The last four weeks have been exceptionally bad if you're a bear. The shorts have been squeezed over and over and over again. The NASDAQ composite is up 15% off its July lows. The Dow Industrials are up 15.8%. The S&P 500 is up 16%. The small cap Russell 2000 index is up 20% off its July lows. If you have ever wondered what an overbought market looked like this is it! The combination of short covering and mutual funds that have been under weight the market and chasing performance has produced an incredible move.

The latest catalyst to send bears into hiding was the jobs report on Friday. Last week I warned readers that the bigger risk was the jobs number coming in better than expected. That's exactly what happened. Economists were looking for -320,000 jobs created and the Labor Department said we only lost 247,000 jobs. The official unemployment rate ticked higher from 9.5% to 9.4%. If you have been trading for any serious length of time you have probably heard that some of the most dangerous four words ever are "this time it's different". Consider this... unemployment continued to rise for 15 months after the 1991 recession ended. The jobless rate continued to rise for 19 months after the 2001 recession. Why is this recession/recovery going to be different?

I'm going to speculate on why this recovery might be different. You have probably heard commentators talk about a "V shaped recovery. That's what we'd like to see - a quick rebound back into growth. Then there is the "U" shaped recovery where the economy stops falling but it doesn't improve for a while before eventually bouncing. Some suspect we could have an "L" shaped recovery where the economy flat lines for a significant period of time. I strongly suspect we're going to see a "W" shaped recovery.

I have mentioned before how most recessions see a quarter or two of positive growth before rolling over again. This past recession has been the sharpest and ugliest since the 1930s. A year ago we feared a depression-like slow down. Through massive economic stimulus and loose monetary policy the Federal Reserve and other global banking entities have helped avoid a total collapse. Businesses slashed expenses and workers like there was no tomorrow. Furthermore as consumer spending slowed corporations delayed ordering inventory for fear it would sour on their shelves. Inventories got so low the recession has pushed them down like a coiled spring and the inventory restocking cycle is about to shoot higher again. Unfortunately, I think the rebound is going to run out of gas pretty fast.

Consumer spending remains very weak. The latest GDP showed spending was twice as bad as expected. When you consider that consumer spending is almost 70% of our economy that doesn't bode well. I do think the economy is going to see a bounce in the third and fourth quarter but it will be the peak inside the "W" bottom for the economy. Businesses will be slow to rehire workers. That will keep unemployment relative high. It might improve but it will stay elevated. Concerns over unemployment will keep a lid on consumer's wallets, which will make any recovery weaker than expected. Analysts are already worried about the crucial back-to-school shopping season. We are going to hear from a number of retailers this week, the key report will be Wal-Mart (WMT). Investors will probably ignore the second-quarter results and focus totally on management's guidance for the third and fourth quarters. If WMT or the majority of retailers are bearish it could be the catalyst that sends the market lower.

We do need to go lower. The rally's current pace is unsustainable. As a matter of fact we should welcome a correction, which would be healthy for the market's long-term performance. The longer we put off some sort of pull back the sharper it's going to be when it shows up. I just hope mutual funds let the pull back occur. There are a lot of funds that are under invested and they're chasing performance. They don't want to buy stocks this extended but they're afraid of missing the rally and they only have four and a half months left to catch up and beat their benchmarks. This massive pool of capital on the sidelines is going to put a bottom under the market and probably keep any correction relatively shallow. The question right now is what will be the spark that sends stocks lower?

That spark might be some lackluster comments from the retailers. Or it could be comments from the Federal Reserve. They have a meeting on Tuesday and Wednesday this week. No one really expects them to change interest rates, especially not after the comments out of Europe last week. The president of the European Central Bank, Mr. Trichet, said, "Economic activity over the remainder of this year is likely to remain weak, although the pace of contraction is clearly slowing down." Meanwhile the Bank of England kept rates at a record low of 0.5% and raised their quantitative easing program from 125 billion pounds to 175 billion pounds. Why would they raise it? Because it's not working. They have no fear of inflation right now. The worry is deflation. Japan is already sliding into deflation and Trichet said the euro-zone might see some temporary "negative inflation". With Europe still painting an economic picture of "less bad" the Federal Reserve will probably try to avoid rocking the boat.

Weekly Chart of the S&P 500 index:

Weekly Chart of the NASDAQ index:

Overall I am bullish for the remainder of 2009 but it will probably be a three steps forward two steps back sort of market. We've already seen several steps higher in the last four weeks so we need that shuffle lower. The S&P 500 and the NASDAQ are still flirting with resistance and the internals of the market are suggesting the rally is running out of gas. We need to be patient when it comes to launching new long-term bullish LEAPS positions. I would focus on a dip toward the 955-945 zone on the S&P 500 index as likely support. I encourage readers to continue sending in potential LEAPS candidates.

~ James Brown