Yesterday, the S&P boasted its biggest one-day gain since October. The combination of improving economic news and the S&P 500 rising from an ominous level of 666 on March 6 to 823 yesterday -- a rally of 23.6% -- has many investors asking whether the current rally in global equity markets could mark a turning point for global stock markets.

The immediate fillip for yesterday's rally was the announcement of Treasury Secretary Tim Geithner's plan to address the issue of "legacy" (read: "toxic") assets on the books of U.S. banks. Conceptually, the plan is essentially a rehash of the Resolution Trust Corporation (RTC), which successfully addressed the Savings & Loan crisis in the early 1990s. Chief executives of financial groups from bond giant PIMCO to the secretive Carlyle Group hailed the plan as "creative." Princeton economist and 2008 Nobel Laureate Paul Krugman predictably condemned the plan as a scheme for Wall Street to enrich itself yet again.

With investors having so many false hopes dashed over the last 18 months, it's no wonder most are unwilling to say "this time it's different." One well-known market timing service with a track record both stronger and older than most Wall Street analysts signaled a "buy" last week. Yet that service has also signaled six false "buy" signals just since the beginning of 2008. Market rallies of 20-25% are common in bear markets and the S&P 500 is still far from where it was on New Year's Day, 2009. Put another way, the S&P 500 is merely back up to where it stood when Tim Geithner disappointed the market with his sketchy plans for a bank rescue in mid February.

Markets on a Knife's Edge: The World beyond the Stock Market

While most investors are still focused on the U.S. stock market, the signals from other asset classes are more encouraging. Emerging markets as a group are now in positive territory in 2009. Asian markets are up 20% from their October lows. Oil is trading near a four-month high.

Currencies

Even though big name hedge fund mangers like George Soros have made some of their biggest investment coups betting on currencies, few investors even consider currencies an asset class. Yet savvy currency bets -- going long the U.S. dollar and the Japanese yen and shorting the British pound sterling and the euro -- have been one of the few ways to make money in the past year or so.

But currencies are hardly a no-brainer. A year ago, the world's top investors were betting against the U.S. dollar. Yet the Greenback turned out to be one of the best-performing assets in the world. The dollar performed well for the same reason that much of the world craves a U.S. passport. When the going gets tough, you'd rather be in Burlington, Vt., than Budapest, Hungary. Yet there is little doubt the U.S. dollar is under pressure on all fronts. Frustrated by the role of the U.S. dollar, euro, and yen in the world economy, China has just called for the U.S. dollar to be replaced by a new world reserve currency. But so far, the dollar as a currency is much like the way Winston Churchill described democracy: "the worst form of government, except for all the rest that have been tried."

Commodities

Over the past 18 months, commodities have gone through a bigger and badder boom and bust cycle than even U.S. stocks. And they have taken many commodity-based economies like Russia and Brazil with them. The commodities supercycle became so much a part of the conventional wisdom that investors were caught off guard when the price of everything from oil to copper collapsed in July. Much to the consternation of perennial commodity bulls like Jim Rogers, one of the biggest money makers of 2008 turned out to be a bet against commodities.

But commodities will turn one day -- and may have already done so. "Dr. Copper -- the metal with the Ph.D. in economics" -- bottomed in December, as China is gobbling up a massive amount of the metal to support spending as part of its $585 billion economic stimulus program. And if you believe that inflation is coming, investing in "real assets" is a good way to protect yourself. The one big disappointment? Gold. Yes, the yellow metal has breached record highs in nominal terms and has outperformed global stock markets. But it is nowhere near the $2,400 level it would have to reach today to hit record highs in real terms.

Fixed Income

The "inflation" versus "deflation" debate is the biggest one facing the global financial system today. While the United Kingdom recorded its first drop in consumer prices in a generation last month, for the smartest investors out there, the coming inflation is a no-brainer. As Warren Buffett observed, "When the financial history of this decade is written, it will surely speak of the Internet bubble of the late 1990s and the housing bubble of the early 2000s. But the U.S. Treasury bond bubble of late 2008 may be regarded as almost equally extraordinary." As John Taylor of Stanford pointed out in today's Financial Times, it is hard to imagine that the Fed's expansion of its balance sheet from $8 billion to an expected $3,365 billion will not lead to inflation.

The short U.S Treasuries trade -- betting on the "inflation" scenario -- has become the biggest one-way bet among the world's smart money. Although moves like the Fed's announcement of quantitative easing last week can throw a spanner in the works, over the long term it's hard to imagine that foreigners won't demand higher interest rates from a profligate U.S. government.

Markets on a Knife's Edge: Uncertainty is the Only Constant

In many ways, today's financial markets are as uncertain as they have ever been. And government bailout efforts only complicate the picture. Any scientist will tell you that intervention in a complex system will lead inevitably to unforeseen distortions. Consider the current proposals to impose a 90% tax on bonuses given to employees who earned more than $250,000 from banks that took more than $5 billion of government rescue money from the Troubled Asset Relief Plan (TARP). The unintended consequence? The best bankers at U.S. banks like Goldman Sachs, Citigroup and JPMorgan Chase are already laying plans to flee to European and Japanese banks like Barclays, Credit Suisse, Deutsche Bank and Nomura -- firms that have not received TARP funds. London also suddenly looks more attractive than New York. Expect to see dozens of stories of like this over the coming months as the economy absorbs the impact of government spending.

Those who have been playing defense in the markets will be caught out at some point -- whether it is during this rally or a future "real" one. Although I hope I am wrong on this prediction, I believe that the recent rally has more to prove before we can declare the birth of new bull market. Markets remain on a knife's edge.