Unsustainable

I have said it before and I will say it again. If we continue on our current path, our economic recovery is unsustainable. Solving a debt problem with more debt is not a solution. Transferring bad debt from the private sector (banks and corporations) to the public sector (global governments and ultimately taxpayers), without any consequences for the perpetrators only rewards bad behavior. Fiscal constraint and stimulus for growth are necessary to turn this mess around.

I have had my doubts all along whether or not this has been a real recovery or just an illusion of one, artificially produced by government spending but unable to stand on its own. I hope and wish that I am wrong about all this, but unfortunately I doubt that I will be. There are many, many signs that the economy is slowing again now that much of the stimulus has been withdrawn. To add more stimulus would be adding to the future unpayable debt that our children and grandchildren will eventually have to deal with. Some entities must be allowed to fail and go bankrupt to allow others to remain solvent.

In spite of the impressive new bull market in stocks, investors continued to pull money out of stocks and equity mutual funds all last year. This year many investors started to regain their nerve and added $7.4 billion into equity mutual funds during the 2nd quarter 2010, only to be rewarded with negative returns. Now, the flow has reversed again, this time dramatically, with $11.6 billion pulled out of equity funds in the week ended July 7. (Yet somehow the market went up that week.)

Investor sentiment has whipsawed quickly as well, from overly bearish to neutral in a very short span. This week's AAII Sentiment Survey Results are as follows: Bullish: 39.4%, up 18.4 percentage points and Bearish: 37.8%, down 19.3 percentage points - in a WEEK. Sentiment can change like the wind.

According to the Mortgage Bankers Association mortgage applications index fell again despite the fact that mortgage rates remain at near record low levels. The main focus should be on the new purchase index, which extended its losing streak to nine of the past 10 weeks. This trend that can’t be ignored, it suggests that housing prices will likely continue to decline, and potentially bring the rest of the economy down with it.

The stock market is now in a downtrend that started at the end of April. The most likely target will be in the 875 – 950 range for the S&P 500. At that point we will reevaluate and come up with new targets – higher or lower. There will be some resistance along the way at 1040 and 1010. We are currently positioned to profit should the market continue this trend lower.