The Good News
By Pat Richards, Columnist

The good news, if there is any, is that as of October 7, 2008, the U.S. stock markets have hit what could hopefully be the technical levels necessary to begin building the right shoulder of a classic "head and shoulders" pattern. For the economy and our financial system, that would be like a sky-diver landing hard and "only" breaking one leg.

The head and shoulders pattern is one of the oldest technical indicators around, and one of the most reliable for making reasonable market predictions (of course, that assumes the markets will return to being "reasonable" and that's by no means a given at this point).

If the $700 billion is going to have any effect at all (along with the Federal Reserve buying up additional unknown billions in short-term credit notes today without asking for Congressional approval), it will be to encourage the markets to stabilize around *today's* levels and begin to move sideways, probably for a couple of years.

As we've now seen confirmed, there was nothing that was going to stop the 1,000 point slide in the Dow since the bailout bill was passed three business days ago. I had written two days before the bill was passed that the Dow was destined to drop an additional 1,100 points just to perform as it has in *previous* recessions and that drop could not be prevented no matter what Congress did. But a 1,000 point slide since then is close enough for government work. I won't insist on it dropping the last 100 points if you don't.

Bottom line for our economy and financial system:

If the market is going to stabilize, then it will be somewhere around here -- with plenty of churning within a couple hundred points of this level going forward -- and the recession we are in will be very deep and last many years, but it will not be anything like the 1930s. To get to that unthinkable scenario, the Dow would have to drop at least another 5,000 from here (we've already fallen 5,000 points since the all-time high one year ago).

This is not to say that many individual stocks won't continue to drop from here. In a sideways-moving "right shoulder" of a market there is a long period of churning, with plenty of up and down movement, just not the kind of all-stocks-fall-off-the-cliff kind of thing we've seen for the last couple of weeks. Hey, a few stocks may even begin to slowly move higher if their fundamentals are good. The companies with genuine, non-inflated, non-fraudulent fundamentals will be king in this market for years to come. Actually, that's the way it used to be 20 years ago, and if the markets had never drifted so far away from that basic economic paradigm, we wouldn't be in this mess now.

By the way, this technical indicator is true even for crude oil. It's trading around $90 a barrel right now -- the point for its own "right shoulder" to form and probably won't go much lower unless the crap really hits the fan. If it breaks below $75 a barrel it would mean things are looking pretty grim. Naturally, this means that we aren't going to see the price of gas at the pumps drop much lower than it is now, which is still too high for any kind of real recovery in the short-term. That's the single most important fact of life in the early 21st century: Until we get a big chunk of our economy moved out of being oil-based, the price/availability of crude is going to be a major constraint, no matter how much new drilling we do or how many bailouts we pass.

I guess the other bottom line would be that if you are unfortunate enough to still be holding some stocks unless you desperately need the cash right now, you might as well just live with the hit you've taken so far and hold them -- but only those companies which you know have solid long-term real-world fundamentals; that is, unless the market does not form a shoulder here, in which case all bets are off.

This technical indicator is *not* a crystal ball, just a best guess based on something other than pure emotion. But at least this is the first sign I've seen that the worst *may* be over. But unlike last week, I can't make any promises about this happening.

Copyright 2008 Pat Richards with use rights granted to MediaBear

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