Evan R. Guido
The huge rally in the stock market the past five weeks has generated an overbought condition, which along with growing optimism increases the odds of a near-term pullback. Looking further out, stocks are expected to continue to benefit from improving economic conditions and from a favorable technical backdrop.
The current rally is one of the broadest in stock market history, which means all areas are in sync and the momentum is strongly on the side of the bulls. In addition, all major domestic and global indices are solidly above their 200-day moving averages suggesting stocks enjoy good support just underneath at 975 on the S&P 500 and 9000 in terms of the Dow Industrials. Before the stock market runs into an important headwind, we would expect investor sentiment to reach excessive levels and or a significant rise in interest rates.
Investor psychology is now moving away from caution and skepticism found at the July lows to optimism and complacency. Bullish sentiment, however, has not yet reached levels considered excessive that historically signals trouble ahead. The latest survey from the American Association of Individual Investors (AAII) data shows the bullish camp rising to 50% from 48% last week and the bears falling to 35% from 38%.
The statistics from Investors Intelligence, which tracks the recommendations of Wall Street letter writers, tells a similar story with the bullish camp expanding to 47% from 42% the previous week and a decline in bears to 26% from 31%. A sell signal would be triggered by the above data when the bulls outnumber the bears by a ratio of 2 to 1 or more. The 10-day CBOE put/call ratio fell to 82% last week, a neutral reading (75% is considered bearish and 95% bullish). The CBOE 5-day equity put/call ratio, however, plunged to 58%, issuing a short-term sell signal (62% is considered bearish and 77% bullish). The CBOE Volatility Index finished the week at 24.8, a neutral reading (22 is considered bearish and 32 bullish).
The latest economic data suggests that the recession likely ended late in the second quarter and that the economy is in the process of stabilizing. The July Employment Report surprised on the upside last week with the unemployment rate falling for the first time since April 2008. Non-farm payrolls were also better than expected and the average work week rose for the first time in 11 months. Perhaps the most telling number was the increase in the work week for the manufacturing sector. This should translate into a stronger industrial production figure for July to be reported on Friday.
Other economic reports this week include the Consumer Price Index (CPI) and Consumer Sentiment. The CPI is anticipated to show little inflation with the index up 0.1% and consumer sentiment is expected to climb to 68.5 from 66.0 the previous month. Sentiment is closely tied to the jobs environment and the performance of the stock market. Considering the trends are improving in both areas, sentiment is likely to receive a large boost this quarter. The yield on the benchmark 10-year Treasury rose to 3.8% last week and is expected to remain range bound in the vicinity of 3.25%- 4.0% into the first quarter of 2010.
Short-Term Trading range with risk to 950 and reward to 1020 on the S&P 500
Intermediate-Term Trading range with risk to 870 and reward to 1050 on the S&P 500
Long-Term Major support at 825 on the S&P 500 - Reward to 1075 on the S&P 500
Strongest Sectors Information Technology, Materials and Consumer Discretionary
Leadership Mid-Cap and Small-Cap Growth
Fed Action Fed expected to hold course well into 2010
Treasury Yields 10-year Treasury yield next six months 3.00% to 4.00%
No comments on this item
Only paid subscribers can comment
Please log in to comment by clicking here.