Praise To The Central Banks As Two Years Of Fears Have Disappeared (SPY, VGK, EWC, IEV, EWJ, EWI, EWP)

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February 18, 2012 2:54pm NYSE:EWC NYSE:EWI

Sy Harding:  Kudos to central banks.  The eurozone debt crisis produced two years of fears that it would result in financial collapse and a severe recession in Europe (NYSEArca:VGK) that would spread

to the rest of the

But in November the central banks of Canada (NYSEArca:EWC), England, Japan (NYSEArca:EWJ),  Europe (NYSEArca:IEV), the U.S., and Switzerland, took coordinated actions to provide liquidity support to the global financial system.

In December, the European Central Bank finally succumbed to pressure and launched a program providing substantial additional liquidity to European banks by making unlimited, low interest-rate, three-year loans available to banks.

As a result, while questions remain about the bailout of  Greece, and a potential recession in Europe, fears of a total collapse of the 17-nation eurozone financial system have gone away.

In the U.S., massive government bailouts and record deficit spending prevented the bursting of the housing bubble and resulting 2008  financial crisis from dropping the economy into Great Depression II. The severe recession ended in June, 2009, and an anemic recovery has been underway since.

When the recovery stumbled in the summer of 2010, the central bank of the U.S., the Federal Reserve, rode to the rescue with its QE2 stimulus program, putting the recovery back on track.

When it stumbled again last summer, the Fed rode in again with another bond-buying rescue effort, ‘Operation Twist’, and the economy found its footing again, this time with the increasing strength of the recovery over  the last four or five months surprising economists.

So again, kudos to central banks.

Investors should be particularly thankful. Unemployment  remains high, and home-owners continue to struggle with the double-digit  declines in home prices. But the stock market, as measured by the S&P 500 Index (NYSEArca:SPY), is up  exactly 100% since its March, 2009 bottom, and up 24% just since its  intermediate-term low in October.

It has primarily been institutional investors, corporate  insiders, and other professionals that have benefited from the three-year bull market, while individual investors have remained bearish and pessimistic, and still pulling money out of stock mutual funds, in favor of cash and bonds.

However, even usually astute hedge funds experienced losses and their worst performances in years in 2010 and 2011, disbelieving the economic recovery and the market’s strength and betting against them. Many  famous names gave up altogether and closed their funds.

Much is now being said about the fact that individual  investors are finally becoming bullish and optimistic, perhaps too much so given that usually savvy corporate insiders are now selling heavily and the market is  short-term overbought.

And as I said in last week’s column the high level of investor bullishness and insider selling, as well as a few other short-term conditions, has the market at risk of  a correction, but probably only a short-term correction.

Where are the catalysts for something worse?

The U.S. economic reports this week continued to surprise on  the upside, and even if the recovery were to stumble again the reversal would show up slowly in the monthly reports, first a softening of the numbers, before  they would turn negative.

And the Fed still has the market’s back, Fed Chairman Bernanke saying as recently as last week that the Fed stands ready to provide  more stimulus if the economy requires it, as long as doing so does not risk  creating inflation. And this week’s PPI and CPI reports showed inflation remains benign.

Thus the risk of a short-term market correction, perhaps tradable, due to the overbought condition, but then a recovery to higher highs  by the end of the market’s traditional favorable season in April or May.

However, after a five-month intermediate-term rally to an  overbought condition, it is a time to be alert for changes.

A substantial correction is likely again this year in the  market’s unfavorable season.

The catalyst for such a market decline is liable to come out of Europe again, perhaps from an actual debt default by Greece, or a worsening  spread of the crisis to Italy (NYSEArca:EWI) or Spain (NYSEArca:EWP). But more likely, by then it’s liable to  be clear that Europe has slid into another recession, perhaps accompanied by recessions in China and Japan if their problems persist.

So, two years of fears have pretty much disappeared for now and optimism is high.

However, central banks will probably have another set of  problems on their hands by April or May, summer at the latest, and the important  question for investors is when might markets begin to anticipate those problems and factor them into stock prices.

Stay tuned!

Written By Sy Harding From Street Smart Report

Sy Harding is editor of the Street Smart Report, and the free market blog, The Street Smart Report Online includes research and analysis on the economy and markets, and provides charts and buy and sell signals on the major market indexes, sectors, bonds, gold, individual stocks and etf’s, including short-sales and ‘inverse’ etf’s. It provides two model portfolios as guides. One is based on our Seasonal Timing Strategy, one on our Market-Timing Strategy.

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