On May 21 of 2015 the Standard & Poor’s 500 index, an index of the stocks of the largest 500 US companies, hit its all time high. The S&P index is a widely used gauge that gives investors a measure of the overall condition of the US stock market. For most it is an indicator of how their portfolio is performing on a relative basis. Over the last year and a half the index has climbed over 13% to recent levels, although it was not a smooth, easy path. This brings up a very interesting dilemma for investors and money managers alike. “When will it end?”
While it is possible that the stock market as measured by the S&P will continue to rise, some interesting research has come from the desk of Richard Dickson of Lowry Research, one of the oldest technical advisory firms in the country. Lowry analyzes market trends by looking at stock prices, price momentum and trends, and supply/demand measures. Their researchers look for patterns in the information to identify signals that are useful in predicting future price movements. Based on recent technical developments, here is what Lowry sees as a possible outcome for the market.
Lowry’s analysis suggests that we are in the final stages of a bull market and that the market could make a major top (a bull market’s final high) in the next 4 to 6 months. This would suggest that the bull market’s run could end around the November-January time frame.
What is the basis of their analysis? The firm studied the major market tops from 1929-2007 and found that previous market tops all had similar characteristics or patterns. These include a decline in the percentage of stocks participating in the advance of the market and a decline in the percentage of stocks making new highs with the market. He also noted that the underperformance of small cap stocks was also an early warning. Hmmm, Check, Check and Check.
While Lowry has been observing early signs of a weakening bull market throughout the year, only recently has one of its proprietary indicators turned negative, which, as Mr. Dickson puts it, provides the warning that we are in the final stages of a bull market.
Fundamentally, many factors suggest a tailwind for the market. Economic factors such as employment, GDP growth, leading indicators are positive; oil prices have halved; inflation is low; foreign central banks are easing monetary policy; and the Federal Reserve is comfortable enough with the economy to (plan to) begin raising interest rates in the US this year. Bull markets typically peak at the end of a Fed tightening cycle, not at the beginning, or as the result of sudden oil price spikes, not major declines. And, while some may argue that the Fed has manipulated stock prices, many valuation measures do not suggest a bubble in stocks.
So what does one do in this situation? Our outlook is still positive for the remainder of the year, but it is with caution that we look beyond that horizon. 4-6 months is still some way away, so we have time to see which side prevails, whether Lowry’s technical view comes true or whether the economic backdrop continues to support rising stock prices. Either way, we believe that stock selection and sector rotation, with an ability to move into cash, will be two keys to portfolio construction in the coming months.
As always call or email us any questions you may have or topics that you would like discussed.