Over the past 6 weeks, there’s been a lot of attempts at forming bottoms in the stocks I cover at HEDGEfolios. I’ve given about 1000 new UP signals during that time and until the middle of last week, I was starting to think that the market had a good chance for a bear market rally to continue for a little while. That still may happen but my optimism is no longer there.

One of the dangers of stocks trading near an apparent bottom occurs when the bottoms drop out. In this volatile market, there has been very little convincing volume to solidify whatever bottoming appeared to be happening. The moment we face any pressure to the downside and the recent buyers are tested. If they take profits, the bottoms drop out. If they just hold and fail to provide new buying demand, the bottoms drop out.

Last week’s action poked a lot of holes in very weak bottoms. There was no capitulation on January 22nd when the Super Stallion dropped rates.  It’s not going to take a lot of selling to move prices dramatically lower.  On the other hand, it will take a lot of buying to hold 1270.  If a flood of buying does not happen very soon, you can kiss your bottom goodbye.

During the 5 or so years I have been doing HEDGEfolios, there have been three times I have thought the market was at risk for an imminent and serious decline. August 16th, 2007…January 21, 2008…and today. The previous two times, the Fed showed up with surprise cuts the next day.

Over the past few weeks of rallying, quite a few commentators have discussed the likelihood that there would be a retest of the recent lows at 1275 - 1300 on the S&P 500. While I agree with that, I don’t agree with the add-on assumption. Many of these “technicians” go on to imply that the retest will be successful. That may happen but we have no evidence a positive result is a certainty and I prefer to let the trading patterns decide when they occur.

I am confident that there will be an attempt to program some trades and create a “double bottom” retest. This kind of “manufactured technical analysis” has been the subject of some of my recent posts so I’ll just provide a link and save the repeat about how much I disrespect this crap. Regardless, it’s too tempting for certain market participants to avoid making their own trading opportunities so I just wait for it to happen and evaluate the merits of whatever shows up.

Last week, I went bearish prior to the Asian and European sell-offs. That was before the SocGen fiasco and more importantly, it was before “Super Stallion Ben” supposedly reacted to economic news (not global stock market declines according to his defenders). I am not sure what economic data he was responding to with that intermeeting cut. Was it the initial jobless claims report that came out two days later? I doubt it, since they declined. Was it an early look at today’s release of durable goods orders? I doubt it, since they increased.

Whatever his reason - Chairman Bernanke did it. And to be honest, I didn’t think he would. I know I should expect that he will drop rates the moment he has an opportunity to screw short sellers or respond to the cries of the “bailout bulls.” I just thought he would have some courage to wait one week until the scheduled meeting. My thought was that we would get a washout last week and then a recovery in advance of tomorrow’s meeting. The surprise cut changed all that and scared people into stopping the selling pressure.

However, despite a lot of improvement in sentiment and a healthy dose of short covering support, I was not overly impressed by the market action. I am still waiting to see natural buying come in. As a result, I only gave 176 new UP signals and I am maintaining my bearish bias. I spent most of my analytical efforts trying to discriminate between stocks I thought would have gone up regardless of the cut and those that went up primarily due to the interest rate shenanigans. Doing that relied more upon their market action and volume in the previous three weeks than it did from Tuesday to Friday.

The V-bottoms that showed up in many stocks are interesting, but I try hard not to react to them unless there is company-specific fundamental data to justify it. That is very rare. Instead, I decided to wait on about 400 stocks that rebounded off thin air. Many of them are up 5-10% since then - in fact, over 1000 of the DOWN signals I had going into last week advanced more than 5%.  Rallies during bear markets are sharp and short-lived.   I am waiting. This one has certainly been sharp and as for short-lived….that is yet to be determined. If this week’s Fed intervention results in a continuation of positive momentum and real buying, I’ll probably be pushed back into a short term bullish stance again. Until then, I am waiting.

