Is this a correction or the start of the bear market?

I have a number of comments which raised the question whether this is just a severe correction within an uptrend or a reversal of an uptrend. I have looked at this pretty much from the technical perspective. This is not to say that the fundamental picture is all rosy. On the contrary, the fundamental picture is very confusing & full of contradictions. There is no denying the enormous problems facing the global economy- from an economically & financially weak developed countries (U.S. & Europe) to overheating in emerging economies (with possible hard landing) to political chaos in MENA (now spreading to Europe) to a series of one-off natural disaster & weather-induced havoc.

All of these sapped consumers' confidence and at some point, they will begin to tighten up their purse stings. If the final demand is not growing, corporations would not invest further. The slowdown in the private sector will leave a gap in economy which must be filled up, otherwise there will be a contraction and increased unemployment.

Traditionally, this would be the time for the government to step in. But, many countries are having high fiscal deficit and are unable to increase their fiscal spending. Instead, some are beginning to engage in austerity program in a time of weakening economic growth. This is madness in the same order that produced the Japanese malaise for the past 20 years. In my opinion, the proper thing to do is to raise tax for the top end & continue with the government investment programs and social protection program (such unemployment benefits).

To see thru the fog, I would suggest that you use charts- not just for the stock markets but also for commodities. For example, in any economic slowdown we will see a drop-off in the demand for crude oil. This would lead to a drop in the price of crude oil. The same applies for commodities in general. BDI used to be a good indicator but unfortunately it is totally useless now due to the glut in the shipping market.

From the WTIC & CRB charts below, we can see a sharp drop-off. In fact, WTIC has broken its uptrend line in June and failed to cross above it in July. CRB is still above the uptrend line (probably due to inaccurate data for February 2009). John Hussman wrote a good piece entitled Recession Warning which you should read. If this warning panned out, I see a drop in earning and share prices.

Based on all the above, I believe that there is a good chance that the stock market has peaked. It is not a sure thing. Nothing is sure, except death and taxes. So, if you still like some of your fundamentally good stocks which have not doubled or tripled in price over the past two years, you may hold on to them. If they have gone up 200-300% and they have broken their uptrend line or gone below the 200-day SMA line, you should at least reduce your position in these stocks.


Chart 1: WTIC's daily chart as at August 9, 2011 (Source: Stockcharts)


Chart 2: CRB's daily chart as at August 9, 2011 (Source: Stockcharts)