^DJI) and Nasdaq (Nasdaq:
^IXIC), along with international stocks (NYSEArca: EFA - News) have been climbing higher and higher. Simultaneously, economic
numbers continue to disappoint. In other words, the stock market bull is thriving, while the economy bear is diving.
Full of confidence, the stock bull is vivacious and obvious to all while the economy bear is ashamed of its dark existence. It thus
makes sense that bad news is hardly broadcasted, in some instances one even has to search for it.
Just because the bad news hasn't been presented with neon lights doesn't mean it isn't there. In fact, the prevalence of bad news would
ironically be good news, because as we know, new bull markets climb a wall of worry. The fact that worrisome data isn't making it to
the front page of newspapers and prime financial television should worry the stock market bulls.
Doing the dirty work
Since few others are doing it, we will do the dirty work and lay bare the economy's Achilles heel. Knowing the bull and bear can't
cohabitate the same economic turf, we will discuss the resolution of this conflict.
Disappointing earnings
As earnings season nears its end, it is eye-opening to take a look at the composite results. Even though a good portion of companies
have beaten their earnings estimates (Intel, Goldman Sachs), we shouldn't forget that those estimates were low-ball estimates. Profits

were not the result of new sales; they were the result of cost-cutting, or Chinese stimulus money. Of course, cost-cutting equates to
employee cutting and a higher unemployment number.
Despite their cost reduction efforts, low-ball forecasts, stimulus money, and incentives like cash for clunkers, 39% of companies
(according to Standard & Poor's data) were not able to meet their forecasts. Revenue of S&P component companies is down more than
10%.
Dismal jobless reports
The 9.5% unemployment rate does not reflect the 4.4 million people who've been unemployed for more than 27 weeks, or the
employees who've been forced to work less and make less. As part of the above mentioned cost-cutting efforts, companies cut the
hours worked by a record 2.3% to an all-time low 33 hours. The 'all-inclusive' unemployment rate published by the Bureau of Labor
Statistics is 16.4%.
For a moment, suppose you are a company executive. If the economy gains momentum (that's a big if), would you hire new
employees or simply increase the hours worked by current employees back to a normal level. There is no light at the end of the tunnel
when it comes to better unemployment numbers.
Bank lending
An unemployed consumer doesn't spend or borrow money. This is the essence of a Wall Street Journal article which reported that the
total amount of loans held by 15 large U. S. banks shrank by 2.8% in the second quarter. More than 50% of total loan volume came
from refinancing mortgages and renewing credit to existing businesses.
Banks have realized that there is no benefit in lending out more money. As credit worthiness decreases, loan defaults increase. For
once, financial institutions (NYSEArca: XLF - News) and banks (NYSEArca: KBE - News) are actually doing what's right, even
though it seems wrong.
Consumer sentiment
The most recent University of Michigan Consumer Sentiment Survey revealed the following:

Confidence slipped from 70.8 to 66

Income expectations fell from 113 to 120 (50% of consumers fear losing their job)
Home-buying intentions melted from 157 to 147
Car-buy intensions faltered from 139 to 133
This sentiment is perfectly understandable considering that wages and salaries have declined at a record pace.
No more help from baby-boomers
The hopes for a continued bull market, or a bull market resumption, has often relied on the financial stamina of the baby boomer
generation. Baby boomers were responsible for nearly 80% of the spending growth from 1995 to 2005. Needless to say, plunging
prices courtesy of Dow Jones (NYSEArca: DIA - News) and S&P 500 (NYSEArca: SPY - News) have not helped their retirement
plans. In fact, nearly 70% of baby boomers around age 60 now say they are financially unprepared for retirement.
Those hoping for retirees to come and buy stuff' may soon find that retirees are competing for jobs. The 100,000+ monthly new
entrants into the labor market will soon be competing against seasoned veterans.
Valuation metrics
Looking at Wall Street and trying to figure out the fair value of the Dow Jones reminds me of KPBS's 'Antiques Roadshow.' Many
analysts own all kinds of stocks, all believed to be undervalued until it turns out that they paid way too much. On December 16th,
2008 for example, Morningstar ran the article, 'We Think the Dow is Trading at a 30% Discount' pegging the Dow's real value at
around 12,500.
On the same day, TheStreet.com featured the piece, 'You're witnessing the Stock Sale of the Century' claiming that the bear market
that ended on November 20th was phony and shouldn't have happened. It didn't happen and it was far from over at the time.

In contrast, the ETF Profit Strategy Newsletter considered financial companies a 'downward spiral with no stop-loss provision' before
the real meltdown actually started and recommended short ETFs in September 2008, and once again in early January 2009.
Discerning the true value for stocks is actually quite simple, if you are humble enough to stick with a simple concept. During prior
bear market bottoms of historic proportions, P/E levels, dividend yields, and mutual fund cash reserves have always reached levels
indicative of a market bottom.
Unless those indicators provide their stamp of approval, the market is overvalued and any rally will turn out to be short-lived. Based
on those indicators, the market is grossly overvalued, still.
What fuels this rally?
During the Great Depression, the stock market declined in steps. A 48% decline was followed by a 48% rally. The next 47% decline
was followed by a 23% rally. This process continued until the Dow Jones lost over 89% of its value.
Investors who jumped back in after the initial 48% decline saw their portfolios dwindle by yet another 60%. Investors who thought
they were 'bargain hunters' after the second rally, found out that their bargains were a money pit. The cycle continued until the market
had destroyed the financial existence of many.
This rally is simply here to relieve investors' pent-up urge to buy and recreate an environment that will drag the maximum amount of
money back into the losing vortex.
The ETF Profit Strategy Newsletter foretold a huge rally for Q1/Q2 previously in October 2008. After recommending short ETFs
above Dow 9,000 in January, a Trend Change Alert sent out on March 2nd, signaled the beginning of this expected rally. The alert
recommended to load up on broad index ETFs, dividend ETFs like the SPDRs Dividend ETF (NYSEArca: SDY - News) financial
ETFs, leveraged ETFs like the Ultra S&P 500 ProShares (NYSEArca: SSO - News), and the Ultra Financial ProShares (NYSEArca:
UYG - News).
As the discrepancy between the stock market bull and the economy bear is becoming more pronounced, it won't be long before the
market's action validates a Trend Change Alert. The bull and bear will not be able to peacefully cohabitate. The roar of continued
economic deterioration will at last be heard, shaking stock prices and the market, like a bear shakes an apple tree.

The August issue of the ETF Profit Strategy Newsletter includes target levels for the ultimate market bottom based on an analysis of
P/E ratios and dividend yields, along with practical tips to survive and thrive in the coming years. Hopefully this will prevent you from
becoming unevenly yoked with your portfolio.