Bearish Signs Are Quickly Adding Up

By Gary Kaltbaum Over the past few weeks, I have been more cautious. During that time on the Buzz & Banter, I outlined why I thought the market was in trouble. The simple fact is that every characteristic that usually show up near tops in the market... showed up. When these characteristics show up, it is time to keep an eye out for trouble. All that has to happen is for negative price and volume to confirm. Subtle signs showed up weeks in advance. When listening to those who say this recent drop came out of nowhere, please take it with a grain of salt. Here are those bearish characteristics that I've said would eventually come back to haunt the market: Financials Big financials were acting like it was '07 all over again. They sit when the market goes up and they lead down when the market sinks. It's quite amazing that this is occurring while the Fed is just handing money over to them. This is important, as financials have always been a key to the market. Major New Highs Divergence Every time the market went to new highs, there were fewer and fewer stocks hitting new highs... indicating strength was narrowing. Defense Leads Speaking of leadership narrowing, over the past several weeks, we saw drugs, food, beverages, tobacco, and utilities lead. It's a classic sign of trouble when the most defensive of issues are being bought. Low Levels of Cash Mutual funds are only holding 4% in cash -- a very low level -- providing very little ammo for the market. (To read Jeffrey Cooper's piece on the S&P 200-day moving average, click here.) Over the Top Bullish Sentiment I noticed one pundit call for 2600 S&P by 2013 and another calling for 20,000 Dow within 18 months. These type of calls do not occur at the lows. Many Stock Splits and Mergers Stock splits and mergers do not occur at lows. In fact, they occur at highs. Emerging Markets Markets like China, Brazil, and others entered their own bear phases before US markets. A Plethora of IPOs and Secondaries This adds supply to the market, but more importantly it's another characteristic that shows up at highs, not at lows. To make matters worse, investment banks -- as usual -- learned no lessons from the late '90s about bringing companies public with $5-10 billion valuations that do not have even $100 million in sales and lose money. They get their fees and investors lose. Semiconductors Another important leading sector is the semis. They have led the market for many years, both up and down. When they topped in March, I became worried. When they rolled over in mid-May, I became double worried. Finally and Most Importantly Nothing bad happens when major indices are above the 50 day moving averages, and only bad happens when below. The final dagger occurred last Wednesday when markets dived below on volume. Since then, there's nothing but distribution. On a daily basis we are seeing weak closes, another important sign of a bear phase. Try to resist the urge to listen to permabull Wall Streeters during bear phases, as it could cost you a bundle. You will be hearing the terms overdone, overreaction, undervalued, cheap, and so on. Be careful! (To read Professor Pinch's thoughts on the effect of social networking on the healthcare industry, click here.) I am amazed at the complacency I have seen so far. After stating my bearish stance on Fox News a few weeks ago, I received a bunch of disagreeing emails, and even hate mail. Some people just never want to believe the market can go down. There is no way of knowing when a bear phase will end, but just like we know the characteristics that show up during a market top, we know the characteristics that show up during a market bottom. I do believe this market has a date with the 200-day moving average which is only a couple percent lower. At this juncture, I am inclined to believe it will occur. To answer the question on whether the market could have another flash crash, I wouldn't bet against anything as I do not believe the masses are prepared, and I do believe the masses still have the buy the dip mentality. On a short-term basis, major indices remain very stretched, expended, and oversold to the downside. But again, oversold could stay oversold for a while. I suspect the 200-day average could first provide the market with some sort of relief rally. Any rally should be sold as I believe there is going to be more time and price in this bear phase. My last point is on the economy because many weeks ago I thought the economy had topped. Since then and unfortunately, this has been the case. What did I see? Every quarter I visit numerous retail outlets and I speak to select people in differing industries. These are ordinary people either running or working at businesses and they all said that things had stalled, that there was no upward trajectory. I then heard the heads of Walmart (WMT) and Target (TGT) say that the consumer hit a wall. (Here's a hint, never argue with what Walmart says. Don't listen when a pundit says the news is just limited to Walmart. The company only does $400 billion in sales.) The last and most important clue... commodities topped, indicating demand was indeed softening. Weeks later, all the worsening news has started to come out. (To read Conor Sen's thoughs on Berkshire Hathaway, click here.) My biggest worries are simple: The Fed is out of ammo. Interest rates are already at zero percent. Yes, they can print more money but that only crushes the dollar and lifts commodities, which in turn hurts the consumer. Crushing your own currency has never worked. This administration is in dire need of watching the Seinfeld episode where Jerry told George that if every decision he has ever made was wrong, then doing the opposite must be right. We've seen massive deficits, massive amounts of new regulations, threats of tax increases, demonization of almost every industry, and a health care bill that does nothing more than add more costs to hiring even though they say it will lower costs and lower the deficits. There is only one outcome from this questionable policy... and we are seeing it. The Obama administration is not dealing with a sluggish economy, it is causing it. So I worry. It is only bad when markets go down, and right now, it is bad. Markets are going down and we may have only seen the beginning as the trust factor remains very low. Markets are quite smart in the long run. To read the rest, head on over to Minyanville.