Is it over?

As of this evening the S&P 500 has closed up for three consecutive sessions. There was no real blow off capitulation sale, but the market did drop with dizzying speed falling nearly 40% in just three months between the Obama election and the beginning of this week. As usual the CEOs blame the drop on short selling, and in this case it seems they may have a point. These explosive rallies off of intermediate bottoms certainly bear all the signs of short covering rallies.

Of course, it's impossible to tell what is really going on in the stock market even in the best of times, let alone today, when our entire economy appears to be undergoing a major transformative process. For the past . . . perhaps one should say 75 years, definitely one could say 6 years, a pretty strong argument could be made for 30 years . . . for the past whatever the relevant period, the American economy has grown primarily by growing the outstanding debt.

In recent years (whatever the appropriate time frame) the expansion in debt has come at least in part through an expansion in available debt products that reached deeper and deeper down the credit quality scale to less and less credit worthy borrowers. But recall that in the subprime housing market at its peak (2006) loans were being made to borrowers with no equity, no positive credit history and no apparent means of repayment. I have no idea how we can go further down the credit scale than that. Credit was so loose that it was cheaper to buy into a house than to rent.

Now credit is contracting and continues to contract. This does not appear to be a formula for growth in the American economy. However, neither the banking system nor the government can survive continued contraction.

Can the government stop the bleeding? Well obviously they could literally just "print money" instead of their current practice of issuing debt to sell and so bring money into existence. Printing money would be a RADICAL departure from past practices, however, and will be used as a last ditch effort, if at all. It is not clear to me that the government can stop the contraction otherwise. They have certainly thrown a lot of weight behind the effort lately. And borrowing has picked up in the last two months -- January and February were the two largest months for bond issuance ever.

Another good sign is that the financials led the recent three day rally, and even more, that Citi led the financials over the last three days (albeit admittedly from pretty beaten down prices). If the market becomes convinced that Citi is going to survive (even thrive as they are promising profits (finally) this quarter), it is probable that a rally will follow -- in both the financials and the general market.

For the financials, a stock market rally becomes something of a self-fulfilling prophecy and strength in the riskier asset classes begins to unwind the massive losses of the last several quarters and mark to market devours the bears, perhaps as rapidly and as violently as it did the bulls.

Time will tell, but tonight my schizophrenic gut is pointing optimist.