Inside The Stock Market ...trends, cross-currents, and outlook

In September, the percentage of S&P 500 stocks outperforming the S&P 500 index fell to 40.7%, the lowest reading since mid-2012. Breadth has followed a conventional path over the course of this unconventional bull market; in the current phase, the odds of outperformance are steadily diminishing.

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Our bearish stance could be tested by the arrival of the seasonally strongest six-month window of the four-year electoral cycle. Since 1926, November of the mid-term year through April of the pre-election year has produced an average un-annualized S&P 500 +16.4% total return.

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Regardless of how it’s measured, the liquidity available for global stocks continues to run off.

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The longevity of this bull market is impacting tactical asset allocators in ways great and small.

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We should emphasize that our characterization of stocks as dangerously overvalued applies only to the U.S. market.

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“Three steps and a stumble” was the old rule of thumb for timing the impact of Fed tightening on the stock market.

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After a strong 2016 and a “Bridesmaid” (i.e., sector runner-up) performance in 2017, the Materials sector seemed primed to benefit from the “late cycle” character of the economy in 2018.

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We’ve previously noted the narrowing performance divergence between top- and bottom-performing Emerging Market (EM) countries in recent years.

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The S&P 500 finally erased the losses from its nine-day swoon in January and February.

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It’s been amusing to watch the narrative surrounding Fed policy evolve as the market has rallied.

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The S&P 500 has fully erased its January and February losses, but there’s probably a market message in the fact that it took so long to do so.

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Traditional breadth measures have yet to show end-of-cycle thinning of the ranks, but some secondary measures suggest that process may be underway.

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Many equity investors have suggested there’s no comparison between today’s expensive market and the bubble peak of Y2K, pointing out that today’s Technology titans are “real companies” with massive revenue underpinnings.

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While the bottom-line impact may ultimately be the same, there’s one thing we find more demoralizing than getting the direction of an asset wrong: getting the direction right and not getting paid for it.

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We previously mentioned the increasing focus on the real short-term interest rate as an important measure of the Fed’s policy stance. In truth, we wish the Fed had paid more attention to this measure during this cycle.

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A “moderate-risk” S&P 500 VLT BUY signal was triggered at the end of August, but it’s not all good news. Any upturn in the VLT while the indicator is in positive territory also sets up a pattern known to veteran market analysts as the “Killer Wave.”

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In late January we speculated how long it would take for the S&P 500’s bloated valuations to reach more reasonable levels. The S&P 500 now trades back where it was in January and the seven-month break included some of the best growth rates most have ever seen. We found ourselves asking: Did chubby Mr. Market shed any pounds as he pedaled away on his stationary bike?

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To summarize (and oversimplify), here are some of the frequent client responses to our prevailing “cautiously bearish” stance:

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The S&P 500 is on the verge of reversing its early-2018 losses and, if achieved, it would initially be accompanied by six “Red Flags”—which are based on key market indexes failing to record new highs in the 21 trading days preceding a new S&P 500 high. The last time the tally reached “six” was in May 2015—occurring at the final high before an S&P 500 loss of nearly 15% over the ensuing nine months.

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A few clients pointed out that the longest-ever recovery from an intermediate correction (Apr. 1994–Feb. 1995) became the base from which the S&P 500 would eventually triple over the next five years. We’re not equipped to address that possibility in an objective fashion, so we’ll let you be the judge.

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