Friday, July 9, 2010

Rally in Stocks Starts Now

Ninety-eight percent of the time, when we've been in this situation, stocks end up higher three months later.

By "this situation" I mean when investor pessimism is high…

When pessimism is high, it's time to buy.

Right now, only 21% of individual investors are bullish on stocks, according to the latest weekly survey by the American Association of Individual Investors. That's "one of the lowest readings in the last 15 years," says my friend Jason Goepfert, who tracks these things at his website: SentimenTrader.

According to Jason, stocks were up an average 8.5% three months after hitting bullish readings of 21% or lower. That's data going back to 2003. Going back to 1987, this indicator has been at 21% or below just 47 times. And 46 out of 47 times (98% of the time), stocks were higher three months later.

When you combine that pessimism with Wednesday's 3% "up" move, you've got a recipe for a big rally. Jason said, "When we get a buying surge like yesterday, coming off a multi-month low, it has usually led to dramatic gains long term."

Stocks are a great value right now, particularly in relation to interest rates. Your money earns nothing in the bank, but you get paid a 5% dividend to own stocks like Pfizer.

Pfizer, for just one example, trades at a forward P/E ratio of 6.5. What that means is, if you bought that business privately, the earnings of the business would pay off your entire investment in 6.5 years – and all the rest of your earnings out to infinity would be "free."

That is crazy. You never get buys like that. And drug stocks like Pfizer aren't the only cheap sector… Big banks (like Citigroup and Bank of America) trade at single-digit forward P/Es. And so do big oil companies (like Exxon and Chevron).

My point is, many blue-chip stocks are super cheap. Based on the latest poll of individual investors, stocks are hated now. And with Wednesday's 3% move, it could be the start of the uptrend – the start of "dramatic gains" as Jason Goepfert described it.

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