Friday, January 06, 2012

By the Pricking of Equity's Thumbs, Something Wicked This Way Comes

Sentiment is awfully complacent, and volatility is low. Smells like May 2011--or August 2008.

Equities look ripe indeed for an "unexpected" bloodletting and resultant wicked correction. The general outlines of a equity bubble awaiting a nice little thumb-pricking are all present: high levels of confidence and complacency, massive divergences and a disconnect between the global economy and U.S. equities.

It's certainly possible that the stock market will reward the 83% bulls and further punish the 17% shorts, but it's ever so much evil fun to inflict the most pain on the greatest number of participants. If Mr. Market reverts to his usual evil ways, it's the bulls, slumbering a la Pearl Harbor, 6 a.m. 7 December 1941, feeling little need for hedging against any downside, who may hear "tora tora tora."

It's possible that the U.S. economy can keep logging positive statistics even as the global economy spirals into depression. Never mind that gasoline consumption has plummeted or that savings have dropped or that austerity and higher debt service payments insure a deep recession in Europe; and who cares about China's real estate bubble popping? None of that matters here--or so it seems.

Heck, maybe we've entered a new golden era of low volatility; that's possible, too. Everything's fixed, and the U.S. has successfully decoupled from the rest of the global economy.

Based on sentiment and volatility readings, those are the consensus views.Reportedly 16 out of 16 stock market mavens see nothing but rally ahead--and we all know unanimity is astonishingly accurate in predicting stock prices.

The U.S. dollar has traded on a see-saw with equities for years; recently, both equities and the dollar have surged. So either the see-saw has broken or this is the mother of all divergences.

Maybe short interest is at recent lows because it's now painfully obvious that equities have broken out into a new rally and only fools feel the need for hedges against downside.

Commodities such as copper have led the market for years; recently they've rolled over while the stock market surges higher. Once again, either historic correlations have been decisively severed or there is a gargantuan divergence that's about to be resolved.

Sentiment readings are firmly in extreme bullish territory, but hey, maybe the market will reward the majority with a rally that feeds on rising complacency.

And maybe the truism "volume is the weapon of the bull" is also voided, as low volume rallies may well lead to lower-volume rallies.

The market has been acting as if all these signs are bullish. Maybe, maybe not. Meanwhile, the witches are cackling quietly over their bubbling brew, and it certainly sounds like some evil is being conjured up.

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