Evan R. Guido
The equity markets rose last week fighting off a host of potential harmful negatives indicating that the path of least resistance remains to the upside. Stocks have moved in a sidewise fashion since early May, but the broad market continues to make new highs and investor sentiment remains cautious.
A favorable technical condition and the potential for the economy to turn the corner this summer will likely lead stocks to soon test the previous highs near 8575 on the Dow Industrials and 929 using the S&P 500. Should the market break out to new high ground significant pressure could develop on the large cash positions still in money market accounts earning zero return. We recommend overweighting the materials and information technology sectors and emerging markets in Asia and underweighting utilities, health care and consumer staples.
The weight of the evidence from the sentiment indicators continues to show the majority of investors cautiously optimistic about the stock market. The latest survey from the American Association of Individual Investors (AAII) shows a rise in bulls to 40% from 34% the previous week and a rise in bears to 48% from 45%. The AAII numbers are considered bullish given the majority in the poll remain negative. The most recent report from Investors Intelligence, which tracks the opinions of Wall Street letter writers, show the bullish camp unchanged from last week at 41% and a small drop in bears to 28% from 29% in the last report. The advisory service data is considered neutral. The CBOE 10-day put/call ratio fell slightly to 83% from 85% the previous week (75% is considered bearish and 85% bullish). The CBOE equity put/call ratio climbed to 65% from 64% the previous week (62% is considered bearish and 77% bullish). The CBOE Volatility Index rose to 32 from 31 last week and is considered neutral.
The latest economic data suggests the rate of decline in the U.S. economy is decelerating, which could be a precursor of improved business conditions by the third quarter of the year. First-quarter GDP was revised to - 5.7% annualized rate from -6.1% previously reported with most of the inflation indicators showing little threat of rising prices this year. Most encouraging was another large jump in consumer confidence in May and an upward revision in the April confidence number.
The increase in consumer confidence was widespread and included gains in all regions of the country. The consumer confidence numbers are the strongest piece of evidence that the deepest part of the recession has passed and that the economy could stabilize later this summer. This week the financial markets will focus on Friday's May Employment Report that is anticipated to show a deceleration in the number of jobs lost but another large jump in the unemployment rate. Consensus estimates are the economy lost 521,000 jobs in May with the unemployment rate soaring to 9.3% from 8.9% the previous month. The government bond market enjoyed a huge rally last Friday pushing the yield down to 3.45% and unchanged after a volatile week.
Short-Term Trading range with risk to 870 and reward to 940 on the S&P 500
Intermediate-Term Trading range with risk to 810 and reward to 1000 on the S&P 500
Long-Term Major support at 750 on the S&P 500 - Reward to 1000 on the S&P 500
Strongest Sectors Materials, Information Technology and Energy
Leadership Mid-Cap & Small-Cap Growth
Fed Action Fed expected to hold course into 2010
Treasury Yields 10-year Treasury yield next six months 3.00% to 3.75%
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