I know this market is testing the patience of most investors. In many cases, I suspect that the test is a failure. People are definitely panicking and in quite a few stocks, it appears that all patience is gone. I am not immune to having my patience challenged. In life, I try to be as calm and understanding as possible. Sometimes, I don’t do as well as I would like. But when it comes to the markets, I rarely lose my patience. That remains the case despite all the terrible market action you see if you only focus on the indices or the stocks that hit the headlines. As you can see from this week’s signals, I almost gave as many new UP signals (69) as new DOWNs (101) and the total of 170 signal changes is a lot less than I expected when considering the Friday closing action.

Last year at this time, I remember changing a bunch of stocks to DOWN every week despite the market’s love affair with buybacks, Private Equity, etc. etc. People would tell me, “you don’t get it”… “you don’t know what you are doing”…”you should be less negative”…”if you want to be a success in this business you need to tell people what they want to hear.” Every week, I’d laugh and take my lumps with a heavily downward bias as the market kept heading higher. Some times it was annoying but I never lost my patience and when February 07 whacked the market, I felt some vindication. Then we rallied to record highs again and the same disbelief set in. Following July, the rest of the year was quite good for a patient permabear like me.

So what the hell is going on with me since December 10th? Don’t I get it? Do I know what I am doing? Shouldn’t I be more negative? Maybe so. In an odd way, it’s almost comforting to hear the same criticisms in reverse this time. But each week, I look at each of the 3500 stocks and try to remain objective. Obviously, it’s important to always consider market pressures, but even after doing that - I am still not seeing such a negative outlook. Yes, I am bearish long term. The economy is weakening, the financial sector is a mess, the consumer is struggling, earnings season will probably suck, but something is causing me to remain patient. If this week closes like the past two, it looks like the HEDGEfolios Timing Indicator will be pushing back into bearish territory. But until then I am hovering slightly above the 50/50 line and I am comfortable right where I am.

Yesterday, I rained on the parade brought on by IBM’s pre-announcement (see preceding post) and it sure was a short one. I can understand why people want to end the slide and grasping at a bellweather stock’s good performance is an understandable thing. However, despite the pain of the past month (and the past 6 months), I still see a lot of people living in the bullish world of early 2007. I get the sense that many investors are not frightened by or fully respecting the seriousness of the situation we are in. Yesterday was one example - people were all too willing to believe that one stock can turn the market higher again. Or last week, when many believed that BAC buying CFC was a sign that the worst was behind us. Or last fall, when investors were convinced that the next Fed intervention or rate cut would solve the economic and credit market problems.

And while I am on the topic (kinda) - as you should know from reading my blog, I think the “wall of worry” concept is a piece of crap. So at a time like this when there is a significant amount of worry going on (or at least there should be) why are we not hearing about it? Why is the market not climbing the wall of worry? Could it be that we are actually on the other side of the mountain - the slope of hope? As per the previous paragraph, I think that’s the case. There is a ton of hope that something is going to come along to give us back the record highs we believe we deserve.

Maybe this is a good time to pull out one of my old pieces (maybe not but here it is anyway!)

Even the cloudiest of days can have a ray of sunshine for a few minutes, but that doesn’t mean the bad weather is over. Given that I have been bullish since December 10th and it hasn’t been easy to be optimistic while the stocks have gotten hammered, you might be surprised that I am “raining on today’s parade.” As good as IBM’s numbers were - I am not willing to believe they are the salvation they are being made out to be. So far today, I have heard that IBM’s pre-announcement is a reflection of the bottom in the market or that it reflects the great opportunity brought about by the weak dollar and multinationals with a high percentage of foreign sales or that now is the time to buy technology or that this indicates earnings season (ex-financials) will be good. To me, all of this is way too much extrapolation and we have gone through this before only to get dumped on a few days later. Earnings season has barely begun, let’s see how it plays out. Believing that IBM can single-handedly change market sentiment is stupid. While I am more constructive than I have been for a while, there are many bad things going on. I intend to take each stock on its own merits and I suggest that you do the same.

