The Recent Rally in Stock Prices is Nearly Over

Stock markets around the world have surged by over 25% during March and April. I believe market players are already looking for a good excuse to start selling again…

During the past month we've witnessed an amazing good old rally in stock prices. The S&P jumped from its recent new low of 676 points to 856 points in a month's time (that's 26%).
A rally like this is typical to a stock market that has taken such severe blows. Unfortunately there is no way of timing it.

Those of us with decent short term memory surely remember a similar rally that took place during December and January 2009 where the S&P rose from its second recent low of 752 to 931 only to crash back to 676, as we know now. That was 23% rally by the way.

Obviously these rallies are impossible to time. Still, I'm sensing something in the air. The financial papers and headlines are usually good proxies for a change in atmosphere. I believe I detected a change in what had recently been a surge in optimism to more sinister financial news.

Recent Developments

To start things off several "financial gurus" have expressed their opinion on the recent rally in stock prices and have characterized it as a "bear market rally". Do not be tempted to believe these guys really know what they're talking about. I believe they don't know where the markets are headed any better than the rest of us. What do they know?

First and foremost we must remember these individuals and institutions hold certain positions in the market and these positions speak for themselves. I am most certainly not accusing anyone of fraud or deliberate misguidance. We just need to keep in mind the facts.

Second, they are probably aware of the influence of their opinion and use it wisely. Third and maybe most important these "predictions" also serve as a method of communicating between the different institutions and market players. Ironically reality is created through these predictions.

Here are some examples of opinions recently published:

• The French Bank Societe General had defined the recent rally "a dash for trash" as the stocks that everyone was looking to sell only a month ago have shown price increases of over 60%.
  
  
• American Investor Marc Faber had expressed his opinion according to which the markets will suffer another 10% drop before rising again.
  
  
• Famous investor George Soros had stated the recent rally is a bear market rally as the American economy is still struggling with a difficult recession. Furthermore the American banking industry is literally in a state of bankruptcy.
  
  
• Morgan Stanley analysts have predicted the market is still bearish as corporate profits, housing prices and bank balance sheets have yet to recover adequately.

Bad financial news plays a significant role in setting the course of the markets in either direction. Surprisingly, or not, financial news tends to side with the opinions of leading market players and financial institutions. The following is a collection of the news gathered over the weekend so far:

• Goldman Sachs is expected to issue $10 Billion in stocks next week in order to repay government aid funds. From a first glance this seems like good news. The problem is what happens with other financial institutions that are yet unable to repay the government? What does this say about their financial condition? Several articles have taken this tone in reporting about Goldman Sachs' intention.
  
  
• The Fed and Federal government have asked banks to avoid publishing stress test results and wait for the formal report to be submitted by the government. Such news could be considered ordinary as well but have been speculated upon fearing that several banks may not have enough capital to withstand their stress tests.
  
  
• The budget deficit of the US has soared in the last six months to unfathomable highs amounting to $956.8 Billion. Apparently this deficit has only been equaled by that of the Second World War.
  
  
• Two more banks in the US have collapsed. This brings the total of collapsed banks to 23 in 2009 vs. 25 in 2008.

What does this have to do with the long term?

All of these circumstantial evidence points, in my humble opinion only, to the upcoming end of the current rally in favor of a cooler period. Hopefully we won't witness any further sharp declines in stock prices and this might be a good time for me to re-enter the markets after a long period of waiting. I'm guilty of timing the markets, I know. It's simply irresistible.

We must remember that every period of one way movement in the markets is often corrected by an opposing period, however short, which represents capitalization of profits and "taking air" before conquering new highs.

These are only a handful of opinions regarding the state of the markets. We must keep in mind that the stock market, in theory, doesn't care much about the balance sheets of the upcoming quarter but rather what these represent in the long term.

Soon enough the tide will turn and someone will decide we've had enough. Stock prices will rise expecting the economy to recover and the economy will recover because stock prices are rising in a beautiful, ironic circle of forged reality. The markets are all about expectations. That is why they are unexpected and unforeseeable.