Insights & Advice


A Good Week for the Bulls

The bear market bounce that began two weeks ago is alive and well. The S&P500 index hit the 800 level on Wednesday and then pulled back for the next two days. This consolidation is a good sign (the pause that refreshes) and I expect the markets to move higher sometime next week. However, several important themes are developing beneath the headline grabbing news of AIG bonuses, the Federal Reserve’s intention to buy U.S. Treasury bonds and the contemplated changes in the nation’s “mark-to-market” accounting rules.

Last Sunday the nation and Congress were outraged with the AIG revelation that $165 million in bonuses were paid out to their employees. Yet very few seemed to care or even read in the same announcement that of the $182 billion of taxpayer money doled out to AIG so far, $28 billion was paid out to just five U.S. banks: Goldman Sachs, Merrily Lynch, Bank of America, Citigroup and Wachovia. Beyond that, another $25.5 billion ended up in the pockets of four foreign banks: Deutsche Bank of Germany, Société Générale of France, Barclays of Britain and UBS of Switzerland.

This is on top of $22 billion which had already been transferred to companies in September that were holding AIG’s shakiest derivative contracts. I know it is hard to keep straight, (what with all these zeros being thrown around) but readers may recall that AIG received an initial bail-out payment of $85 billion back in September of 2008. The bottom line is that about 50% of the money we have given to AIG to date has ended up in the hands of other companies that were themselves recipients of bail-out funds. And we have no idea what they did with that money.

On another front, the announcement on Wednesday that the Federal Reserve would begin buying as much as $1.2 trillion of government debt and mortgage-backed securities had a beneficial impact on one of my recommendations– U.S. Treasury bonds. The bond market soared after the news while the U.S. dollar (another recommendation) dropped over 2%.

But the news ignited fears of inflation as well. Precious metals, which just before the announcement were trading at the very bottom of my recommended range, staged a spectacular rally. Investors in both the stock and bond markets, while applauding the news, realize that the Fed’s strategy of buying government debt to pay for all this deficit spending ($2 trillion as of Friday) will mean printing more money and more inflation. Investors piled into inflation hedges like gold, silver and a variety of other commodities within minutes of the announcement.

I believe stocks are still on track to reach my target of 840 on the S&P500 Index in this bounce. One reason for my short-term bullishness is the rumored change in mark-to-market rules. Presently companies are required to mark all their assets to their market price. This is a problem for troubled financial companies with worthless toxic assets on their books since each quarter they are forced to write-off billions in losses. If the rules were suspended, the losses would go away and suddenly sick banks would look healthy again.

Yes, I know that’s a bit like now you see it now you don’t parlor tricks but the government seems willing to try anything to get the financial sector going again. I suspect investors, desperate to recoup last year’s losses, would buy now and worry later. Remember though that the financial sector is already up 42% since early March so much of this news is already discounted.

If we do reach my S&P target, the gain from this latest market bottom of 666 (a very unlucky number) would be 26% if you bought at the low. That’s slightly higher than the laupside target. All I will say right now is keep reading and hoping.
st bounce of 24% after the November, 2008 lows. Readers should be advised that my S&P 840 is a moving target. We could easily over or under shoot that number. Many readers have called or e-mailed me asking what would happen if the market broke my upside target. All I will say right now is keep reading and hoping.

Posted in A Few Dollars More, At the Market