Is the Rally True? Does It Matter?

Stocks look poised to continue moving higher. Our leading indicator for investor expectations, oil prices, is up over $70 a barrel.
Despite the still-compelling argument that the economy is staging a tepid recovery that will take years to gather steam, and even though many feel that housing prices and unemployment have not yet bottomed, stock prices are clearly showing that investors believe that the financial crisis is past. 
Of course, that’s the exact opposite of what Deutsche Bank CEO Josef Ackerman told us Friday. But why fight the trend? 
*****I’ve been looking for a quote from George Soros to share with you, but so far our great search engines Google and Bing have let me down. I’ll have to paraphrase, and I’ll try not to misrepresent his thoughts. On getting rich in the stock market Soros once said the key is to ride the trend based on false assumptions, and then get out before everyone else realizes it’s false. 
At first, it sounds silly. How could every trend be based on false assumptions? Surely there must be a solid reason for stock prices move higher, right? 
Sure, there’s always a good reason for stock prices to move higher when they do. The Internet increased productivity and opened the door for many new and innovative business models. 
And the emergence of commodity demand from China coupled with robust consumer demand from Americans drove many assets to all-time highs. 
*****But in each case, even though the rallies started on firm footing, they were eventually proved false. The Internet led to a massive misallocation of capital as even the most absurd business model scribbled on a cocktail napkin received start-up money and an IPO. And analysts perpetuated the cycle with fraudulent numbers based on unrealistic assumptions. You’ll even recall so many of the "new economy" entrepreneurs claiming that the old rules no longer applied. They did, and in a big way.     
The American consumer demand that supported China’s commodity demand was based on unsustainable rising housing values and refinance cash. And of course, Wall Street fraud again made the situation worse. 
Investors, from individuals to Wall Street bankers, seem to always take things too far. And while it may not be possible to see in advance the exact moment when investors realize they’ve been duped, it’s a good idea to understand the assumptions that may eventually be proved false. 
Of course, it can take a long time. Greenspan’s now famous "irrational exuberance" warning came two years before the Internet bubble popped. And the warnings that housing was a bubble likewise went unheeded for years. 
*****It seems there’s a fair amount of potentially false assumptions driving stocks higher. But we can’t know in advance when, and from what level, stock prices may reverse. 
We can, however, say confidently that government stimulus is supporting stock prices. And given the essentially endless supply of money that can be thrown into the economy, fighting this uptrend is an uphill battle. 
*****Bloomberg reports that Lone Star is in the process of raising $20 billion for a distressed real estate fund. They see value out there in both actual real estate and mortgage backed securities. 
This exactly the type of news that the bulls want to see. Asset prices have dropped, but the only way to know if they’ve dropped far enough is when buyers step in. 
Of course, Lone Star could be wrong…just sayin’.  
*****Last week, it was reported that Warren Buffett has a $1 billion paper profit on his investment in Chinese electric car battery company BYD (BYDDF.PK)
At SmallCapInvestor Pro, we’ve bought into a Chinese battery company too. This one makes batteries for cell phones, not cars. But it fits our thesis of buying Chinese stocks that have ridiculously low valuations. 
You’ll find this stock in the latest SmallCapInvestor Pro Special Report called Going for Growth: 3 Top Chinese Stocks to Buy NOW. Click here to get your copy
*****The Managed America web video conference is coming up next Monday, August 10 at 6:00 P.M. It’s free to attend and you can register right now. Click here to register for this free online event.
 *****Finally, let’s have a look ahead at the economic data for this week: 
08/04/2009: Pending Homes Sales numbers
08/05/2009: Challenger Jobs Report
08/05/2009: Factory Orders
08/05/2009: ISM Non-manufacturing Index
08/05/2009: weekly oil inventory report
08/06/2009: Chain Store Sales
08/06/2009: New Jobless Claims. 

Best Regards,

Ian Wyatt
Daily Profit

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