A Dreadful 'What If' Could Turn the Bear Savage

Did you fade the Dow’s 1100-point rally on Tuesday, or the nearly 500-point follow-through the next day like I told you to? I’d written here a few weeks ago that shorting into strength these days offers the best odds bears have gotten in decades. Stocks had spent four months building an obvious top, and finally, there it was, a precipitously weakening market staring us down as the U.S. joined Israel in a war against Iran. Usually Wall Street loves nightly footage of an enemy's buildings getting blown to smithereens by F-35s. The fighter jets cost $100 million apiece, and maintenance and operational costs can add another $300 million to that. But this war has another cost, and it's not the 'good' kind: a huge leap in the price of crude oil and natural gas. Investors go to sleep every night praying something will happen soon to ease the situation. It has pushed gas prices as high as $6 a gallon in California and is threatening to send already steep increases in the price of everything else out of control.

The graph says wall Street ought not get its hopes too high for quick relief, since crude looks like it could rise to the sky before quotes settle back to a more normal $70 or so. How will Wall Street react if prices reach the $125-a-barrel target in the graph, or maybe even higher? Actually, buyers have shown unmistakable signs of mental illness, but with a seemingly benign twist. Before Tuesday, the broad averages had lurched both ways on a hair trigger, moving inversely with every blip up or down in crude. But on Tuesday they did something so bizarre that no one could have predicted it. With oil up a few dollars, stocks went bonkers, uncorking an 1100-point rally in the Dow. More of this nutty behavior surfaced again on Thursday, which started with oil prices up a whopping 14% overnight. Instead of cowering in fear, however, the S&Ps exploded into a nearly 100-point rally. Crazy, right?  Trouble is, the rally came off a deeply oversold low that DaBoyz had engineered ahead of the opening bell. The resulting short squeeze put the S&Ps merely even on the day – still an absurdity considering the dire news from the energy patch.
 

As Good as It Gets?

That may have been as good as it gets, and our advice is to keep treating ever rally like the bear trickery it is.  One question looms that could have an even bigger negative impact on stocks than rising energy prices: Suppose Republicans lose big in November? Even if the GOP is able to hold onto the Senate, the first order of business for a House controlled by the Democrats would be to impeach Trump.  He could actually be convicted, possibly with some Republican votes, if the Senate flips to the Democrats. Meanwhile, if stocks continue lower as I expect, and the decline steepens as the election draws closer, you'll know that the absolutely unthinkable -- vengeful Democrats regaining control of Washington -- is about to happen. Investors seem not to be paying much attention to this possibility, but it is hardly a longshot, given the tidal shift in the polls of independent voters who evidently have had enough of Trump. When Wall Street wakes up to the implication of this, probably within the next 2-3 weeks, the stock market's balky feints lower could turn overnight into an avalanche.