3/13/2009 Equites: Possible Backing and Filling of Market Bottom

3/13/2009 Equites: Possible Backing and Filling of Market Bottom

Written By: Matthew Xiarhos
Categorized in: NEWSLETTERS

Global Equity Markets

Last week I issued our first market "ALERT" in nearly a year suggesting a market bottom was imminent. That advice again proved timely as equities markets bottomed out within just 1-2 days of the "ALERT" and at the same price levels. Over the past week equities around the world have enjoyed double-digit gains on the back of two tremendous rally days.

Typically, market bottoms take a little time to develop; especially given the damage that has been done YTD and during the course of this bear market. Today, most short-term indicators are overbought and suggestive of a near-term peak having rapidly cycled from oversold conditions just one week ago. In fact, short-term sentiment measures are also suggestive of a top or consolidation here.

The "violence" of the two large rally days is a combination of both "short covering" and bargain hunting. The two fuel each other as those with short positions are forced to buy back shares they've shorted while bargain hunters run up the prices as they acquire their positions.

While it cannot be said with certainty, I wouldn't be at all surprised to see the market settling back here over the next week or two and retesting last week's lows. Again, it isn't a necessity to have a double bottom or re-test but it would certainly lend structural credence to the rally.

What should one do now?

Certainly pull in any short positions. Second, ease up on any selling campaigns of existing long positions. Third, get out your shopping list.

But, let's wait for some trend confirmation of the bottom and/or a successful re-test of last week's lows. In a tremendous bear market one has to be especially careful not to get trapped. All of the requisite factors exist for a substantial intermediate-term rally. However, near-term indications suggest either a consolidation or re-test.

Our equity models are trend and momentum following and, accordingly, aren't designed to anticipate but rather follow the market trends albeit quite sensitively. Accordingly, we will need to see some follow through before we get BUY signals in our model portfolios.

International Equity Regions

International Equities have underperformed their US counterparts due in part to strength in the US Dollar (USD). Should USD strength continue, it's likely that overseas equities markets, on average, will continue to underperform. Our models remain defensive through yesterday's close. This suggests that either enough momentum and/or breadth hasn't established itself in the current advance.

ASIA (ex-Japan) -
Asia has established a leadership role during the initial stages of this rally by outperforming all other regions.

EMERGING MARKETS -
Much like Asia, relative performance is improving and suggests that this region will also be among the top market leaders in the coming advance.

EURO -
There's rarely been reason to look to the EU for opportunity given its quasi-socialist economy and poor competitive position globally. This time is no different. Avoid.

JAPAN -
Should be avoided at this time. I'm expecting massive capital outflows to occur as risk appetites increase.

LATIN AMERICA (LatAm) -
As the past bull market leader, LatAm was a personal favorite and I expect great things from this region in the coming advance. Tremendous natural resources make it the "raw materials store" of the world.

USA -
(see Equity Style section for specifics)

Equity Styles (US Markets)

Interestingly, value stocks enjoyed the greatest advances during this initial rally surge largely due to the focus on beaten down financial & bank stocks.

Typically, this isn't bull market behavior as growth stocks will more typically lead a new advance. I am not going to draw any significant conclusions from this behavior because we've had only two large up days over the space of one week and this nascent rally will/should broaden out to include growth stocks.

Investment Grade Bonds

High Grade Corporate Bonds remain on a BUY. However, I am not adding positions until the uptrend reasserts itself.
High Yield Bonds
Our model is on a SELL. Keep in mind that High Yield Bonds are highly correlated with equities. Accordingly, any recovery in the equity market will be seen in the High Yield sector also.

Credit spreads are huge providing the possibility of very high income coupled with potential capital gains. High Yields bonds/funds are best bought at the end of bear markets when credit spreads are highest, defaults are escalating rapidly yet the equity market is finding a foothold and bottoming; as I anticipate.

Inflation Hedge / Real Assets

Our Real Assets/Inflation Hedge model is invested in GOLD Bullion.

GOLD Bullion - (GLD) - On a BUY. Speculators might be interested in knowing that the valuations of gold equities (basis XAU) is the lowest we have witnessed in the 25+ years for which we have history. This suggests that once the equity market weakness subsides there could be tremendous potential in this area. However, be forewarned that the risks and volatility of gold stocks is also quite high.

Goldman Sachs Commodity Index (GSG) (largely energy ) and DB Commodity Index Tracking Fund (DBC) on a SELL .

Real Estate - Our models rank REITs as a SELL. Anticipated strength in the equity market MIGHT bode well for this area. Time will tell and I am not altogether convinced, however.

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