The Case 4 Bull Market Scenario, as described in the Truth Chart, (see my essays of 03/21/03 and 03/28/03), is one in which earnings, inflation and interest rates are all rising. It is by far the most challenging of the eight market scenarios shown in the Truth Chart. In this scenario, the economy is strong, earnings are great, but the day of reckoning is on the horizon. While it is described as the scenario which marks the end of bull markets, Case 4 scenarios can go on for a long time. This one started on May 7, 2004 or 23 months ago. When will it end?

To answer this question, let's examine each of its key factors: Earnings, Inflation and Interest Rates. First quarter corporate profits are expected to rise more than 10% Y-O-Y. Therefore, it seems reasonable to expect stock prices to continue to go up if earnings have been going up. But that's not the way the game is played. Investors worry because they discount the future, not the past. They constantly look for things that may affect future profits and start selling stocks even before earnings actually start turning downward. They want to get out at the top of the earnings cycle and often give false alarms.

That's why we need to be very watchful of earnings data. Our Investment Climate graph of S&P 500 earnings continues to show a steady rise in earnings, but its trend indicator has been essentially flat since last November. This suggests a decrease in earnings momentum, and that's not good. But it's too early to hit the panic button.

Inflation and interest rates have been hitting multi-year highs lately and this has given many investors the jitters. Generally speaking, CPI inflation is not considered to be a serious problem until it reaches 5% or more. It hit a ten plus year high of 4.70% last October, but came down to 3.60% last month. So inflation is getting dicey, but is not dangerous just yet. I'm amazed that high oil prices haven't impacted the CPI more than reported so far, but I have a deep suspicion the number is rigged anyway.

Here's a number that isn't rigged, the Fed Funds rate. It will be a problem if it goes above 5%. It's at 4.75% now and is virtually certain to be raised to 5% at the next FOMC meeting. However, the 90 Day T-Bill, which we track, closed at 4.58% today. The Fed doesn't usually get ahead of T-Bills too often, so they may, just may, stop at 5% for a while. This would be terrific news for stock investors, but one never knows what the Fed will do. My observation has been that they tend to raise interest rates too high and cause recessions. Now that's something to worry about.

If you follow the news, there are a million other things to worry about, but don't pay too much attention to them. Keep your eye on earnings, inflation and interest rates, especially inflation. It will determine what the Fed does with interest rates. This, in turn, will determine the fate of the economy and earnings. Knowing where we're at in this mad scramble is the challenge of climbing The Case 4 Wall of Worry.