The longer the rally persists, the more dangerous it becomes.

The S&P 500 is up almost 60% since March. The Dow just had its best quarter since ’98.

Yesterday, the Dow slipped 29 points. Is the rally finally rolling over? Or is this a genuine bull market, just taking a pause?

If it is a real bull market, then it’s a funny looking bull – one that’s missing parts!

For example, corporate earnings are missing. P/E ratios are rising far above the corporate earnings that support them. This puts the market 35% overvalued, on a cyclically adjusted P/E basis, says Smithers & Co. And if you look at it in terms of its “q” ratio – a comparison of capitalization to replacement costs – the S&P is even more overvalued. As for emerging markets – “they’re off the charts,” says The Financial Times.

Another missing part is the consumer. This from David Rosenberg:

“Consumer confidence not only surprised to the downside in September but the Conference Board index actually fell to 53.1 from 54.5 with both the ‘present situation’ and the ‘expectations’ component failing to build on the August rebound. Before we go any further on the details, let’s recall the following:

• Historically, by the time the S&P 500 rebounds 60% from the trough, the confidence index is sitting at 92.0;
• The month recession ends, the index is, on both an average and median basis, sitting at 72.0;
• During an economic expansion, the consumer confidence averages 102.0; in a recession, it averages 72.4.

“Just to put a 53.0 reading into proper perspective. It’s still recessionary… The only categories [that] actually saw their confidence level rise in September were the ones in the lowest income strata – less than $25,000 (their confidence rose two points). After all, they’re the only ones really benefiting from all the government intervention into the economy and the markets.”

It’s not hard to figure out why consumers lack confidence; this bull is lacking in jobs, too. A worse-than-forecast report came in from ADP Employer Services yesterday. It said US companies cut 254,000 more jobs in September. And Reuters reports that jobless rate rose in August in all US cities.

The bull is also missing production. Another report told us that manufacturing activity in the Chicago area is still in recession. In the United States as a whole, the latest numbers tell us that GDP fell in the 2nd quarter – but by less than forecast. “Less than forecast” might be good news if stocks were at an epic low. Instead, at current levels, it is much like a doctor who tells the family: “Thank God he got medical attention. He’s dead, but not as dead as he would have been without it.”

Another important part this bull market is missing is the retail stock market investor. Hey, this rally has no legs at all!

We have insisted – with no proof, up until now – that the mom and pop investor is no longer counting on the stock market for his retirement. He’s seen what can happen. At the low in March, adjusted for inflation, he was back to where he was 40 years ago. That is, in real terms, he had not made a dime from the stock market (aside from dividends) during his entire adult lifetime.

We guessed that he was not buying stocks.

Now, here’s the evidence: according to TrimTabs, only $2.5 billion has gone into equity mutual funds in the last six months. Bond funds have attracted 13 times as much money as equity funds, says a Morningstar report.

“US retail investors…have watched this rally from the sidelines,” the FT concludes.

Wait a minute. Someone is pushing up stock prices. If not the retail trade, who? We don’t know. Maybe hedge funds. Maybe institutional speculators. The pros have a different outlook. If this rally turns out to be real, and they miss it, their jobs and reputations are in danger. If it turns out to be phony, on the other hand, they risk clients’ money. On balance…they are better off getting in than staying out.

But just as the pros jump like lemmings into equities…they could all scramble out fast. Give them a fright…and this rally is over.

Where might the fright come from? We can think of several possibilities. One is the housing sector. If foreclosures begin to increase…and prices fall…even the pros may put two and two together.

Likewise, a shocking unemployment number could cause them to connect the dots.

Then, look out below…

Another thing that might trigger a sell-off in the stock market: a sudden setback in China…

Today is a big day in China…it marks the 60th anniversary of the communist victory. “The Chinese people have stood up,” said Mao, announcing the victory in 1949.

Then, over the next two decades, whenever the Chinese stood up…Mao shot them down himself. Mao’s long march to power was a huge setback for human political progress – if there is any. The man was a thorough scoundrel and a complete incompetent at everything, except getting power and holding onto it. Every program was a disaster. When he set out to ‘liberate’ the masses, they ended up as slaves. When he set out to feed them, they starved. When he proposed to empower them with his “democratic dictatorship,” they ended up with bullets in the back of the head.

But 60 years later, the commies are still in power. China is still red.

And yet, thanks to the curious way the world turns, China’s economy is now freer and more competitive in many ways than the United States. Go figure.

As economies age, more and more people become ‘rentiers.’ That is, they get some special privilege…some inside angle…some conniving advantage. The latest numbers, for example, tell us that almost half of all households pay no federal taxes. They collect benefits – jobless benefits, food stamps, education, day care, Medicare, Social Security – without contributing to the system that provides them. Add to this number the millions of households that pay taxes but receive a large part of their money from the government itself – employees, contractors, lobbyists, etc. – and you have enough to win any election in the country.

But the welfare chiselers and food stamp cheats are small time crooks. The big crooks go for billions. John Crudele in The New York Post:

“…Sept. 18, 2008 [US Secretary of the Treasury...Henry] Paulson placed his first call of the day at 6:55 a.m., to Lloyd Blankfein, who succeeded Paulson as CEO of Goldman. It’s unclear whether the two connected because Blankfein called Paulson minutes later.

“And then Blankfein placed another call to Paulson at 7:05 a.m. for what looks like a 10-minute conversation.

“After that Paulson called Christopher Cox, Securities & Exchange Commission Chairman twice; British Chancellor Alistair Darling and New York Federal Reserve head (and now Treasury Secretary) Tim Geithner two times.

“Then Paulson took another call from Goldman’s Blankfein.

“It wasn’t even 9 a.m. yet – 30 minutes before the stock market was to open – and Paulson and Blankfein had already exchanged three phone calls.”

It pays to have friends in high places. That was the day the market learned of Paulson’s bailout proposals. Could Goldman have gotten word before others? Hey, we’re not accusing anyone…

Bill Bonner is the President of Agora Publishing. For more on Bill Bonner, visit The Daily Reckoning.