Tuesday, May 06, 2008

Why The Stock Market Sucker Rally Will End

Bloomberg News has an unusually bearish article about the U.S. stock market where it is pointed out that the recent rally is most likely a sucker rally. The article points out that based on trailing earnings, which is to say actual earnings, stocks are historically very expensive. Current prices seem to be based on completely unrealistic expectations about future earnings growth. For example, profits in the fourth quarter of this year are expected to rise 51.1 %(!). While analysts have historically tended to be systematically over-optimistic and while this estimate largely reflects the depressed level of profits in Q4 2007, this forecast is simply absurd.

The current rally is thus based on wishful thinking and will soon end, just like previous sucker rallies since the bear market began in October last year. That also means that assets negatively correlated with stocks, such as gold, bonds, the Swiss franc and the yen will rise.


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