Before I get into my annual stock market prediction on where the market is headed for the year ahead, it’s important to first take a look back.

As my readers know, we turned bearish on stocks in March of 2009, saying that stocks have been in bear market rally since then. Why did we turn bullish on stocks back then?

I’m a big believer in contrarian investing. By the spring of 2009 most investors had thrown in the towel on stocks. In fact, the two words, “stock market” became dirty words. Almost like, “real estate.” Doom and gloom presided heavily over the market in the spring of 2009—probably the most negativity I had seen on stocks in my generation. Hence, as a hardcore contrarian, when everyone is selling, I want to be a buyer.

Since March of 2009, the stock market has rallied 79.5%. In 2009, the various financial newsletters we publish picked 35 stocks that doubled in price. In 2010, our editors and analysts picked 21 stocks that went up 100% or more. Bottom line: the past two years have been a dream for stock market investors.

But all good things eventually need to come to an end. Let’s get realistic; we will not see a 79.5% rally in stocks over the next two years. The easy money in the stock market, as they say, had been made. In 2011, some pockets will do very well, other will do poorly. But for at least the beginning of 2011, stocks still have price appreciation potential left. Very few people are outright bullish on the stock market right now and there are very few alternatives for investors (two bullish factors). But stocks are getting expensive in relation to their dividend yield and price/earnings multiples (bearish factors).

The biggest threat for 2011 will be rising interest rates. Now, this shouldn’t scare my readers away from stocks immediately. If we look back throughout history, stocks have risen contemporaneously with interest rates for periods of six to 12 months before they have changed direction and gone the opposite direction of interest rate trends.

So, looking at 2011, I’m bullish for the start of the year. I still like these stock groups: retail; gold; oil; technology; and leading-edge health companies. I’m staying away from the real estate stocks and the utility stocks. Right now I’m bearish on stocks for the second half of 2011, as I see rising interest rates catching up with the stock market by then.

Sometime in 2011, the bear market rally that started in March of 2009 will come to an end. I’ll try my best during the year to time our exit from stocks just right.

Michael’s Personal Notes:

I just want to comment quickly on a couple of developments in the financial markets:

According to Washington-based trade group Investment Company Institute, investors pulled $8.62 billion out of bond mutual funds last week—the biggest weekly withdrawal in two years. These investors must have been reading PROFIT CONFIDENTIAL, as my readers know I turned bearish on bonds this summer. I wouldn’t be surprised to see the trend of money being withdrawn from bond mutual funds continue for weeks ahead. I also wouldn’t be surprised to see some of that money moving into the stock market.

Crude oil for delivery in February has surpassed $90.00 U.S. a barrel—a two-year high. I’m firmly in the camp that believes oil prices are headed higher. One hundred dollars per barrel is easily in sight. Why?

U.S. supplies of oil are dropping, the economy is improving, China’s economy continues to boom and consumers are buying cars again. This will all lead to higher oil prices. Look at the airlines stocks. They are all moving up, a leading indicator that consumers are starting to travel again, which results in more demand for oil. Anyone smell higher interest rates ahead?

Where the Market Stands:

Almost daily we have the Dow Jones Industrial Average creeping and closing higher. With the Dow Jones up 10.8% for 2010, the Dow Jones ends the year on a high—a very bullish sign going into 2011.

The bear marker rally in stocks that started on March 9, 2009, continues intact. Immediate-term, stocks still have life left in them.

What He Said:

“Why Google stock will go higher: Most investors in Google, surprisingly, are retail investors. And that’s why the stock can go higher—because only 20% of the stock is owned by institutions. If the institutions jump in and buy Google, the stock will certainly move higher.” Michael Lombardi in PROFIT CONFIDENTIAL, June 2, 2005. Michael recommended Google stock as a buy on June 2, 2005 when the stock was trading at $288.00. On November 5, 2007, when Google reached $700.00 U.S. per share, Michael advised his readers to sell their Google stock and to put the proceeds into gold-related investments. Coincidently, gold bullion was also trading at about $700.00 per ounce in November 2007. Michael’s message was to trade each $700.00 share of Google into $700.00 of gold, because he saw gold as a much better investment.

If you want to know what’s happening in the inflation department, all you have to do is go down to your local baker and he or she will tell you that the price of raw ingredients is getting a lot more expensive. There is price inflation out there and it’s slowly building in the global marketplace. It started with food commodities like sugar, cotton and coffee, and it’s increasingly likely that it will spread to other agricultural commodities throughout 2011. In fact, it’s already happening.

We had some bad weather and that’s boosted the price of wheat and corn. But, the world is beginning to realize that there’s only so much annual production available, despite the best of technology and fertilizer applications. With the world population growing at a remarkable rate (growing 1.2% in 2009, according to the World Bank; the current population is estimated to be 6.89 billion people according to the United State Census Bureau), the demand part of the ratio is becoming just as much of a force as supply.

