[jyl]

I'm going to randomly muse here.

Just got home, commuting by bicycle lately, by the time I work 12 hours, ride, stop at the local pub for a pint, and wobble home, I can't do more than ramble.

Forget about S-T indicators like P/C ratio, oversolds, sentiment indicators, etc. Think about the fundamentals.

We know the economy is slowing. The leading indicators all started turning down in March. Retail sales are weakening each month. Capital investment in the ISM is sliding. GDP growth was cut in half sequentally in 2Q. The housing market we know about. And the Fed has made it pretty clear that they want, and expect, the economy to slow in order to bring down inflation. Which in July had accelerated to 2.4% core, above the Fed's comfort range of 1% to 2%.

So, stocks are down. Have they priced it in?

Down how much, and priced what in?

The S&P is only down 3.6% from the high earlier this year. Yes, the NDX is down more and I'm loving that, the SOX is down worse and I wish I'd shorted that, and RUO and RDG are down more. But the heart of the market is the S&P and it is barely down from its highs.

Meanwhile, earnings estimates have barely been cut. I don't have quantitative data here but from watching 2Q earnings, I haven't seen much estimate cutting at all. Some in tech, a bit in retail, basically none in industrials, financials, heathcare, staples, materials. For the S&P as a whole, I believe estimates remain at their 1Q levels.

As the economy slows, estimates have to be cut. Companies have spent 3-4 years squeezing their SGA - wages, pensions, supply chains, etc. I do not think they have many easy cuts left. As for COGS, companies have milked the manufacturing shifts to China etc. Corporate profit margins are at record highs. Now the COGS pressure is upward, not downward. Energy and commodities. The only remaining way they could preserve earnings at current levels is with revenue. Revenue = volume x price. A slowing economy usually means volume growth slows. Price can be raised, if demand is sufficiently inelastic, but that means inflation and the Fed will react to that.

So I think margins compress, and earnings growth slows or goes flat, meaning that estimates get cut.

Can the market rise while earnings estimates decline? Yes, but it doesn't usually happen at the beginning of estimate cuts. It happens at the end of estimate cuts, when the cuts are "in the stocks". We're at the beginning, not the end.

Look what's happened to stocks this earnings season. For the unfortunate companies who missed consensus and/or lowered guidance, their stocks got slammed. Guess it wasn't "in the stocks". When more and more companies start missing and lowering, more and more stocks will get slammed.

Where could the S&P go? In past economic slowdowns and/or recessions, the S&P has gone to anywhere from 12X to 8X forward estimates. Currently it is about 14X.

Suppose 2007 estimates get cut by 5%. And suppose the forward multiple goes down 10% to to 12.6X. The S&P could go down 15%. That would give us an S&P of around 1,090. Big pain.

Okay, I am NOT predicting the S&P gets to 1,090 or any other level. Leave that to Abby Joseph Cohen and other strategists (is she still around?). All I try to do is look at the factors and try to guess the likely direction. Being directionally right is usually profitable enough, and hard enough.

Right now, I see too many factors pointing directionally down. Slowing economy. Corporate margins are at record highs, where to go but down. Estimates are at record highs, and earnings growth has been very high, again more room to go down than up. % of estimate cuts is low, more room to rise than fall.

So my fundamental bet is directionally down.

Whether we get a "one and done" rally doesn't really matter.

(For what it is worth I am guessing no hike and resulting rally fizzles out. But its not going to change my investment stance either way.)