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Miller And Kudlow Are Wrong

5:21 AM
Miller And Kudlow Are Wrong

Don't listen to permabulls like Bill Miller and Larry Kudlow. There's risks in the S&P recovery.

"It's frightening to think that you might not know something, but more frightening to think that, by and large, the world is run by people who have faith that they know exactly what's going on."--Amos Tversky

The world lost a wonderful mathematical mind in June of this year. Amos Tversky was a pioneer in many of the not yet accepted halls of cognitive science and behavioral economics. Not yet accepted by the Perceived Wizards of Wall Street Oz. Whether it was my having to endure Larry Kudlow's market call last night on CNBC, or scanning this Bloomberg article on my desk about Legg Mason's ( LM - news - people ) Bill Miller making a "comeback" this morning, it's all one and the same. These guys apparently don't have mirrors or YouTube. They both missed calling the crash. They are both perpetually bullish. They are both, sadly, part of the incompetent old boy club that aids and abets an American culture of recklessly buying high.

I could not make this up if I tried, but this is a direct quote from Bill Miller after the S&P 500 closed at a year-to-date high of 1127 last night: "There is a lot of upside left." After the most expedited nine-month rally in modern stock market history (+66.7% from the Mar. 9 lows), that's what you get. That advice, and Kudlow calling for a “mini-boom” last night, are classic contrarian indicators.

Legg Mason's marketing machine will be the last to remind you, so I'll be the first this morning. Miller lost 55% of his clients' money in 2008 and has been beat by 99% of his peers on a 5-year basis. In his defense, he also remarked that "we positioned the fund for a recovery." Thank God for that proactive plan, Bill.

Whether it's Kudlow, or Miller or Larry Summers (whose interest-rate swap positions that he signed off on in 2006 almost blew up the Harvard Endowment), it's all one and the same folks. As your favorite market savants roll out their "2010 predictions," here's mine: These guys will miss calling out most of the 2010 risk and swing with the monkeys from the market highs. They do not have a repeatable risk management process to do otherwise. They never have.

Higher highs in the S&P 500 and the Nasdaq were bullish confirmations of a bullish intermediate-term trend in U.S. equities yesterday. However (and yes old boys, there is always a "however"), these higher highs were not confirmed by small caps or the financials.


The iShares Russell 2000 Index ETF ( IWM - news - people ) closed down small on the day, and the Financials Sector ETF ( XLF - news - people ) closed down another 0.34% at $14.48. The XLF tracks the worst sector out of the nine we assign risk factors to in our S&P 500 sector model. There is a long term line of support for the XLF down at $12.05/share. That's 16.8% lower than last night's close.


When Josh Steiner, our new sector head of financials research, launched last month, he came out bearish on the money center banks. We took a lot of heat from a certain corridor of the hedge fund community with that call, so we knew The Street was long some of the brokers and government-sponsored banks (Bank of America ( BAC - news - people ), Citigroup ( C - news - people ) and Goldman Sachs ( GS - news - people ), among others). After a 128% rally from early 2009 lows, seeing bulls chase price was no surprise whatsoever.


Since Oct. 14, the financials are down 8.3% and the S&P 500 is up 3.2%. If you aren't living in the land of perpetual bullishness, for the financials that's what we call a nasty negative divergence. If you have been short the financials and long the market, that's called alpha.

Now, from a global risk-management perspective, what else is interesting about Oct. 14?

The stock market in the United Arab Emirates peaked and has since lost 24.6% of its value. The stock market in Greece peaked and has since lost 24.3% of its value. The stock market in Vietnam peaked and has since lost 22.4% of its value.

Yes. If you have your calculator out doing your own work, Larry, you'll realize that I purposefully just made an inaccurate statement. Vietnam peaked on Oct. 22. I just wanted to make sure you are reading my work extra closely this morning. These cross-market macro correlations are not ironic. They are leading indicators that not all is going "mini boom" in global macro--or wait, maybe some things are…

I'm all for a country that's everything that we want it to be. But when it comes to your financial freedoms and safeties, I think you need to start with either your own investment process or augment it with people who do their own work and are accountable to it. That's it. It's that simple.

To ignore risk for the sake of sounding positive may not deserve the capital punishment that the Chinese gave that British drug lord last night, but it certainly deserves your losing the ability to manage other people's capital or to broadcast your views to a national audience of impressionable young Americans.

From the U.S. financial stocks falling, to the price of oil hitting a 5-week high post plenty of geopolitical risk being reflected via the oil price premium, this game is all about risk. Real-time prices are always telling us where to look for those risks. Its hard work. The days of looking to the likes of Kudlow, Miller and some Robert Rubin disciple are thankfully ending. For far too long this country upheld some frightening faith in their hope-based bullishness.

Remember, hope is not an investment process. God bless Amos Tversky.

My immediate-term lines of support and resistance for the S&P 500 are now 1113 and 1133, respectively.

Keith R. McCullough is CEO of ResearchEdge.

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