As I tried to figure out what type of year would frustrate the most, it hit me that a big market q1 rally, led by the large cap defensive stocks, and hi p/e but high revenue growth names would generate the most frustration/pain. That would create a chase the rally mentality, but at the same time generate underperformance for the average stock, and pure risk-on names. Ouch.
Check out the Bradley chart. This Bradley model is a bit nutty, being astronomically derived, but it has had cycles for a couple of years where its been uncanny. In 2012, it generally follows the normal seasonal pattern, with a rally into spring then a bear market from March. I can see this being the template for the year, as the Euro debt/banking/refunding crisis is probably a Q2-3 event and any economic impact from their recession and BRIC slowdown would be H2 event. I am keeping eye on it.
Fundamentally, it feels a lot like 2011 was 2007, where big problems led to lots of churn and a flattish year. But, because the shit didn’t hit the fan, many thought we had dodged a bullet. I have thought 2012 had the potential to be close to 2008, with the banking crisis in Europe and China real estate bubble collapse as catalysts. Like 2007, banks, housing, auto and other consumer durables presaged the US downturn last year. Also, like 2007, we had the positive rotation into large cap, defensive stocks into favor. I had to run a dedicated low p/e hedge fund and my low p/e candidates were cyclicals, financials, and energy. I had no ability to buy Procter or McDonalds, or Coke. New 52 week high defensive stocks are not in my model, thought they were the best place to hide. The only difference in 2007 was that the BRIC exposed cyclicals traded well thru June of 2008, unlike now. Now they are suffering from the BRIC slowdown, which investors see and will bet on accelerating if the US follows Europe economically.
So, I am thinking we could get a shot at a good open to 2012 like 2008, only to have it disappoint many investors. As they attempt to reposition portfolios with the correct names and add net long exposure, they will pile on to the rally. The last leg of it may be more concentrated in the same stocks investors ignored just last year, the large cap global franchise names. Then, when everyone gets comfortable with a market led by high quality names at still reasonable, but hardly cheap valuations, shares become vulnerable to fundamental disappointments.
Investor sentiment, as measured by Investor Intelligence has become modestly positive in this rally. Another leg up would generate enough enthusiasm to create a sell signal in this indicator. So, if a Q1 rally would happen, we could have the market up, but with technical divergences, stocks hardly inexpensive, economic and corporate revenue/earnings growth slowing or turning negative and investor sentiment turning bullish at the top. And all of this would occur when it was supposed to seasonally.
I Had really hoped that the 15 week cycle would give us another decent long entry point in the middle of January. And that could still happen. That would position us for a chance at a more diversified rally into spring. But I would not be surprised to see a decent start to Q1.
However, I am sticking with my forecast that high for year is in winter-early spring. And that year is negative. Any material strength into Q1 should be used to reposition portfolios into a more defensive manner. None of the structural imbalances causing market stress have been resolved, and the bankers wont print more unless to rescue markets/economy. A 7-12% up move should be sold.
Robert Marcin
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