Is the market rally breaking down?

Related topics: stocks, gold, investing strategy, shorting, Bill Fleckenstein

It is a sad fact that markets tend to gain ground gradually but give it up suddenly. Thus, when one suspects a downturn may be in the offing, it pays to be alert, although tops do take quite some time to build. Shifts in volume or buying patterns, sentiment and numerous other factors, combined with price action, can sometimes clue you in to what may be ahead.

That is why I paid attention to the curious way in which the market traded over a recent two-day period. During the money-printing-inspired rally the market has experienced since early 2009, the bulk of the gains have come on Mondays (e.g., Feb. 28), and the first day of the month (e.g., March 1). I noted in particular that a number of high-flier/momentum stocks were slightly weak over those two days.

Operators are standing by

One would have expected traders who had reverse-engineered the last two years to be inclined to buy on those days. Thus, seeing some of the more speculative stocks weak on a day when some of their biggest fans could be expected to buy might be potentially useful information. Whether that is an indication of a change in trend, I don't know, but it was a break from the pattern -- which may be a clue to a trend change.

We have to remember that if the stock market is going to peak and begin to decline in 2011, the deterioration will start well before the market averages make their ultimate top. Nevertheless, I am in no hurry to sell stocks short in any sizable way (though I have tested the waters on the short side on a small scale). I remain on the lookout for hints regarding a potential resumption of the bear market as Wall Street wrestles with discounting the end of the Federal Reserve's most recent round of monetary stimulus (aka "QE2").

(Of course, if stocks get weak enough, people will then start to get excited about the possibility of QE3, but that is getting too far ahead of ourselves.)

The new normal?

If you have been reading this column regularly so far this year, it should be clear that I expect 2011 to be dicey for stocks, as our money-printing, inflation and worthless-currency woes come home to roost.

My strategies to protect myself relate to what I think will benefit in such an environment -- namely gold and related investments, such as mining and mining services. (Eventually, short selling will be required as well.) However, a friend recently pointed out that the macro environment also provides some additional reasons why investors might want to own gold. He summed the situation up as follows:

1. The planet is engaged in a war, religiously inspired
2. Pirates are on the high seas, mostly unimpeded
3. Communist dictators are engineering a rapidly growing capitalist economy
4. The Fed is printing $600 billion to buy $600 billion of our own debt and
5. All of the Arab world is in play.

He closed with the statement: "I see the wisdom of the old economic platitude, 'If you forecast, forecast often.'" To which I would add, given the above, anyone who has a strong opinion of precisely how geopolitical events will play out does not really understand the situation.

Tim Geithner, for one, is not worried. During a Bloomberg-sponsored breakfast in Washington, D.C., in late February, the Treasury secretary noted that the "economy is in a much stronger position" to handle higher oil prices. Of course, he is also unfortunately delusional, as demonstrated when he opined: "The core of the U.S. financial system is in a much stronger position than it was before the crisis. We are way ahead of any other major economy." (emphasis added)

That is just not true. In addition, not much has been fixed since the banking system was bailed out in 2008-2009, and the (lagged) downside of money printing is now rearing its head, just as QE2 ends. Some very rough days lie ahead, after a nearly two-year respite.

At the time of publication, Bill Fleckenstein owned gold.

This column is a synopsis of Bill Fleckenstein's daily column on his website, FleckensteinCapital.com, which he's been writing on the Internet since 1996. Click here to find Fleckenstein's most recent articles.