Avoid Bear-Market Rally’s Bite

On Friday, stocks traded higher, but with light volume because of the holiday-shortened session they managed to record the fifth-straight gain for the Dow (DJI). For the week, the closely-watched index rose 9.7% and is up 17% from the Nov. 20 low. But despite the gains, the Dow was still off 5.3% for the month of November and is down 33.4% for the year.

General Motors (GM) rose 8.9% and Citigroup (C) led the Dow, gaining more than 17.5%.

GM’s rise was attributed to a Bloomberg News report that the giant automaker was studying whether to stop producing Saab, Saturn and Pontiac brands. The report also said that the move could be part of a deal with the government for funds from a potential $25-billion loan package for the auto industry.

But retail stocks were under pressure as word spread of lower sales on Black Friday compared to last year. It turned out that estimated sales were actually up about 3% versus last year, but Nordstrom (JWN), Wal-Mart (WMT) and Target (TGT) all fell.

At the close, the Dow Jones Industrial Average (DJI) was up 102 points to 8,829, the S&P 500 (SPX) gained nine points closing at 896, and the Nasdaq (NASD) rose four points and ended the shortened day at 1,536.

The NYSE traded just 787 million shares and the Nasdaq traded 324 million. On both exchanges, breadth was positive by 2-to-1.

On Friday, crude oil (the January contract) fell to $51.81 a barrel, down $2.63. The Amex Energy SPDR (XLE) fell 82 cents to $50.28.

Gold for December delivery rose $7.70 to $816.20 per troy ounce, closing the week with the biggest percentage gain since September 1999. The PHLX Gold/Silver Index (XAU) rose 85 cents and closed at $101.59.

What the Markets Are Saying

After the first meaningful rally, some technicians are calling this the end to the bear market — claiming that a test of the October 2002 low at S&P 500 (SPX) 777 was successful and that the five-day rally is proof of an end to the downtrend.

I hate to throw cold water on these optimistic thoughts, but this sort of reasoning is short of solid analysis.

First, there has yet to be a test of the closing low of Dow (DJI) 7,552 made on Nov. 20, so a test of the 2002 low could not have recently taken place, since one would confirm the other. A test means that a subsequent decline from the rally has held and there has yet to be even a single day down since the beginning of the current advance.

I’ve stated before that many bear-market rallies exceed 20% and, when they do, they often draw the unsuspecting into the trap of committing capital at close to the top of the rally. Then, in a final buying climax they reverse, smashing the new buyers with a series of liquidations which eventually break the prior low.

For now, then, it is best to be hopeful but skeptical of the current buying. The bear market is not just a U.S. problem, and many underlying world economic issues have yet to be solved. In many countries a thorough analysis has not even been completed.

At Friday’s close, the 20-day moving averages of the Dow, S&P 500 and the Nasdaq were slightly penetrated, just as they were in the rally that began on Oct. 28, which abruptly ended on election day. Technically, our internal indicators are fast approaching the overbought level and, since the chances of a reversal down occurring again are high, we remain on the defense.

Today’s Trading Landscape

Earnings to be reported include: Female Health (FHC), Inergy Holdings LP (NRGP), Ingles Markets (IMKTA), On Track Innovation Ltd (OTIV), Shanda Interactive Entertainment Ltd (SNDA) and Unica Corp (UNCA).

The following economic reports are due: October Construction Spending (the consensus expects negative 1.0%) and the November Manufacturing Index (the consensus expects 36.5).

Stock futures are weak due to gloomy worldwide economic data and, even though Black Friday’s sales were up, reports show that it was on deeply discounted merchandise according to Dow Jones. OPEC will cut December production.

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Sam Collins is a registered, fee-based portfolio manager who may be contacted at samailc@cox.net. You can also check out an archive of some of his most recent market outlooks by clicking here.

Article printed from InvestorPlace Media, https://investorplace.com/2008/12/12-01-08-avoid-bear-market-rallys-bite/.

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