2004: The Short, Medium and Long Term Perspectives

One of the single most intriguing questions we hear is the following:

“Is this a secular Bull market, with expectations of continued rising indices for several years at least? Or, is this merely a cyclical Bull move within a broader, secular Bear market that’s likely to last another 6 months or so before failing?”

When asked from the economics perspective, the question is phrased:

“Is this the start of a new business cycle and accompanying economic expansion, or is this merely the results of unprecedented levels of economic stimulus?”

Quite frankly, we do not know. In reference to the stimulus, we are empathetic to Ned Davis’observation: “Give me a trillion dollars, I can throw you one hell of a party!”

But in reality, it does not matter very much to us. While these cyclical/secular perspectives color our longer-term thinking (2–5 years), asset managers must work in the intermediate timeframe (6-12 months). Within at least the first half of this period, we see no reason for the dominant trend to change: Continued strong breadth, positive momentum and healthy mutual fund inflows are outweighing the negatives: frothy trading, valuation issues, and investor complacency.

Interest rate increases will likely be the McGuffin, which, sets up any subsequent reversal, but they are unlikely until after June 2004. We additionally note that signs of strength in Asia will likely only increase exports from the U.S. . . . Now if only Europe improved, we would enjoy a truly global recovery.

Over the very short term (30-90 days), we see some moderate danger signals: The markets remain overbought, and delayed tax selling and profit taking could start any day. Money Supply continues to slide off its earlier torrid rate. We note that the S&P500 (see nearby chart) looks particularly vulnerable to a measured move down. Lastly, since the rally began nearly 180 trading days ago, we still have not felt a 5% pullback.

Ironically, that 5% down move would be a positive, at least for the intermediate term. Academic studies reveal that the first 5% retreat of bullish moves typically occur at about the 60% mark. In other words, buying the 5% dip would mean investors are making entries a little more than halfway to the next peak.

While our working assumption is that a significant and disruptive market event is off in the future, we cannot ignore the stronger data and technicals of the intermediate term – hence, our cautious yet Bullish positioning. Once we get through a choppy and volatile January, we expect the market to return to its prior form, with an upwards bias.

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