The Rally is Moving into the Most Speculative Areas

Submitted by Mark Hanna

Courtesy of MarketMontage. View original post here.

Long time readers from 2008, 2009, 2010 will remember how I usually saw rallies play out – it would start with leadership stocks, move into “solid” stocks, and eventually get down to the most speculative of stocks.  When the latter happened it was time to prepare to batten down the hatches.   That didn’t necessarily mean a huge correction (see 2009) but it meant the move was generally tired.   Usually we could see that represented by Chinese small cap stocks, solar stocks, and dry bulk shippers – the latter have been the 2 worst sectors I can think of since 2009 (never recovered), while Chinese small caps have been under a heavy cloud as quite a few scams have been exposed (especially those that listed as reverse mergers).   Of course the most beaten down stocks (earning misses, warnings, etc) would also run at this point in the rally along with the merchandise mentioned above.

Guess what is moving today?  Solar (off an analyst note), Chinese small caps, and the most beaten down (see Sears).   All we are missing is some dry bulk shipping  action.  The only “good” sector I see joining the move are the homebuilders – which have been hot since October – off of Lennar’s earnings.  Not all of these are “bad” companies – some have just been left behind and finally are getting attention, but by and large it’s a move of stocks with many warts.

At this point we’ve run through every major sector during this 3+ week rally, and the speculator class is picking through “garbage” after running up the leadership stocks in late 2011 and then moving onto “solid” stocks last week.  2012 has been especially kind to beaten down stocks of latter 2011 – it has been quite breathtaking  actually to see so many crushed stocks (and charts) go off for 10-20%+ type of rallies – punching through multiple resistance areas as if they don’t exist.

This move to ‘junk’ doesn’t mean the move ends tomorrow but we’re getting long in the tooth here.  The market has essentially not had a down day in 2012, and only 1 material down day (of >0.5%) since Dec 19th.  This as we approach a test of fall 2011 highs.   Perhaps we are in a 2009 or “QE2″ (David Tepper “we can’t lose”) moment due to the ECB’s LTRO (“backdoor liquidity”) – we won’t know until much later as we look back.  Stocks like Caterpillar (CAT) and Home Depot (HD) were up 8 sessions in a row coming into today as “all is well in the world “…. again. Those previous episodes were moves that lasted far longer than anyone anticipated without any serious pullback at all.  But generally speaking even within more normal bull moves you want to see a pause that refreshes: 2-4% down.   Perhaps we need to punch through those October 2011 highs to create a “buying panic” …. or we’ve already seen the highs of this particular move …but it is definitely getting speculative out there.

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Any securities mentioned on this page are not held by the author in his personal portfolio. Securities mentioned may or may not be held by the author in the mutual fund he manages, the Paladin Long Short Fund (PALFX). For a list of the aforementioned fund's holdings at the end of the prior quarter, visit the Paladin Funds website at http://www.paladinfunds.com/holdings/blog