The Real Reason the Market Keeps Rising No way to justify the strength of the U.S. markets aside from Fed policy

What the Markets Are Saying

It was a bit like U.S. investors fiddled while Cairo burned. The lack of interest on the part of the investment media to the goings-on in Cairo was astounding, as was the market’s lack of reaction to the events that now engulf much of the Middle East.

The Muslim Brotherhood threatened to close the Suez Canal, and a new series of uprisings were reported in the United Arab Emirates, but despite all of that, oil prices fell. Even the traditional hedge against war and uncertainty — gold — failed to respond, and the dollar rallied.

But it all makes sense in a world where the Federal Reserve has taken charge of the money supply. On Wednesday afternoon, I attended an investment conference sponsored by one of the country’s most successful money managers. He began by reminding the group that the most important thing to acknowledge about today’s market is expressed in the Wall Street truism, “Don’t fight the Fed.” Investors who acknowledge the direction of the Fed make money, and those who “fight the Fed” lose money. Let’s keep that in mind as we review this week’s indicators.

The sentiment indicators again showed an overbought market with the AAII reporting that last week, the bulls increased by 9.5% as the proportion of individual investors who expect stock prices to rise over the next six months rose to 51.5%. Bullish sentiment (a contra-indicator) has now been above its historical average of 39% for 22 consecutive months — the second longest streak in the survey’s history.

And Investors Intelligence (II) reported that bullish advisor sentiment fell to 52.7% from 55.1% the prior week. In mid-December, the bulls were 58.8%. Since this survey is also a contra-indicator, it would seem that this was a better sign for the markets. II went on to say that the difference between the bulls and bears, at 30.7%, is close to being out of the status of a “high bearish reading.”

As for our internal indicators, all are overbought with the exception of the Relative Strength Index (RSI). RSI has fallen from “extremely overbought” to just “overbought” in only one week, the result of the market’s reducing upside momentum.

Now, getting back to the Fed. There is just no way to justify the strength of the U.S. markets aside from Fed policy. Yesterday, Chairman Ben Bernanke said that with high unemployment and little inflation in sight, the Fed will keep supporting the economy. And so, despite our other indicators, the “Fed Indicator” is for more stimulus. Rates won’t be going up anytime soon, and the probabilities are high that the stock market will continue to rise.

The chairman also denied that Fed policy was contributing to commodity inflation, but didn’t elaborate on why futures markets around the globe are hitting new highs.