Rally Is a Breath of Fresh Air, But the Prudent Want Proof

What a rally! What a world! Stocks closed Tuesday a whopping 11.2% above their intraday lows of only a week ago — basis the S&P 500 index. What has been the prime driver behind this Watusi jump? German chancellor Angela Merkel and French president Nicolas Sarkozy say they’re going to “recapitalize” the European banking system.

No details so far, mind you. They just say they’re going to do it. Call us back in a few weeks, and we’ll tell you how.

Now, folks, I enjoy a rising stock market as much as anybody. I’m thrilled�to see my account balances going up, day after day. But wouldn’t it be smart to wait for a little confirmation — that European politicians are actually putting taxpayers’ money on the line (again) to bail out the banks — before bidding up share prices further?

Perhaps that’s why the equity rally, on both sides of the Atlantic, hesitated Tuesday. The prudent want proof.

Maybe they’ll get it soon enough, and stocks can climb some more. For now, though, I recommend a cautious posture. Buy stocks and mutual funds on significant pullbacks only, and be prepared to do some modest selling if the market bounces back up to the overhead resistance it touched in late August and early September (around 1,230 on the S&P 500).

My guess is we’re seeing a familiar phenomenon from past cycles. Investors burned by the surprisingly deep market plunge in August still are licking their psychological wounds. So, when they go back to buying, they try out their newfound bullishness on the large caps first.

In time, as confidence builds, the buying will shift to smaller companies.

What to Do Now

When and if the S&P climbs back to 1,230 (intraday), I’ll let go of Hewlett-Packard (NYSE:HPQ). I applaud the choice of Meg Whitman as the company’s new CEO, but the previous chief did tremendous damage during his brief tenure.

Unfortunately, he left HPQ in less than ideal shape to weather the global business slowdown I foresee next year. Thus, my decision to sell if the market bounces a couple percentages higher.

Again, don’t act on this advice until the S&P reaches 1,230. I just wanted to give you a heads-up now.