So why can’t the market get going in a meaningful way despite seemingly low valuations? The simple answer is that prospects for the economy are weak and getting weaker.

The more difficult and pernicious answer is that hedge funds, which have accounted for a huge part of the buying of stocks in the past 10 years, are suffering their worst crisis ever as an industry.

Late last week, the Times of London reported that super-sized fund GLG Partners has just sent a letter to investors saying it has launched a "liquidity review" of it funds to decide the best way to preserve capital. Note those last two words: Preserve capital—not grow capital. That signals an amazing turn of events.

The Times reported that in the meantime, GLG will stop investors from making withdrawals from its Market Neutral fund for six months and will tell investors looking to leave its Emerging Market fund they will not get a full return because some of the fund’s investments are too illiquid to sell.

Meanwhile, Reuters reported this past weekend that dozens of hedge funds have told investors that they cannot get their money back right now as managers try to limit a wave of redemptions to safeguard all their clients’ investments—as well as their own.

Reuters notes that only a few months ago, hundreds of the world’s estimated 9,000 hedge fund managers made it tough for wealthy investors to put money into their funds by requiring minimum investments of $1 million or more and charging heavy fees. Now managers are making it hard for investors to get out.

Six firms besides GLG that are forcing their wealthy investors to keep their funds in illiquid investments are Deephaven Capital Management, Basso Capital, Ore Hill Partners, Drake Capital, Pardus Capital and Ellington Capital.

These kinds of exit restrictions used to be highly unusual, and formerly suggested funds were on the verge of collapse. Managers are complaining that if they were to return money as soon as investors demanded it, they would have to unload at fire-sale prices and clients would be hurt. But after suffering losses of 25% or more this year in an asset class that is not supposed to yield any losses, clients are saying, "Get me out, now!"

Data shows that from July to September, investors yanked $31 billion out of hedge funds, shrinking the industry by 11%. And now more redemptions are expected to swamp the industry by November 15, the next deadline to get money out by the end of the year, according to Reuters’ sources.

Keep in mind that these are not the actions of the so-called dumb money. These are supposedly smart-money investors. The wealthy and the super-wealthy. They didn’t get that way by being risk-averse or quick to run away at the first sign of danger. They are generally the type of people who are used to looking out on the horizon to see what’s coming, not looking back to react to what’s just occurred. I’m not saying they’re always right—far from it, because otherwise they wouldn’t be in this mess right now.

But their actions are just providing us with one more data point to consider.

You see, for the bulls to be right about October 10 and 27 being a major, long-term low, risk-takers must be in the mood for diving into stocks now. They must be seeing the bargains of the century, and wish to cash in their Treasury bonds and real estate and gold and purchase equities if they are seen as screamin’ deals. Yet that is clearly not the case. (See also: "10 Commandments for a Secure Retirement.")

Indeed, this is one downturn in which the rich appear to be hurting as much as the middle class—though obviously, it’s all relative. This weekend at a Halloween party near my home in Seattle, a very wealthy, financially savvy neighbor confessed that she had lost 25% in hedge funds this year and as a result was not going to be traveling as much and might even pull her son out of private school.

At a youth soccer game this weekend, another dad who’s a wealth manager at a big firm told me about one of his colleagues who had recently gone from a net worth of over $15 million to near insolvency after getting margin calls on loans he had taken out again his stock positions. I have heard similar stories about wealthy friends of friends throughout the country, as banks’ guidance that they support their life styles by borrowing against stocks has turned to dust.

Although it’s easy to indulge in schadenfreude, a German word that means delight in others’ misfortune, the fact of the matter is that the wealthy are responsible for much more than their share of consumer purchases. Reduce the buying power of the top 1% of Americans, and you reduce consumer spending by 20 times that much. Retailers to the wealthy Nordstrom (JWN), Sotheby’s (BID), Saks (SKS) and Coach (COH) are down almost twice as much as the broad market in the past 10 months—with losses ranging from 40% to 80%—as investors have adjusted their expectations downward to this new, lower level of spending. Those shares have recovered a bit lately, so that is another group we need to monitor for signs of improvement in expectations.

Economy in Retreat

Yet it’s not just the wealthy who are faring poorly, of course. So are most companies. New data this week showed that real GDP fell by 0.3% in the third quarter as consumer spending contracted for the first time in years. I expect GDP to be down at least 1% in the fourth quarter, and then another 2% to 3% in the first quarter of next year. Fed and purchasing managers reports all report a dramatic contraction in business activity, as all as employment.

Right now the unemployment rate is at a 14-year high of around 6.3%. In a real, full-blown recession, the unemployment rate rises to 7.5% or more—so more than likely further contractions lie ahead.

The Federal Reserve and its fellow central bankers around the world are lowering interest rates, allowing all manner of collateral to be used for loans, directly bolstering commercial paper markets and banks with direct injections of taxpayer capital, and the like and have still not managed to stave off the beast of deleveraging and reduced investment. Bulls believe that these measures will work eventually, and yet they have been saying the same thing for a year.

Just to stray a little farther afield, if stocks are so cheaply priced now, why aren’t companies announcing merger deals every day? Surely the green-eyeshade types in industry would be able to detect bargains if they were readily available. And yet merger activity is virtually at a standstill, down 29% from this time last year. The only important deal in the past two weeks was an offer by CenturyTel (CTL) to buy Embarq (EQ), and there was no premium in the offer.

The bottom line: Until hedge funds stop disbursing funds and start getting more inflows, and until the rich and middle class start feeling more secure and buying stuff again, and until companies start buying each other at premiums, we will trade rallies but we will remain wary of thinking that they represent an end to the bear market.

To learn how to make money by profitably trading in this environment, check out my Trader’s Advantage newsletter.

Jon Markman is editor of Trader’s Advantage and a regular contributor to InvestorPlace.com. To get this type of actionable insight from Jon and other InvestorPlace Media experts go to www.InvestorPlace.com today.