While I was enjoying the Colorado Rocky Mountains last week, I wasn’t paying much attention to the markets. If I had, I wouldn’t have had fun and more importantly, I would not have been able to get some much needed exercise for my body and much needed rest for my brain. Fortunately, this calm ignorance of the brutal markets has given me a fresh perspective and I hope I am able to maintain it for a while. In response to the broad and steep declines in the first four trading days of 2008, I did give more new DOWN signals (405) than new UPs (57). However, as I went through the charts and read up on fundamental data I had missed, I wasn’t convinced that it was time to make a dramatic reversal to the bearish side. So rather than changing about 1000 signals to DOWN, I held back and decided to use the patience I found on my vacation. After seeing the carnage again today, I suspect that patience looks like a bad approach. However, I am sticking with it and trust it will payoff. When things get as brutal as they truly are right now, it’s important to watch which investors/financial advisors are reactive and which ones are being proactive.

I follow the recommendations or observations of very few people in this business. It’s not an arrogance thing, I just do so much of my own research that I have tuned out much of the noise that goes on. Last year I tried talking Ralph Bloch into reading my blog and using the database. Without explanation, he bluntly told me “I don’t read other people’s stuff.” Ralph didn’t need to explain - I didn’t need to ask for an explanation. Since then, I’ve thought about his statement and evaluated how much I factor what other people say or do into how I make portfolio decisions. Over time, I’ve learned why Ralph said what he did and I am saying the same thing lately.

I do my own thing and as I always say on here, I want you to do your own work too. If my comments encourage you to think about something new or in a new way, that’s good. But never ever substitute my thoughts or anyone else’s for your own. If you think I am stupid and it helps you solidify your conviction about a view opposite to mine, that is what HEDGEfolios is all about. If my work validates what you’ve already come up with on your own, that’s great too.

Great minds think alike…and so do stupid ones. And right now there are a few great minds I respect that are saying to get the hell out of this market. There are also some stupid ones that are saying the market looks great…come in…the water is fine. The diverse opinions are understandable given the volatility and strange market action that has been occuring. However, my work doesn’t show me that things are definitely getting a lot worse and I have to follow what I am doing, not what others are saying or doing. HEDGEfolios is committed to either an UP or a DOWN signal and being all the way out is not an option. Personally, I am still very negative on the market and the economy so I can understand why others are saying to get out of the way. But I look at each of the 3500+ stocks on an individual basis and once again this week, despite all the negative stuff, I gave more new UPs (162) than new DOWNs (101). Being 53% bullish is not overwhelmingly optimistic but I am comfortable with it. However, I am not you. YOU need to decide whether YOU are out or in. If you cannot handle the volatility, you need to discuss it with your financial advisor. Otherwise, just like Santa…you should be making a list and checking it twice so you are ready if this market is naughty or nice.

If this current improvement I am seeing goes away, you can bet I will be exiting as much as I can at my first opportunity. Technically, the downside (from a market perspective) looks very bad to me and if it doesn’t hold here, I expect that we will see a rapid retest in a matter of days of the 1400 to 1410 level. A failure there and I wouldn’t be surprised by a further 10% drop. Ominous stuff. But as I said at the start of this post, that’s my work - not yours. Right now, many people disagree with my view. If we fall to 1250, they’ll be disagreeing with me then too.

This spring, I kept seeing the technicals eroding while prices were heading higher and it caused me to position for the downside. That was painful until mid-July but it paid off in the second half of this year. Last week’s market action had a lot of the opposite - prices were dropping while often times I did not see dramatic declines in the technicals. Not only were prices falling, but in many cases the weekly declines were about 10%. I never get into saying something went down “too much” as I am not the judge of what percentage is the right one. But it was certainly extreme.

When that happens, I work really hard to evaluate the merits of the price change based upon fundamentals. If they are still solid and the technicals held up, I tough out the price drop. It’s painful, but over time, I’ve found that it works out for many of the stocks. On the other hand, if I feel the price change was consistent with a weakening of the fundamentals and technicals, I bail.

The thing that concerned me the most last week were hundreds of stocks that had looked great a week earlier and now look terrible. The optimist in me (yes some part of me is not a bear!) says it’s just the start of a lot of cup-and-handle formations and the declines were the start of the handle. I’d like to believe that and I need to give it a little time before I feel confident one way or the other. However, the slope of the declines were extreme and I wonder whether the handles got broken off before they can start to form.