Image: Bull figurine on ascending line graph and list of share prices © Adam Gault, OJO Images, Getty Images

1,465.77.

If you're trying to figure out where stocks are headed from here -- and who with money in the U.S. stock market isn't? -- you have to start with that number, the Friday, Sept. 14, close for the Standard & Poor's 500 Stock Index ($INX).

The number won't tell you where stocks will be in a week or a month or by the end of the year. But it does tell you how to think about the odds of the market moving higher from here or falling back.

Here's why 1,465.77 is important.

On June 1, 2012, the S&P 500 closed at 1,278.04, the low for the year. If the index was near that level now, I would be willing to bet dollars to doughnuts that U.S. stocks would keep climbing.

On the other hand, even though the index is at highs not seen since the end of 2007, a correction isn't a lock. U.S. stocks have built up considerable momentum. Thanks to a falling dollar (thanks to the Federal Reserve's announcement of a new round of quantitative easing), commodities have broken a downward trend that goes back to May 2011. The S&P 500, the Dow Jones Industrial Average ($INDU) and the Nasdaq Composite Index ($COMPX) have all broken above resistance on rising volume. The rising volume part of this is important -- it says that investors are buying more stocks, even as prices rise. That's good news for any rally.

To simplify the situation radically, in the short term, the course of the U.S. market will be determined by what investors and traders decide is the best way to make money for the rest of 2012.

image: Jim Jubak

Jim Jubak

Place your bets

Some traders and investors will decide that going short on a bet that U.S. stocks will fall from current high levels is the best move. For a lot of traders -- and hedge-fund managers -- that would be a continuation of a bet that hasn't paid off terribly well this year. You could say these traders are doubling down on that strategy, hoping that it will pay off in the remainder of 2012.

And some traders will decide to ride the momentum. If they're behind the indexes, they'll be tempted to go riskier in an effort to make up ground by buying stocks with higher betas -- greater risk, with a chance for greater return -- than the market as a whole. If they're ahead or even with the indexes, they'll decide to keep on doing what has worked so well over the past few months and buy stocks that bet on the U.S. housing recovery, that will rise along with commodity prices if the dollar continues to fall, or that will profit if the fall and holiday retail season turns out to be as strong as is now projected.

The winning strategy for the rest of 2012 will depend on which of these two alternatives attracts more money.

And that, in turn, will depend on traders' reading of indicators and events over the next few weeks. In December, I'll bet we'll see lots of gurus intimating that the winning trend was inevitable or certain earlier in the quarter. But that simply won't be true. The current market can turn either way -- which makes it a tricky and risky market. And the way it turns will depend on a news flow that can't be predicted right now.

I think that the news flow over the next few weeks will seem positive enough to reinforce the market's current upward momentum. But that doesn't make the continuation of the rally a sure thing. At the moment, it looks as if the best chance of making money lies in going with the momentum. But I wouldn't pile on the risk in the U.S. part of my portfolio. Long U.S. stocks, yes. Aggressively long U.S. stocks, no.

Walk on the mild side

Here's why I come out on that side of the U.S. market.

  • Growth in the U.S. stands a good chance of coming in above very low expectations. In the past week or so, better-than-expected numbers on inventory levels, retail sales, auto sales and home sales have led to very modest increases in growth projections from Wall Street economists. Granted, the projections are extremely modest -- expectations that growth in the third quarter would match the 1.7% annualized growth in the second quarter have yielded to projections of 1.8%, 1.9% or maybe even 2%. But Wall Street is perfectly capable of talking itself into a belief, especially after the Fed's announcement of QE3, that the economy's growth rate is picking up significantly.
  • Despite all the long-term, unsolved problems that still beset the eurozone, the news flow there is likely to remain dominated by stories about falling bond yields in Italy and Spain, and progress toward getting the eurozone's permanent bailout fund, the European Stability Mechanism, into operation in the coming weeks. Eurozone leaders are about to deliver something that they're really good at -- a series of summits -- in October and November. That should keep alive the idea of progress toward a solution.
  • A stronger euro on that belief in eurozone progress means a weaker dollar, which means higher commodity prices. And higher commodity prices will push up commodity stocks, which will give U.S. markets the upward leadership from oil, base metals (iron ore and copper) and gold that they need.
  • It looks as if Brazil and China, the big two among developing economies, could finish the year strongly. In Brazil, the government has cut its growth forecast for 2012, while at the same time projecting higher growth in the third and fourth quarters. (That seeming contradiction is actually a reflection of extremely weak growth in the first two quarters that has lowered likely growth for the year but left room for a second-half performance that outshines the first half.) In China, government economists have just reported that growth would pick up in the third and fourth quarters from the 7.6% growth rate in the second quarter. That would push China's growth rate for 2012 to 7.7% to 7.8%, above the government's goal of 7.5% growth. Again, those numbers aren't especially strong -- for China -- but they would represent a clear bottom in China's growth above the level that many economists had feared. In other words, no hard landing for China.

If the market receives news like this, it's enough -- when added to the stimulus from the Federal Reserve and the stabilization package announced by the European Central Bank -- to keep this rally going into December.

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