Looming Bull or Lurking Bear?
Is this market the real thing, a nascent bull that will generate trillions in new profits? Or is it just a vicious bear trap waiting to spring shut as soon as investors reach for the bait? It all depends on which market you’re looking at and what method you use to play it.

by Adam Lass

Prices at the wholesale level plunge 1.6% in October, the biggest one-month drop in 54 years of record-keeping, as gasoline and energy prices fall by the largest amount in 12 years, and the NASDAQ goes… up?

Planes continue to fall out of the sky in N.Y., and the NASDAQ goes up.

Why settle for nothing down when GM will loan you US$30,000 for five years for free, and slip you US$2K under the table if you’ll just drive a Camaro off the lot today?

And the NASDAQ goes up.

What’s the story here? Are these people nuts? Maybe the overseas picture is better. Let’s look:

From bad…

You can fly first class to Paris for the price of a decent dinner, but the planes are still half empty, and five star hotels are hanging out "rooms available by hour, day or week" placards. Ireland, after booking a red-hot 11.5% growth rate last year, is staring at an ugly 2% for 2001. In the three months from May to July, output from Ireland’s factories fell 13%.

Dublin bankers estimate that layoffs by Gateway, General Semiconductor Inc., Motorola, Dell Computer, and Xerox have resulted in the loss of 10,000 jobs this year. Across Europe, the stories are much the same: Philips Semiconductors, Siemens AG, Ericsson SpA, Nokia Corp. and Alcatel have notified their respective unions of plans to eliminate tens of thousands of jobs.

Japanese banks can find no takers for free yen loans. In fact, demand is so depressed that some Japanese banks are simply depositing their excess cash in other banks. As Sony CFO Teruhisa Tokunaka put it, "It’s tough to see where the bottom is in the current environment."

In South America, Mexico’s economy went from an annual growth rate of 6.9% last year to something close to zero this year, according to private estimates.

Looking further south, Brazil’s largest industrial association sees "the global recession turning into a mighty snowball that just seems to be growing and growing,"

Meanwhile, Argentine auto sales are so slow that Fiat has only been operating its plants there one week a month. And it turns out that those Argentine 30% bonds weren’t such a good idea after all, now that the central bank has issued a mandatory "voluntary" reorganization (read: major default).

…to worse

Prices of natural resource commodities are off 40% on average. Who’s feeling the impact most keenly? The Ivory Coast, the world’s biggest producer of cocoa; Guinea, with a third of the world’s known reserves of bauxite; Kenya and Sri Lanka, the biggest producers of black tea; and Zimbabwe, a major source for nickel.

The plunge in coffee prices has affected economies from Colombia to Kenya to Vietnam. And while lower oil prices help consumers in the industrial world, they gut incomes in Nigeria, Mexico, Russia and the Middle East.

The atrocities of 9/11 have put some serious topspin on a global economic slowdown that was already speeding past the baseline. The eternal optimists at J.P. Morgan Chase & Co. now forecast that global economic growth will barely exceed 1% per year for the next two years, the worst outlook in 20 years.

Industrial production is falling, unemployment is rising, profits and stock prices are depressed. The volume of cross-border trade is shrinking, while cross-border investment has dropped by half. Governments, facing declining tax revenues, are adding to their debts, cutting payrolls and social benefits, or both. Consumers everywhere are hunkering down.

Is the NASDAQ collapsing under the weight of all this bad news?

No, the NASDAQ is scarfing it up like a starving Saint Bernard in a puppy chow factory.

Schizo?

Investors are insane. That was certainly the impression I got from most of the speakers I heard at the recent Agora confab in Las Vegas, where the single biggest question being bandied about was "How can this market be for real?" (And when this crowd gets to arguing, we’re talking real head-to-head fistfight type stuff. Which reminds me, two financial analysts come into a bar… oh, never mind.)

The gist of the discussion comes down to a dichotomy, a schism between the eternal optimism of the vast herd of investors and an apparently ever-darker reality. Several speakers at the conference attributed this to the herd’s ignorance at best… and sheer insanity at worst.

One can certainly see the argument for insanity. I know that I get a migraine when I try to look at the NASDAQ chart–with its burgeoning rally and the genuine makings of a nascent bull, coupled with daily reports of shrinking sales, shriveling profits, and growing unemployment. Not to mention the reports of anthrax-laced mail popping up in post offices around the country.

Blessed relief

But that’s what I get for trying to hold both the overheated ramblings of my fellow editors and the blatant evidence of the herd’s good cheer in mind at the same time. A retreat to the cool science of WaveStrength™ analysis offers both instant relief and a surprising insight.

The schism that brought so much heat to the conference may not be between the rational and the insane at all. Rather, this dichotomy may simply be a statistical difference between the tech-laden NASDAQ and the market as a whole.

There is certainly no doubt that the NASDAQ took the brunt of the collapsing tech bubble, losing as much as 75% of its value over the past two years while the larger market lost a mere 33%. (I’m using the Dow Jones Industrials chart as a proxy for the market as a whole, but the numbers hold up for the S&P and the NYSE as well.)

The keys to the bank

In fact, understanding that difference is the key to understanding the future of the market. The NASDAQ has fully retraced the bubble, returning to almost the exact point it started from in October ’98.

