In the short term, it's important to note that Februaries tend to bring about reversals of Januaries. That sometimes happens in very dramatic fashion
The fine market-timing engineers at Lowry's Reports in Florida, whom I have featured in the past, believe that such a reversal and march to new highs is imminent. They do say, however, that the move could be preceded by a vicious one-day wipeout.
Even if such an upside reversal does occur, however, it seems that the odds are being stacked against the bulls. In addition to the usual laundry list of unpleasantness trotted out by the bears -- the massive U.S. budget deficit, a shrinking dollar, the softness in industrial production, the persistent lack of job growth and the steep current-account deficit -- there is the delicate matter of sentiment cycles now gnawing at the foundation of the market.
(The Dow's intraday high in 2004 was 10,895.10 on Dec. 23.) And so you have to guess that, given the indifference among insiders in the past year, any attempts to summit even last year's 10,800 mark over the next few months may well be rejected.
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Peter Eliades, author of the Stockmarket Cycles research service since the mid-1970s, elegantly quantified this intangible factor in a Jan. 7 report. He said he believed that this year would turn out to be the first ending in the number 5 that had not ended positively in over a century due to the amazing recent complacency of market participants.
Eliades pointed out that the 100-year string of positive years ending in 5 had occurred in no small part because years ending in 4 had typically been so rotten and riven with fear, the 5s were ripe for a psychological reversal. In contrast, he notes that 2003 and 2004 were among the rare two-year periods in which there was not a single week of a preponderance of bears over bulls in the surveys taken by Investors Intelligence.
That survey, conducted continuously since 1965, has only witnessed one other period in which two years went by without a one-week surplus of bears over bulls. That was 1999 and 2000, just prior to a 22-month decline of 32% in the Dow. Before that, the only single years without a week in which bears outnumbered bulls were 1972 and 1976 -- just before huge declines of 30% and 20%, respectively, in the following years -- and 1983, just prior to a more modest 10% five-month decline in the Dow.
In contrast to the lack of bearishness in 2004, Eliades points out that, as the year 1974 ended, there had been 42 weeks in the Investors Intelligence survey where bears outnumbered bulls. In 1984, there were 20 weeks of bears beating bulls. And by the end of 1994, there were 47 weeks of bears over bulls.
What's really interesting is that the spectacular 1998-2000 advance had so thoroughly brainwashed people into thinking that the market could never go down, that even in mid-2002, with the Nasdaq 80% off its all-time high, there weren't more than two weeks in a row of bears over bulls in the Investors Intelligence survey. In 2001, following the quick recovery in stocks after Sept. 11, there were only a couple of weeks of more bears than bulls. That was nothing like the months and months of absolute despair found at real market bottoms in the past.
Eliades admits to a tendency toward gloom that has cost him plenty of upside. But he believes that if a decline really gets rolling this time, it won't stop at the October 2002 lows. Instead, it will keep on rolling until the average dividend yield of Dow 30 stocks is nearly equivalent to the average of their price-to-earnings multiples -- a pairing that has occurred at every other major bottom.
In 1982, just before the big bull market started, the Dow yield was 5% and the P/E was around 6. At present, the average yield is 1.5% and the Dow P/E is around 20. So they have a long way to go if that level of despair is to be matched.
How to proceed? It would be nice if it turns out that stocks were just feeling queasy after the big run-up in November and December and needed a little rest.
One statistical quirk that has worked since 1968, according to Eliades, is that February has tended to tell the story of the year. If the February high surpasses the January high, then you can put your party hats back on because the year is likely to turn out OK. But if February turns down again or rallies without surpassing the January high (1,202 on the S&P 500 or 10,800 on the Dow), then put on your hard hats instead.
Many readers have asked for the opinion of Mr. P., the director of research for a major U.S. hedge fund who occasionally offers his view on timing in this column. Last Oct. 14, he told readers here that he believed stocks were due for a 20% drubbing in the first half of 2005.
Over the weekend, he said he's sticking with that forecast, with the additional warning that if or when the Dow slips below where it closed the day after President Bush was re-elected -- 10,137.05 -- then he would feel even more confident in his forecast.
