Will the stock market rally continue in 2010?

By Dominic Frisby Dec 22, 2009

Dominic Frisby

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World markets electronic stock board © Tomohiro Ohsumi/Bloomberg

Where next for the world's markets?

Stock markets worldwide have, for the most part, retraced roughly 50% of the falls from their peak in autumn 2007 to their lows in March of this year.

The Japanese Nikkei is the exception. From a high above 18,000 it fell to a low around 7,000 and bounced to about 10,700. Retracing barely a third of the falls, it must be the worst performer of the major indices. That's Japan and entrenched deflation for you.

The rest of the world has done rather better. But can this continue?

This rally is petering out

Global stock markets have recovered around half of the losses sustained in the financial crisis. In Hong Kong, the Hang Seng has done even better, going from a high of 32,000 to a low of 10,676, before bouncing to a high last month of 23,000. That's a retracement of almost 60%.

Meanwhile, in Germany, the Dax went from 8,151 to about 3,588 and made it back to 5,888. That's as near as damn it a 50% recovery, which is also what we have seen in our FTSE 100, and in the Dow and the S&P across the pond.

But at that 50% level, this rally has petered out. It appears to have run up against a wall, which it just can't get through. The FTSE, for example, has been pushing up against that 5,300-5,400 level since as far back as mid-October, but it just can't seem to burst through.

Meanwhile, the US dollar, which, as we have noted before, has recently been doing the opposite to virtually everything else - stocks rise, commodities rise, precious metals rise, the dollar falls - has started to stage quite a recovery. It's moved from just above 74 to 77 on the US dollar index (which measures the dollar against a basket of other currencies).

Given this rally, you would have expected stock markets to move commensurately lower. But they haven't. I am a bear, but that is a display of strength on the part of the stock markets.

Are we heading higher in 2010 - or is this a last gasp for markets?

There are two possibilities. We could be building up for another move up into the spring. Or we are in a lengthy topping process and will soon be seeing markets rolling over. I'm in the latter camp - but I'm not ruling out the former.

This rally – now some ten months in duration – is one of the greatest rallies we have seen in the markets, both in length and magnitude, since the 1930s. It's natural to at least pause for breath. A slow down is not surprising.

But you could also argue that this whole rally has just been a rather large pause for breath – a gasp – in the vast deleveraging process that is still ongoing, as we pay down the unprecedented sums of debt that have been built up over the last three decades. We shall see.

Having called the March low in the stock markets to the day (here's the Money Morning I wrote back then: Stock markets are about to rebound sharply) my calls on the stock market have been off in recent months. I have been too bearish. But I can't help it.

The internals of the stock market are not good, in my view. The moves higher are being led by fewer and fewer stocks. The tech stocks, for example, are strong. But other important sectors within the markets are breaking down. The banking stocks, the house builders, and oil and gas are all in downtrends.

I am reminded of late 2006 and 2007. More and more news was coming out about problems in US housing and the debt markets, yet the markets kept on rising. This time around the issue seems to be sovereign debt with more and more bad news coming out of the likes of Dubai, Greece, Spain and eastern Europe and the Baltic states. We appear to have got away with it so far, but I am pretty confident problems are lurking just around the corner.

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Why I'm turning bullish on the US dollar (for now)

I am also turning increasingly bullish in the intermediate term on the US dollar. That's not because it's intrinsically valuable, but because it's cheap compared to the other major currencies. I see the euro coming under intense pressure as these problems in southern and eastern Europe continue to appear. Sterling I do not like at all.

I have posted this chart before, but it's worth reviewing. The US dollar could easily move to the top end of the channel, defined by the blue lines – somewhere above 90 – before 2010 is over. A move up to those levels might mean a lot of pain in markets elsewhere.

The biggest victim of the rising dollar is gold

Not unsurprisingly, given its recent run-up, the biggest victim of the rising dollar has been gold, which at around $1,097 is now roughly 10% off its high of a fortnight ago at $1,226.

It's important for people to recognise that gold and the US dollar can rise together. It's a common misconception that they can't, but they did so in 2005, as the chart below shows. Gold (the red line) began the year at $420 and ended at $517 while the US dollar (the black line) went from about 83 to 91 on the index. We could well be looking at a scenario in 2010 where something similar happens.

But for now it remains 'all eyes on the dollar', because it appears to be rallying. And I suspect that doesn't bode well for everything else.

Our recommended article for today

Four ways to test balance-sheet strength

In these uncertain times, investors keep being told to look for strong balance sheets before buying a stock. Tim Bennett explains what a strong balance sheet looks like, and points out four things to watch for.

