Binging on the Stock Market

Welcome to the jungle
We got fun n' games
We got everything you want
Honey, we know the names
We are the people that can find
Whatever you may need
If you got the money, honey
We got your disease
- Guns N Roses

For the 26 ^th and 27 ^th time last week something thrilling happened. No, it wasn't U.S.Men's National Soccer Team's takeover of the top spot in CONCACAF to qualify for the 2010 World Cup, and it wasn't Bank of America CEO Ken Lewis' "generosity" of returning seven figures of compensation. It was the Dow crossing 10,000 - to the upside. So why does bashing this psychological barrier bring about such positive feelings this time around?

To be sure, a stock market that's up 23 percent year-to-date and some 63 percent from the bottom on March 9, 2009 is a welcome sight. But there are many reasons to believe the stock market's newfound mojo is not only justified, but can continue into the near future.

First, it seems clear the economy has hit bottom, so there is nowhere to go but up. The world's most optimistic discounter of future events has always been the stock market and there's no reason to believe that has changed. If there is a fairly quick turnaround in the economy (or even just slightly quicker than the sluggishness built into the markets), then stocks still look quite cheap.

Second, for those who traded out of the risk markets last year and courted shoulder injury patting themselves on the back through the holiday cocktail party season, there have been some tremendous gains recently which could temper this year's attempts at braggadocio among the canap's. Better to get in before All Hallow's Eve to have some (positive) war stories for this year's gatherings.

Third, and most important in my opinion, is simply the tremendous amount of cash sitting on the sidelines, itching to get back to work. In particular, there is about $1.4 trillion in "extra" cash sitting in money market mutual funds earning next to nothing that "should" be invested in the risk markets in the face of rising markets and rising, but now historical, returns. This is akin to the brownie stash I keep in the pantry in the event I hear chocolate may actually be good for me, so I can guiltlessly snag a few before bedtime.

And there are other dieters out there, in the form of tremendous Treasuries and agencies demand, as well as bloated deposit balances. Total cash that has moved to the sidelines has been estimated in the $3 - 3.5 trillion range, and given a total market cap of around $40 - 50 trillion worldwide, there is plenty of dry powder to affect high future returns in the risk markets going forward.

It is for this truly technical reason - large current demand outstripping expected supply - that the stock market could continue to rally solidly through year end, even as the economy putters along looking for a foothold. Don't be surprised if we see the Dow at 12,000 by year end, yet continue to find little reason to be excited about overall economic prospects.

Not only must stock prices reflect a discounted view of the future, but the must reflect today's picture of supply vs. demand.

Key Developments
Retail sales in September declined by 1.5 percent, significantly less than the 2.1 percent expected by economists. But the difference was mostly made up in prior month revisions. The recent volatility in this series reflects the "Cash for Clunkers" program which seems to have adjusted sales forward with little net effect on the quantity of sales.

Initial jobless claims continue their gradual slope downward with 514,000 filings, the lowest since the first week of this year. The continuation of this trend is most welcome; however, job growth will need to take center stage before a recovery can take hold.

The Empire State Manufacturing Survey nearly doubled to 34.6 from 18.9 in September, blowing away expectations. This was the highest reading in more than five years as manufacturers are painting a rosier picture of the future, though the Philadelphia area index did not come in as positive.