Some Things Never Change

An old friend of mine stopped by the office a few weeks ago and he unwittingly reinforced my complete confidence that you can still do very well in the markets. This is saying quite a bit given the frustrating state of the markets where government decree drives nearly all of daily trading activity.

Now, he wasn’t overly bullish or bearish. He wasn’t betting big on a rally with banks. And he didn’t just make a huge score on some triple-leverage ETF or anything like that. He’s simply running his business and, in the midst of the worst economic downturn decades, it’s doing exceptionally well.

You see, my friend is a coin dealer. He sells gold and silver coins and bullion. But just the fact more people want more gold and silver bullion “insurance policies” during this time of uncertainty isn’t what has reinforced my faith in the markets. That’s actually a bit unnerving. It is how his sales were moving on a day-by-day basis which had relieved any angst I may have been feeling.

He told me:

“Ya know, when gold is at $800 or $900 an ounce, orders come in at a pretty slow rate. The volume is good, but it’s not overwhelming. When gold passed $1,000 an ounce, orders just flooded in.”

It doesn’t make any sense at all right? Wouldn’t you want to buy gold at $800 rather than $1,000 an ounce?

Well, as we’ve seen time and time again though, the herd doesn’t care. In this case, they couldn’t get enough gold at $1,000 an ounce and they have much less interest when it’s at $800.

Some things just never change. And the sooner we realize the most recent government intervention-inspired rally is what it is, we can get prepared for what is coming up next.

Was That the Bottom?

There’s no denying the recent rally has been a strong one. The 18% move over the past 10 days has been the biggest one since 1938. And there are untold number of folks claiming that was “the bottom” or a new bull market has emerged.

Quite frankly, no one knows for sure how far this one will go. But right now, a lot of indicators are still flashing “buy.”

Dr. Copper says the world economy is showing some signs of life. The price of copper has climbed more than 40% from its December lows and now sits at $1.77 per pound. Leading the way for copper consumption was China.

The housing market is getting a nice bounce as well. Although prices are still in the downtrend, activity is starting to pick up. The National Association of Realtors (NAR) reported yesterday existing home sales increased 5.1% in February. The NAR’s chief economist noted, “Distressed sales accounted for 40% to 45% of transactions in February.” The housing data just added fuel to the rally.

The thing is, we have only experienced a market like this a few times before and it’s all part of a quickly changing investor mindset.

A Spoon-Fed Rally

This rally has its foundation squarely in the hands of the government. As we’ve mentioned before, the government has a vested interest in ensuring the stock market stays up. This time around, they made a highly coordinated attack on the markets. Just take a look at what has happened over the past three weeks.

First, 60 Minutes was allowed to go “behind the scenes” with the FDIC as they took over a small bank. This was used to help explain how the FDIC works and how, if you’re bank is taken over, you shouldn’t be worried about getting your money. The FDIC is good at what it does.

Two days later, word leaks about the reinstallation of the “uptick rule” which prevents short-sellers from driving a stock artificially low. At the same time we get news Congress is investigating what would be the impact of relaxing the “mark to market” accounting rules on bank balance sheets.

Then, its 60 minutes at it again with a very rare interview (the first one in 20 years) of Fed Chairman Bernanke. Two days after that, Bernanke announces the latest Fed action to pump more than one trillion into the economy and push long-term interest rates significantly lower.

Then comes a weeklong PR campaign from President Obama to try and instill confidence in his economic team (they’ve clearly learned their lesson when it comes to Secretary Geithner speaking to the general public) right before the latest version of the Treasury’s “rescue plan” is detailed.

Through all that the government was spoon feeding the markets more and more information about what the government’s plans are. And when we reached a point where any news is good news, the markets naturally recovered strongly.

Uncertainty Reigns Supreme

There is a lot to be said for this rally to continue all the way up to the G20 meeting in two weeks. After all, that’s really what the government wants. So it can say we’re making all the right moves and can point to the stock market’s vote of confidence as evidence. But I don’t know what they could possibly have planned next over the very short term.

But there are some days on the calendar where we can expect to get some information about the government plans and right now, any details are received exceptionally well by the markets.

For instance, the finalized government plans to rescue GM and Chrysler are due out by the end of the month. We can expect some big cash infusions given the recent bailout of the auto parts suppliers. (I sure hope Toyota, Honda, and Nissan are paying their taxes so they can get redistributed to GM and Chrysler).

By the first of May, we’ll know which are the five “chosen” firms to participate in the Treasury’s low-risk, high reward Public-Private Investment Program (PPIP).

Also in the next few months, we’ll have a clearer picture of what new powers will be afforded the Treasury Secretary and the Fed Chairman to take apart a zombie bank. We also should have an idea of how much meddling Congress expects to do in all this. And we might get some sort of idea as to the extent of how much more regulation will be coming the way of the banks.

The Keys to Success

So, like I said before, the short-term movements of the market are anyone’s guess. All of the technical indicators are up and there are still trillions of dollars on the sidelines which have yet to flow into the market.

The latest version of the bank bailout plan was greeted with open arms, but there are huge lingering questions which will likely prevent a sustainable rally beyond another 20% to 30% from here.

For instance, when it comes to how successful the latest bank bailout plan will be I think of the words of Milton Friedman. The Nobel laureate and free market advocate said:

“If you put the federal government in charge of the Sahara Desert, in 5 years there’d be a shortage of sand.”

There’s no reason to expect anything different from this bailout plan. Just think of how far we’ve come. It’s been half a year since this crisis really got rolling and we’ve just got the basic outline of a plan.

We still have budget issues in over 40 states. Real estate prices are still falling and there is so much inventory and “shadow” inventory (home owners and investors who are just waiting for a slightly better market) to work through. Unemployment is still on the rise. Overstretched consumers are paying down debt and getting their personal balance sheets fixed.

On top of all that, we’re facing one of the largest U.S. government deficits in history and a knockdown, drag out struggle in Congress over the details of it. Along with this budget (even in its eventual watered down form) comes higher taxes. Some of them will be levied directly against businesses. Others will be hidden ones like the “cap and trade.” And don’t forget about the very real possibility of an increase in the capital gains tax was an option during the campaign.

Right now the markets are weighing the good, bad, and not-as-bad-as-we-thought. The not-as-bad-as-we-thought is winning.

As a trader, this is a strong rally. And it’s not one I’d be willing to bet against…yet. We still haven’t seen the “panic buying” from folks who are afraid they’ll never get to buy this low again which normally signals the end of the rally.

As an investor, I’m still sticking to a defined plan, buying stocks strategically, and trying not to get caught up in the day-to-day ups and downs. I always keep the herd in the back of my mind. They can’t get enough gold when it hits $1,000 yet won’t touch the stuff when it’s 20% cheaper.

Those are the real keys to investing successfully in a market like this.

By Andrew Mickey

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