— “Profit Confidential” Column, by Michael Lombardi, CFP, MBA

Well, it finally happened Friday.

The Dow Jones Industrial Average, which many stock market analysts labeled as having topped out in early February of this year, rallied 122 points Friday, turning positive. Yes, so far this year, the Dow Jones is up 1.2%.

No, it’s not a significant gain for the year for Dow, but the world’s most widely followed stock market index can now proceed along its bear market rally path to test its 52-week high of 10,767.15. That should confuse the heck out of most stock market analysts.

“Michael, hold on a minute. You’ve got me confused, too. You write occasionally that the Dow Jones will retest its March 2009 lows and now you’re writing that the Dow Jones will test its 52-week high.”

Both statements are correct. It can get even more confusing for my longer-term readers who remember I have been predicting the Dow Jones will break through the 11,000 level.

For the sake of clarity, here’s what is going on with the stock market broken down into five events.

First, the long-term bull market that started late in the year 1982 brought the Dow Jones to 14,164 before topping out and dying in October 2007, coinciding with about 25 years of declining interest rates.

Second, the bear market that took hold in November 2007 brought stocks down to a multi-year low by March 2009, bringing the Dow Jones down to 6,440.08 on March 9, 2009. But, in March 2009, stocks never became a great value. Bear markets end when stocks are trading at great values — that never happened in March 2009.

Third, a bear market rally ensued from March 2009, bringing the Dow Jones back up to 10,767.15 in January 2010. The purpose of a bear market rally is to have investors believe that the market is getting better, the economy is getting better, and that it is alright to get back into the stock market. The bear’s job during a bear market rally is literally to suck investors back into stocks. (The good part for investors like you and me is that it is easy to make money in a bear market rally, because most stocks go up.)

Fourth, after a rally that took stocks up 67% between March 2009 and January 2010, stocks started to correct in price. (After any such big run-up in stock prices, a market correction is very natural and common.) Most stock market analysts believed that, by February 2010, the rally was over — they were wrong. Bear market rallies only end after the majority of investors are back into the stock market with the belief that all is good. That mood with investors hasn’t happened.

Fast forward to the present, and the bear market rally continues. I see the Dow Jones breaking through the 11,000 level as it continues on its path to lure investors back into the stock market. Once the bear achieves that purpose, it will put its tail between its legs and unexpectedly head back to test its Dow Jones low of 6,440.08 set on March 9, 2009…big swings, yes, but that’s how bear markets work and that’s how I see it unfolding.

Michael’s Personal Notes:

I’m looking at the picture in the newspapers this morning of the Prime Minister of Greece with French President Nicolas Sarkozy at a news conference in Paris yesterday, laughing. How could the financial market think that Greece wouldn’t be bailed out of its debt crisis by the stronger European countries?

The Greek Prime Minister says that he will go to the International Monetary Fund for money if his European neighbors don’t give him an old-fashioned bailout. (He’s also off to meet President Obama on Tuesday at the White House, where he’ll likely get a “We’ve got enough of our own problems” attitude.)

If the European Economic Community doesn’t help out Greece with its financial problems, will the debts of Spain and Portugal not be downgraded next?

What He Said:

“The Dow Jones Industrial Average, the S&P 500 and the other major stock market indices finished yesterday with the best two-day showing since 2002. I’m looking at the market rally of the past two days as a classic stock market bear trap. As the economy gets closer to contraction, 2008 will likely be a most challenging economic year for America.” Michael Lombardi in PROFIT CONFIDENTIAL, November 29, 2007. The Dow Jones Industrial peaked at 14,279 in October 2007. A “suckers” rally developed in November 2007, which Michael quickly classified as a bear trap for his readers. By mid-November 2008, the Dow Jones Industrial Average was at 8,726.

Tags: dow jones, stock market