Evan R. Guido
Stocks broke out of a two-month trading range on the upside last week, encouraging a host of new buying and short covering.
Technically the equity markets are on firm ground, which should allow stocks to continue the path toward 1000 on the S&P 500. The current rally is broad based, investor sentiment remains cautious and skeptical, momentum is positive, and virtually all the major domestic and international indices are above their 200-day moving averages. Although the economic fundamentals remain uncertain and fragile, expectations are that business conditions will stabilize in the third quarter and return to positive growth by year-end.
Investor sentiment indicators argue that psychology has shifted from excessive pessimism to caution and skepticism. The latest survey by the American Association of Individual Investors (AAII) shows a rise in bulls to 38% from 29% the previous week. The outright bears fell to 42% from 47%. Last week marked the sixth week in a row that the bears have outnumbered the bulls. The stock market is not likely to be vulnerable until the bulls outnumber the bears by a ratio of 2 to 1. Investors Intelligence, which tracks the recommendations of Wall Street letter writers, shows the bullish camp rising to 37% last week from 36% the previous week. The bears were unchanged at 36%. The fact that the professional advisors, despite the market at new highs, are equally inclined towards stocks is bullish. The CBOE 10-day put/call ratio fell to 84% last week (75% is considered bearish and 95% bullish), a neutral reading. The CBOE equity put/call ratio declined to 62% which is short-term bearish and suggests stocks could pull back very near term (62% is considered bearish and 77% bullish). The CBOE Volatility Index (VIX) remained unchanged at 23 suggesting complacency is creeping in near term.
Federal Reserve chief Ben Bernanke, before Congress last week, suggested that short-term interest rates will remain low for a considerable period of time. The Fed's statement is bullish for the economy and the financial markets, but a potential negative for the dollar and inflation. But with the economy struggling to find firm footing, the orderly decline in the U.S. dollar this year is bullish for exports and could help boost the economy. Inflation is not likely to become a problem until much later in the recovery cycle (2011) given the excess capacity in the labor market that has caused wages to stagnate for the first time in four decades.
This week's economic calendar, which includes durable goods orders, new home sales and consumer sentiment, is expected to show recessionary pressures are receding. Second quarter GDP to be reported on Friday is anticipated to show the economy contracted 1.5%, a huge improvement over the 5.5% drop in the first quarter. Bond yields rose last week in response to the strong rally in the stock market and the record supply of Treasuries due this week ($115 billion). Despite the unprecedented supply, the yield on the benchmark 10-year Treasury note is expected to vacillate between 3.00% and 4.00% well into next year.
Short-Term Trading range with risk to 900 and reward to 985 on the S&P 500
Intermediate-Term Trading range with risk to 870 and reward to 1000 on the S&P 500
Long-Term Major support at 825 on the S&P 500 - Reward to 1060 on the S&P 500
Strongest Sectors Information Technology, Utilities and Health Care
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%
Authored by Bruce Bittles. Normal disclosures.
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