Stocks are now at the cusp of another reality check this week following dismal economic news in the United States, Europe and China. The primary trend now looks bearish as stocks probably terminate the fifth bear market rally since October 2007.

Risk aversion is returning in mid-May as the dollar, yen, gold and Treasury bonds post gains over the last 48 hours – the same leading players that dominated 2008 profits in an otherwise horrendous year for investors.

It should come as no surprise that U.S. retail sales dropped for the second month in a row in April by 0.4% after falling 1.3% in March. As job losses continue to average more than 550,000 per month since last fall combined with a still declining real estate sector, domestic consumption remains badly crippled. Consumers are saving, not spending.

Also, declining wage inflation – barely in positive territory over the last 12 months – also points to an environment of weakening purchasing power as deflation digs deeper into the real economy.



Markets have also read too much into China’s public spending programs. Exports in China have fallen off a cliff since Q4 and the trend continues to accelerate in April. The Chinese economy won’t boost plummeting global consumption; Chinese demand has already propped industrial metals and oil prices since March and that trend now appears to be slowing as copper and other base metals head sharply lower this week.

Copper, or Dr. Copper, as it is commonly referred to by the investment community because of its sensitivity to the global economic cycle, appears to have already topped-out. The Chinese have already purchased the bulk of their copper needs earlier this year when prices collapsed; historically, the Chinese don’t chase base metals prices.

So are we at the edge of another big bear market decline set to violate the March 9 lows?

At some stage over the next 12 months, stocks could violate the March 9 lows. The only major pillar of support saving the economy now is massive government stimulus spending; this alone should help the economy muddle through over the next six months or so until final demand heads sharply lower again. That’s when another spending package will be required – dictated by a plunging stock market.

Equities, however, are now breaking down again. The Dow Jones Transportation Average has peaked in this bear market rally and is leading the downtrend. Oil prices also seem poised to break below $55 a barrel this week after failing to surpass the $60 level. Other commodities will also follow as fears of deflation reignite, especially if consumer price data for April to be released on Friday shows an acceleration of falling prices. In March, U.S. CPI fell 0.4% year-over-year – the first negative inflation data since 1955.

Here we go again. The summer has historically been a bad time to buy stocks and this year probably won’t be any different. But for now I don’t think stocks will violate the March 9 lows because so much bad news is already “baked into the cake” since equities hit a 12-year low 60 days ago.

The best trade now includes patience. Most assets have already posted big rebounds this spring and investors would be prudent to sit on the sidelines and wait for the dust to settle as markets violate important technical levels this week. Cash is still King.