Be Wary of Melt-Up Chatter

 | Oct 02, 2012 | 7:56 AM EDT
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The whole problem with the world is that fools and fanatics are always so certain of themselves, but wiser men so full of doubts. -- Bertrand Russell

Despite the fact that the market has been sputtering for a couple weeks now there appears to be a high level of complacency among market players. There is plenty of chatter about a rally into the end of the year and issues like the fiscal cliff and increased inflationary pressures are being mostly ignored. The big positive right now is that Spain is in such bad shape that it will finally relent and ask for a bailout. Ever since the lows in 2009 it hasn't paid to worry very much, so why do so now?

It is understandable that the bulls remain unconcerned about overall market health. Bad news has been consistently ignored for ages and the central banks are obviously creating huge amounts of liquidity. It certainly hasn't paid to fight the bankers, but after they bail out Spain you have to wonder what else they can possible do since quantitative easing is now limitless. 

I've been adopting a more bearish posture lately, not because of negative news flow, but because of the price action in individual stocks. There are some key names like Google (GOOG) and IBM (IBM) that are acting well enough to bolster the indices, but there are more and more individual stocks like Apple (AAPL) and Chipotle (CMG) that are acting poorly. In the small-cap sector there has been a distinct loss of momentum lately and speculative interest that drove groups like biotechnology and home builders has dried up.

Having any doubts about this market has proved to be a losing stance for quite a long time. Again and again we have quickly turned back up after a brief bout of weakness, but the big difference this time is that both the ECB and the Fed have already announced their well-anticipated bond buying programs and there is nothing else of any magnitude that is likely to occur soon.

I'm particularly concerned that the recent weak action is in part due to anticipation that third-quarter earnings will be weak. We all know that the European economy has been very poor and the likelihood is that we are going to hear how it has impacted some companies.

If there was a high level of negativity I would probably be less concerned about the market action, but listening to chatter about a market melt up on CNBC yesterday made me recall how Barton Biggs predicted a market melt up on Halloween in 2007.

Keep in mind that a cautious stance doesn't preclude the possibility of some upside action. In fact, it is strength during the topping process that ultimately causes the most damage. It is when folks breathe a sigh of relief and forget their worries and concerns when we bounce that creates poor positioning when we roll over again.

At this point, I'm simply not going to trust the upside in this market very much. It is possible I'll be forced to reconsider if we have some sustained strength but the intraday reversal yesterday and the quick reversal of last Thursday's bounce are negative indications. We have been closing weak and we aren't seeing follow through lately. While the indices are still in pretty good shape the underlying action is of concern.

We have some upbeat action in the early going, but that hasn't tended to last lately. Stay wary and don't be too trusting.

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