Comments (10)

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  • 1. keeldar

    (22 December 2009, 11:53AM)  Complain about this comment

    Well done Dominic .
    Wish I had not paid so much attention to your caveat :
    " If a rally comes, it could be sweet - but this isn't the bottom yet "

  • 2. Alex

    (22 December 2009, 11:56AM)  Complain about this comment



    OK, but what price does gold have to sink to again the dollar, before we should start piling into it again?

  • 3. InkPot

    (22 December 2009, 02:31PM)  Complain about this comment

    Oh good. There are two possible scenarios in 2010: markets maygo up, or they may go down.

  • 4. Alan

    (22 December 2009, 02:52PM)  Complain about this comment

    Why do the so-called experts or “analysts” put so much faith in an index, any index? Stupid expressions such as “the FTSE seems to be meeting resistance at …..” are just a load of rubbish, as is “we have now reached a 50% retrenchment from the low point of….”.So what? The index, whatever index, is just an indicator of the stocks/commodities etc that it monitors. The index does NOT drive the market; an index is just that – an index. Market forces, such as supply and demand, drive the market.

    How may chicken entrails does the “analyst” have to examine before he comes up with his latest “story” as to why any markets/currencies are going to go the way he is predicting? Predictions are just a load of hot air – at best, an educated guess. It only needs another 9/11 or a currency devaluation/revaluation to make a complete mockery of any predictions made the previous day.

  • 5. JJ

    (22 December 2009, 04:38PM)  Complain about this comment

    The Dollar rising, because other fiat currency countries are even more messed up, doesn't mean the Dollar is strong in real terms.Recent supposed gains in the U.S. economy are directly caused by govt spending and deficits.I see nothing great about this economy in the long run.Gold should do well.Only if the Fed raised interest rates enough to give us real positive interest rates would I be bearish on gold.Currently,I use the FedEx/UPS recent rate increases of 6% as a good indicator of the real inflation rate in the U.S.Since the Fed is holding rates near zero,we have a negative 6% real interest rate which is very negative for the Dollar and positive for gold.

  • 6. Timbo

    (23 December 2009, 01:38AM)  Complain about this comment

    Alan,

    Whereas I agree with what you say about charting, the fact is so many traders truly believe in them, they become a self-fulfilling prophecy regardless of the true underlying fundamentals. For this reason it always pays to be a 'momentum' investor and go with the flow.

  • 7. Stephen B

    (23 December 2009, 10:21AM)  Complain about this comment

    Another reason for the stocks bounce is the wave of cost cutting, to improve company balance sheets and ostensibly give profits a boost. But the fundmentals of the global economy do not bode well - these stock markets are largely consumer stock markets, and in the US, its engine, consumer spending is weak.
    I've been shorting the euro against the dollar for a while now, with limited returns. I'm similarly bullish on the dollar, but think there could be better returns to be made by buying it against the Yen, as the Japanese have invested heavily the last few years and need to devalue its currency to realize exports. Golds still golden in my eyes.

  • 8. exv

    (23 December 2009, 11:16AM)  Complain about this comment

    there are lies, damn lies and statistics...and then there are charts. You can make charts say anything. look at the USD Index chart with the "channel" taken from April 08. Yes, it looks like an upward trend. But take it from early 2009 and you can equally say that the recent rise takes us above the channel and therefore you should short the dollar.

    These tools are only useful in retrospect - they are not a predictor of performance, they are a retrospective explanation of performance.

  • 9. JPM

    (24 December 2009, 04:45AM)  Complain about this comment

    I agree with InkPots dry comment on Dominics usually sharp as a tac article. However i do find the 2005 Gold-Dollar chart mighty useful, both tracking up which is a very real possibility in this year.

    I agree consumer markets look stagnant but company costs are being cut to protect profits so there's no immediate reason stock markets won't remain bullish. However Dominic highlights sovereign debt and the deep deep hole the clowns (criminals) of society (ie. politicians) have dug themselves in, even faster and more irresponsibly since recession hit.

    We may not like it as investors but we NEED it to happen as a society. We need the steaming pile of rotting dung that is Westminster (and the US Congress, EU/EC and UN for that matter) and all the frauds and cronies therein to fall off a cliff and crash into 100 pieces.

    Political rant over. Back to investment I think it markets will do ok until interest rates change.

  • 10. Clark

    (06 January 2010, 03:16PM)  Complain about this comment

    I cannot help but feel that this is ultimately going to be exposed as a Bear Market rally. Consumer confidence remains weak and is likely to continue this trend well into 2010. Governments have now done all they can to shore up the financial services sector, and banking stocks are going to take another big hit when the true level of remaining writedowns is revealed. I agree with JPM's point about interest rates, as soon as these move up again we shall see the situation more clearly.

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