This 100% retracement is a key aspect of WaveStrength™ analysis, which depends heavily on Fibonacci series-driven retracement patterns to establish horizontal support lines. While there is no guarantee that the current rebound will last, the fact that the 100% marker held is extremely significant.

The Dow has also marked a significant Fibonacci retracement milestone. The mid-September low of 7,926 was also the 61.28% retracement of the Dow’s boom. (Interestingly, the Dow is currently running flat at the 50% retracement, also a significant Fibonacci event.)

Follow the leader

That the NASDAQ’s tech bubble led the Dow up to the heady heights of the late ’90s is beyond dispute. Equally obvious is the destruction wrought by the bubble’s subsequent collapse.

But the fact that the Dow did not lose as much value as the NASDAQ is mistakenly held up as a demonstration of the Dow’s virtues–its component stocks had better business plans, more cash on hand, actual factories and natural resources to draw on, etc.–as against the sinful excesses of the NASDAQ.

A less rigidly moralistic observer will note that the NASDAQ’s role as trend leader to the Dow’s trailing role is far more important than any relative value analysis. That amoral view also reveals that the NASDAQ, having cycled through its 100% bottom, has also already led the Dow to its own inevitable bottom, because Fibonacci retracement theory stipulates that there is no support between 61.8% and 100%.

Estimated prophets

To fulfill the next leg of the NASDAQ’s prophecy, the Dow will have to fall to 6,315, a drop of 33% from its current level of 9,458.

Bringing this back to a "news and value" argument, the NASDAQ has already taken its medicine. Now it’s the Dow’s turn to eat the bullet. And the trigger on the gun could easily be the hideous economic numbers.

Much like a forest that has already had the brush burned out, most of the really terrible ideas being bandied about on the NASDAQ have already been discredited, and their purveyors are once again flipping burgers. The survivors have trimmed their books, inventories, and personnel rosters. Basic research is already accomplished, and any new sales will be booked as actual profits.

Surfing USA

And contrary to the fossilized naysayers at the conference, there will be new sales. In fact, in the month following the WTC attacks, the number of U.S. Internet users skyrocketed to an all-time high, rising 15% from 100.3 million surfers in October 2000 to more than 115.2 million in October 2001, according to a report released by Nielsen/NetRatings.

The Internet measurement service said people accessing the Web from home contributed significantly to the increase, rising 14% from the previous year to more than 103.7 million surfers.

The increase in Web activity shows that, despite the troubled economy, people continue jumping online to conduct business and find information. Analysts said that over the past several years, the demographics of those accessing the Web have changed from early adopters to more underrepresented groups, such as minorities and those with lower incomes.

Grandma’s (web) cookies

"As time goes on, we’re seeing that the Web is becoming more of an integral part of people’s lives," said Lisa Strand, chief analyst at Nielsen/NetRatings. "It’s not like the Internet stagnated to a certain percent of the population; it’s still growing. There are still more Americans coming online."

Nielsen/NetRatings also reported that Web usage rose from 110.8 million unique users in September to 115.2 million the following month. That 4% growth is the largest monthly increase seen in 2001, according to the company.

In plain English: cheaper computers, faster lines, and simpler interfaces are making it possible for regular folks to get what they need online. Heck, my 84-year-old grandmother sends me email off her TV set now. (She also sends me endless inspirational forwards about someone’s cat that survived for 30 days after 9/11 on, get this, "nothing but… mice!" But that’s another day’s rant…)

Getting awfully real out there

It’s the more "reality based" stocks that will suffer most from the next phase of the global recession. Companies that threw their sales and profits in the face of the "future file" stocks are already bearing the brunt as current sales crumble and profits fall off. Just look at the latest series of reduction-in-force notifications: they’re all in airlines, steel, and major manufacturing.

But, as I have already stated, this sort of anecdotal evidence is only decoration, a sideshow to help one ground the revelations already clearly displayed in the charts. In recent issues of Taipan and the 247profits e-Dispatch, I warned of the possibility of a disastrous fall in the NASDAQ if it failed to hold up at the 100% retracement level.

By now it is evident that the NASDAQ has passed this crucial test, and after a fairly turbulent turnaround moment, during which several overly steep angles of attack seemed possible, it is now manifesting a tightly defined trend with a statistical high-side bias and a maintainable rate of climb.

As this new bull trend moves through the field of the previous bear trend, it is clearly responding to the key support and resistance patterns formed by the interaction of the two trends. The key issue is no longer whether the new bull exists, but rather how it will act when it finally clears the influence of the previous trend.

While that event may still be a while off (as the NASDAQ is still just clearing the previous trend’s 75% line), I’m quite willing to take a stab at it. By overlaying the NASDAQ’s two-year chart with a simple sine wave, you can see that the final leg of the wave returns us quite neatly to the point the index would have occupied had it simply kept growing at the very manageable rate of the previous eight years. This delivers the index back to 3,500, yielding a simple 85% gain for equities investors over the next 3 to 6 months.

But the tightly defined parameters of this climbing trend have the potential for far more gains than simple stock investing can deliver. For that, I’ll turn you over to my fellow analyst, Bryan Bottarelli.