Right now we have precious metals trading mostly near their price highs. Oil is looking very strong based on economic growth in Asia and tight U.S. supply. Natural gas has been weak, and it is probably a good buy right now. So, for the most part, prices are rising in most of the world’s major commodities. Tell me how that won’t eventually affect your pocketbook.

I really believe in Jim Rogers’ (the famous investing partner of George Soros) contention that we are going to experience an across the board rise in inflation because of the huge increases in debt and money supplies around the world. He also believes (and is betting) that the commodity price cycle will migrate in a significant way to the agricultural sector. His reasoning is general price inflation in other commodities, population growth, income growth in developing nations, and a diminishing amount of productive land due to development. As I’ve written before in this column, Jim Rogers is even saying that Wall Street investment bankers should quit their jobs and learn to become farmers. He’s being very serious.

So, with this scenario, owning a basket of agriculture commodities seems like a good idea. At the very least, this kind of asset should prove to be a hedge against general price inflation, even if prices don’t run away in wheat, corn, soybeans, etc. Regardless, it is likely that the price of food is going to get a lot more expensive this decade and this will be the cause of a lot of strife.

Merry times are here. We’re happy. You’re happy. Wall Street is happy.

With the gains on Tuesday, the Santa Claus Rally appears to be in place, as long as we see gains in the last five trading days of the year, followed by the first two sessions in January. Historical records indicate that stocks have increased an average of 1.6% since 1969, according to the Stock Trader’s Almanac. In fact, failure to see gains could indicate a negative start in the New Year. So far, we are good.

The fact that the economy is expanding despite a lack of strong jobs growth is encouraging. We are seeing what economists call a jobless recovery. And this will likely continue in 2011, as the unemployment rate is expected to remain high, but President Barack Obama’s $858-billion tax extension will help drive consumer spending and economic renewal.

The final estimate of the third-quarter GDP was slightly weaker than expected at 2.6% versus the 2.7% estimate, but above the 2.5% second reading.

The charts of some of the key stock indices are positive and point to potentially more gains after the break at the previous chart tops. I’m encouraged by the ability of the major stock indices to edge higher after breaking the previous chart tops.

As I said in my previous commentary, I’m positive for U.S. and Canadian stocks in 2011. I expect technology and small-caps to drive trading again in 2011.

Outside of the U.S., I like the BRIC countries, comprised of Brazil, Russia, India and China. Also take a look at the smaller Asian countries, such as Malaysia, Indonesia, Korea and Taiwan.

One region of concern in my view will be Europe. As you know, there is muted growth and rising debt and deficit levels in Greece, Spain, Portugal, Ireland, Italy and Belgium. If not for capital from Germany and France, it would be far worse there.

I will discuss the situation in more depth in the New Year. Until then, I wish you all a safe and happy holiday season.

Santa appears to be on his way. We’re not there yet, but let’s hope it’s soon.

The charts of some of the key stock indices continue to look positive and point to more potential gains after the break at the previous chart tops. I’m encouraged by the ability of the major stock indices to edge higher after breaking the previous chart tops.

Small-cap companies will be the leader this year followed by technology, which was something I had suggested at the beginning of 2010. Small-caps continue to outperform, with the Russell 2000 up over 24% this year and above its previous high of 745.

Large-cap technology continues to show encouraging signs towards tech spending.

Following strong results from Research In Motion Limited (NASDAQ/RIMM) and Oracle Corporation (NASDAQ/ORCL), Adobe Systems Incorporated (NASDAQ/ADBE) beat revenue and earnings per share estimates.

I expect tech and small-caps to drive trading again in 2011. I will provide my commentary and predictions for 2011 within the next few weeks.

Banks are also providing some leadership. Wall Street is also jumping on the bull.

The Bank of America is the latest Wall Street firm to suggest strong moves for the S&P 500 in 2011. It expects the S&P 500 to trade at 1,400 in a year driven by technology and energy.

Previous estimates were:

J.P. Morgan: 1,425

Barclay Capital: 1,420

Goldman Sachs: 1,450

The news domestically continues to be encouraging.

Subject to heavy debate and compromise, President Barack Obama signed an $858-billion package to extend tax cuts for an additional two years and unemployment benefits that are set to expire. The package should help consumer spending and growth.

But what I’m concerned with is the debt and growth situation in Europe.

Moody’s Investors Service cut its rating on Allied Irish Banks, Bank of Ireland, EBS Building Society, Irish Life & Permanent and Irish Nationwide Building Society.

So, while I feel markets will continue to edge higher into 2011, I also still believe in risk management.

I advise taking some profits prior to the year-end. In addition, take a look at some of your losers to see if you want to absorb some losses to be used against your gains.

With stock markets closed this Friday and with the Christmas break upon us, trading will slow down this week and in the week prior to New Year’s.

At the end of the day, we can all rejoice over what was a decent year for stocks. Enjoy the gains, and soon we will gear up for 2011.