Who among us really takes this 60% rally in equity prices seriously?

Certainly not the millions of investors who fled to insured investment products and CDs over the last 12 months.

Yet the stock market is finding it is really difficult to sustain any meaningful sell-off. Some of the smarter skeptics are quick to point out that stocks haven't vaulted this high at this kind of six-month breakneck pace since, well, 1933. "Any more questions?" they ask.

What is more remarkable is the growing number of observers who are increasingly convinced that the rebound is for real. Normally sober, often vinegary sages ranging from Byron Wien to Barton Biggs to Steve Leuthold to Michael Price think that a market which stubbornly refuses to correct its deviant behavior by more than a few percentage points it is trying to tell us something.

Leuthold, who thinks the S&P 500 could reach 1,250 by next year's first quarter, urged investors in his long-short Grizzly Fund to liquidate last March, and he hasn't changed his tune. Like Wien, he even believes the nation's retailers might enjoy a surprisingly strong Christmas season, even if consumer spending remains muted. Price recently told Bloomberg News the economy could be entering a period similar to the 1975-1982 era, when many investors managed to prosper despite nasty inflation.

Speaking at the annual Schwab Impact conference on September 15, the firm's chief market strategist, Liz Ann Sonders, gave attendees a compelling case for continued optimism. People are underestimating "the bounce-back effect," she said.

One troublesome fact is that since September 2001, U.S. economic growth has been fueled largely by government spending, with a big assist from the housing boom in the middle of the decade. It shows no signs of abating and this could spell more bad news for economic growth and strong financial markets than ever, skeptics charge.

However, Sonders now believes exports are starting to rise sharply, adding that it is reaching the point where "GDP can rise even without an increase in consumer spending." If there is to be a real recovery, that trend must be sustained, since all signs indicate that the secular expansion of consumer spending appears to be over for a generation.

No red flag is causing more concern these days than the massive increase in government spending and the federal budget deficit. It remains the elephant in the living room, but in a recent report Leuthold notes that in the last three months estimates of the fiscal year 2009 deficit have fallen 25% from $2 trillion to $1.6 trillion. Unfortunately, that rate of decline is unlikely to continue, but consumers are deleveraging.

In her presentation, Sonders displayed two charts simultaneously-one showing the spike in federal debt and the other showing a huge, vertiginous drop in net household liabilities. The latter was triggered by a reversal of the home equity borrowing binge, which led to a dramatic reduction in mortgage debt. While it exacerbated the extent of the contraction in early 2009, Sonders believes it could create "a healthy path" going forward.

They Don't Believe It
Despite this and more powerful evidence, Sonders cited Ned Davis Research's sentiment indicators, which try to aggregate the views of six different sentiment polls of professional money managers. They are "skeptical at best." So am I, but that's hardly a negative factor.

What really caught Sonders off guard in recent months was not the doubt; it was the rage with which some bears have reacted to her interpretation of what looks like a dramatic turnaround. It's perfectly understandable that the 7 million or more Americans who've lost jobs in the past 21 months are singularly unimpressed with a 50% jump in equity prices. But it sure didn't sound like the anger she was hearing was coming from folks on the unemployment line.

A far more likely cause for the anger-at least I thought it was implicit-was that the raging bears had invested a surplus of financial and emotional capital in their gloomy outlook. Maybe they had cashed out at or near the March lows and missed the rebound.

Whatever the reason, she is hardly a raging bull, and she certainly isn't the only one to feel the chill from those who believe hard times lie ahead.

Bears shouldn't feel as if they're the only ones suffering ridicule and humiliation for the market's gyrations over the last two years. In that regard, Mr. Market has distributed shame and embarrassment with a remarkable degree of equanimity.

Normally, cerebral quantitative investors like Jeff Mortimer, the chief investment officer of Schwab's mutual fund unit, find themselves vexed by the V-shaped stock market-to the point where they think it knows more than the rest of us. For Mortimer, that comes after years of relative outperformance.

"The momentum factor has inverted," Mortimer said in an interview on the anniversary of Lehman Brothers' collapse. "This played out like a classic textbook bottom. If you wait until the all-clear sign has been given, all the gains will have been given to others."

Asked about Schwab's highly regarded equity ratings system, Mortimer was philosophical. "Our testing shows the system works 84% of the time and doesn't work 16% of the time," he said.

That system has struggled in 2009, and the firm continues to tweak it. But when it comes to the macro picture, Mortimer says his top-down model aligns closely with Leuthold's right now. Indeed, it was part of what prompted him to reduce the short exposure in Schwab's hedged equity fund from the normal 40% level to 20% late in the first quarter.

"Our model shows the S&P is still undervalued," he noted. "I think we grind higher. If there are surprises, they are [likely to be] on the upside."

Having come so far so fast, rational observers are prudent to expect that a correction is inevitable. It is, but the question is when it will happen. This is being written on September 15, and it's been over 135 days since the March 9 low, giving us over 135 days without a 10% correction. By the time you read this, that correction may have happened.

None of the observers I've heard seem to think we're at the start of a long-term secular bull market. Most seem to say we're in the process of returning to a new equilibrium, and the pre-Lehman collapse level of 1,200 or so in the S&P 500 seems like a logical place to search for it.

For her part, Sonders describes the recovery as a "square root" phenomenon, meaning the economy and markets are likely to recover to a certain level and then flatten out. The V-shaped rebound in equity prices has failed to materialize in the real economy, and at some point the markets will say, "Show me."

None of our long-term structural problems have been resolved. Sonders expressed hope that employers overreacted and eliminated too many jobs late last year and early in 2009, but she's not betting the ranch on a huge rebound in employment.

The debate over which is the bigger threat-inflation or deflation-has powerful arguments on both sides. While the stock market hates extremes in either direction, it tends to thrive in times of mild deflation. Given the explosion in the federal deficit, clients may fear inflation more, but Sonders said that until the velocity of money accelerates, price increases should remain subdued.

Equally troubling is the way Main Street so far has failed to bounce back while Wall Street giddily returns to its old ways. Next time around, the nation may find that the financial system has created a group of megabanks that are too big to save.

Meanwhile, Sonders thinks global currency markets could move to a system where the U.S. dollar is no longer the world's lone reserve currency, but one of several reserve. That movement, however, is likely to be gradual.

All that is out there in the future. For now, the search for a new equilibrium seems to be steamrolling the bears.