Beware the market’s Dark Forest

After a powerful mid-week surge, North American markets finally paused for breath last Friday. We had modest downturns on all the major U.S. indexes, although the TSE maintained an upbeat tone.

Overall, it was an impressive week, with the Nasdaq Composite leading the way with a 3.8 per cent advance. The TSE 300 wasn’t as robust, but no one is going to be unhappy with a 1.5 per cent gain in the five trading sessions.

Things didn’t look anywhere near as bright on Monday morning, November 12th, when the crash of flight 587 raised the spectre of a new terrorist attack and the markets plunged. But as the hours wore on and reports indicated the disaster was an accident (still terrible, but not as terrible), the markets recovered.

Positive economic news
Then came the news of the fall of Kabul and a genuine war rally was underway, fuelled by steady stream of positive reports out of Afghanistan. The optimism gained more momentum from some positive economic news from the U.S. including:

• Record monthly gains for retail sales, sparked by people rushing to take advantage of 0 per cent automobile financing.
• Declines in initial jobless aims for the week, indicating that the pace of lay-offs is slackening.
• A drop in the Consumer Price Index, due mainly to lower oil prices.

Energy prices fell even more at week’s end as an OPEC move to cut production collapsed. That was great news for consumers but bad news for shareholders as oil and gas stocks were pounded (although they recovered a bit on Friday).

Dark Forest analogy
But there was a grim undertone to all this positive news with the release of data showing that industrial production in the U.S. dropped for the 13th month in a row.

That’s the longest continuous decline since the darkest days of the Great Depression back in 1932, and it should give investors some pause.

I saw the new Harry Potter movie on the weekend (for film buffs, I thought it was brilliant). There is a scene in which Harry and friends enter the Dark Forest, which is filled with all manner of frightening creatures.

It occurred to me later that it was an appropriate analogy for the times in which we live. We have indeed been in a Dark Forest for the past two months, never knowing what horror might pop out from behind the next tree.

Next page: What news ahead?

What news ahead?
We’re not out of that forest yet. Yes, there are glimmers of light but we need to be careful about letting down our guard too soon. The dangers have not yet dissipated.

We can expect a lot more discouraging economic news before things start to get better, as corporate profits for the fourth quarter of this year and the first quarter of 2002 are likely to make for discouraging reading.

More lay-offs are likely to result. So even if there are no more terrorist attacks, there are financial dragons still to be slain.

I don’t want to put too gloomy a face on this. Certainly, the positive signs we are seeing are welcome. But I think it would be a mistake to get euphoric too soon.

My advice remains the same. Continue to take a cautious approach and only buy top-grade securities that fit your long-term plan, and then only at reasonable prices.

From the November 19th edition of the Internet Wealth Builder.