When the market rally comes to an end, Washington and Wall Street will convince the herd why it ended – no matter how twisted or strange.

One of the more peculiar pastimes for technical analysts is “excuse hunting.” We already have a pretty good idea as to what’s coming down the pike (or at least, we’d like to think we do). So, day after day, we wait and watch for what excuse the herd will pick this time to do what it is already slated to do.

For instance, right now, my charts are telling me that the stock market is headed into the final leg of an up-cycle.

There Is No Feud

At this point I should make something very, very clear. Neither I nor my fellow columnist Justice Litle thinks highly of the current market rally.

If there is any daylight between Justice and me, it is only that I believe we have an ever-so-slightly playable portion of that up-cycle left (provided traders are observant, nimble and cynical enough to be willing to hand off to a greater fool at the end), while Justice believes that this segment of the market rally is so untrustworthy, he recommends stepping away sooner rather than later.

That’s it! No feud. No tiff. No wide variation in worldviews. Just a question of mid-term timing that will answer itself soon enough.

Justice knows it will end for macro reasons. I know it will end for chart reasons. But what excuse will the herd latch onto this time, when it all goes to hell in a handbasket?

That excuse is actually starting to appear in the back of folks’ minds, albeit in a twisted way.

The Excuse du Jour

In my daily perusal of the wire feeds, I note several key memes that offer clues as to what’s coming. The first is Washington’s latest correction of the second quarter’s GDP loss. It appears that they are unwilling to wait out the recession’s end (natural or otherwise), so they are simply rounding it out of existence. The original figure was a 1% loss. Now they are touting the fact that it was “merely -0.7%.”

“But wait, there’s more!” to crib Ron Popeil’s famous tag line. That 0.7% loss is even better than we think, because most every honest economist was calling for -1.2%!

Add this little rounding error to Ben Bernanke and Tim Geithner’s hints that maybe – just maybe – the recession is actually over and no one has noticed, and you have a good handle on the drek we are being fed these days.

What’s the next best thing to actually saving the economy? Claiming you already did!

Starved for the Truth

There is, of course, a catch to this sort of puffery. Let’s stop and think about what they are claiming has happened. An actual increase in GDP would imply that American companies are doing more business now than they have been. American companies might even be expected to have made profits.

While Washington would dearly love for you to believe this, it is not what has actually happened. At best, we have simply slowed the rate at which we are losing money.

Maybe.

Or maybe not.

The Real Crux

When you look to sources of info beyond Washington’s smoke factory, such as HR service giant ADP’s employment report, you learn that American businesses substantially fired more workers – some 254,000 – than the 167,000 lost jobs we were told to expect.

Here’s the real crux of the issue. We know for a fact that American businesses have not done well at all in 2009. And yet their stock prices continue to rally as if they had. At this late date, most investors have conceded that they have been snookered, rooked, bamboozled.

In a study released on Sept. 29 by Thomson Reuters and Standard & Poor’s, their brain trust expects third quarter profits to come in some 24% below the same quarter in 2008. Now keep in mind that in the third quarter of 2008, we were already mired in recession.

Why on Earth Would Anyone Buy This?

This begs the question: why on Earth is anyone buying American companies if they are expected to do this poorly? Because Washington and Wall Street have somehow convinced the herd that 2010 will be better – a heck of a lot better.

These guys want you to believe that in 2010 corporate profits will grow 26.2% year over year. Somewhat optimistic, considering our complete lack of growth right now, but hey, they’ve got a year to either pull it off, claim they did, or just make you forget they ever said it in the first place.

But here’s where it really gets crazy, where they are pumping up expectations beyond belief or sanity, and how Wall Street will probably get crushed in the end. For the last quarter of 2009, they claim profits will climb 193.6% compared to the same quarter of 2008.

Yeah, I spit coffee out my nose too when I read that.

But wait, it gets even better. In terms of individual sectors, they claim that Energy, the Financials, Healthcare and the Industrials will all keep on losing money at the usual rate. But consumer stocks’ profits will rise 96% and Materials will pick up some 200%.

Pent-Up Demand? I Don’t Think So

The theory here? Pent-up demand. All those folks who have been living without new cars and automated tie racks for the duration of the recession are about to storm every Walmart and Target looking for a boatload of stuff.

Maybe the recession is over (although I have my doubts). Maybe we will see a modest flat trend for a while instead of the awful losses we have seen month after month. And maybe we have been so low, that flat will look like up to a lot of folks.

But I think we know what the excuse will be some eight to 12 weeks from now. When the awesome disappointment of not racking up nearly 200% gains in profits comes home to roost, when folks realize that the stocks they are holding have some pretty damn awful valuations, when it occurs to them that they were sold a bill of goods, and that those valuations won’t be changing anytime soon, I believe we will see a pretty massive rush for the exits.

Yours truly,

Adam

PS: I am cracking open a new book with a rather appropriate title. It’s Carmen Reinhart and Kenneth Rogoff’s This Time Is Different. It purports to gather up eight centuries of financial idiocy into one tidy little social theory. I’ll let you know if there is anything new in it that Mackay didn’t cover just as well back in 1841 with his Extraordinary Popular Delusions.

Other Related Topics: Editor Adam Lass , Market Analysis , Recession , Technical Analysis , WaveStrength Options Weekly

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