What the heck is going on? The Dow has just had its best weekly performance since March 2000. CNBC is full of whopping and high-fiving. The Obama administration is breathing an audible sigh of relief. And mom and pop investors all across the US are no doubt considering putting more of their savings back into the market.

Yet here at Notes we remain cautiously bearish. Why? Because it is our humble opinion that this remains a bear market rally, impressive as it is. Gluskin Sheff’s David Rosenberg says the rally lacks three key ingredients:

1. Leadership
2. Quality
3. Volume

History is littered with such bursts of euphoria. Probably the most infamous is the bear market rally of 1930. Stocks recovered strongly following the November 13, 1929 low. Wall Street became wildly confident that the worst of the crash was over. And for a time the bulls were dead on. From a low at 199 on November 13 the Dow rallied to a high of 294 in April 1930 – up 48%. By the end of the year, the Dow was down to 158. And by July 1932 it had plunged another 41 points.

Believe it or not, this rally occurred in the absence of an economic recession. Although it is largely overlooked today, the U.S. economy held up following the October crash. The rout in stocks was at the time considered to be an isolated incident – a direct consequence of excessive speculation and nothing more.

It is sobering to consider that few thought during the first half of 1930 – when the business curve of the Harvard barometer was almost horizontal and therefore did not signal a recession – that a devastating depression lay ahead.

The lesson from history is that depressions – or bear market rallies – aren’t avoided simply because they are not predicted. Nor are stocks always a bargain because they are “cheap.” At its November low, the Dow sold for only 10-times earnings; it had peaked at 15-times earnings in early 1929. But try telling investors who bought into the Dow in November 1929 that they’d got a bargain!

We bring this up not because we believe that history is destined to be repeated, but because we believe it often rhymes. And it would be foolish not to revisit the lessons of 1930 at this juncture – one year after our own “great crash.”

The casualties of the bear market rally of 1930 included some of the best investing minds of the era. Legendary investor Jesse Livermore lost all his money in the 1930-32 decline and eventually ended his own life. And a reclusive John D Rockefeller issued a statement that contained these fateful remarks:

In the ninety years of my life, depressions have come and gone. Prosperity has always returned, and will come again… Believing that the fundamental conditions of the country are sound, my son and I have been purchasing sound common stocks for some days.

Call us old fashioned, but we simply don’t believe that a secular bull market can last in a recessionary environment. And we firmly believe that the recovery drum has been banged a little too hard by the mainstream media.

To wit, we strongly recommend that Notes readers spend some time familiarizing themselves with the recent “fact finding” study on the depths of the current recession by two of our favorite underground sources, Tyler Durden of Zero Hedge and David Rosenberg, chief economist and strategist at Gluskin Sheff & Associates.

What follows is a very quick-and-dirty rundown of Durden and Rosenberg’s case.

1. The US consumer makes up 70% of US GDP, yet retail sales and wage-based income are steadily declining. And consumer deleveraging continues despite efforts by the Fed and the Obama administration to stem the tide.
2. The business outlook remains bleak. May business sales decline a hefty 18% year-on-year. This is clearly a recessionary signal. Other key business outlook indicators, such as the Philly Fed’s Business Outlook Index and the MAPI Business Outlook Index, are pointing down.
3. There is no reason to believe that an inventory bounce is in the works. In fact, the decline in UPS package volumes (-4.7 year-on-year in June) show that inventory weakness is accelerating.
4. The recent falloff in jobless claims is due to seasonal factors, not an improvement in the economy. “Official” unemployment is under 10%. But the U-6 data (which includes the so-called “underemployed”) is 16.8% – 6.5% higher than a year ago. A consumer driven recovery in this environment is highly unlikely.
5. Housing is still in the ditch. It will take at least five years to mop up excess inventory. This means house price deflation will be a secular trend. This will continue to act as a drag on the banking sector and impair credit quality.
6. There is no top-line business growth. Better-than-expected earnings in the second quarter were achieved by cost cutting, which will have a negative, not a positive, impact on the economy. Stock holders will eventually want to see revenue growth. When this fails to happen, stock prices will come under pressure.
7. State revenues are imploding. The Rockefeller Institute of Government predicts a slide of 20% in the second quarter. California is the first state to go bust. It won’t be the last.
8. President Reagan’s low-tax lesson has been forgotten. There are no fewer than three tax increases planned for upper-income households by the Obama administration. We are looking at a top marginal rate jump of 10 percentage points by 2011. This will bring the top rate to 45%.
9. Although credit spreads are tightening, S&P downgrades of corporate bonds hit records in June. And credit conditions for small companies remains incredibly tight.
10. The overall inflation rate is currently running at -1.4% year-on-year. This is the lowest rate since 1950. There is no threat of real inflation until the excess slack in the economy is absorbed. [Note: We disagree with Rosenberg and Durden here: we see a clear-and-present threat of inflation down the road.]