The Most Hated Rally I’ve Ever Seen – Here’s What Has the Market Up

By David B. Armstrong, CFA | Apr 25, 2016 | Weekly Market Commentary

I don’t know what it is, but it seems that everyone I casually chat with is sour about this rally. I’m not sure if it’s because people are in cash, if it’s because they are over-weighted to sectors that are not up as much as the market, or if it is because they are just sour about a lot of the economic data that keeps pointing to a tepid expansion.

Maybe it’s the political season.

Maybe it’s a worry that we will see the market do a repeat of 2001-2 and 2008.

Regardless, it’s tough to argue that while we have seen our dips along the way, the market has been up a lot off the March, 2009 low and the recent bounce back is remarkable.

Below, you can see Bespoke’s “Chart of the Day.” It points out that the S&P 500’s 50-day moving average is about to cross over the 200-day moving average as BOTH moving averages are increasing. It’s called a “Golden Cross.”

The Dow saw these indicators cross last week.

It is generally interpreted a bullish sign, but the bear will simply point out, “Oh yeah, what about the cross in December, 2015?” See how the 200-day moving average was declining? That’s different.

What the Bespoke data are telling us is that when a cross like this is seen, the S&P 500 is positive 50% of the time over the following week, 62.5% of the time over the next month and 75% of the time over both the next three and six months.

It has only happened 16 times since 1933 and the last one was in 2010.

You have to go all the way back to May of 1990 to find a six months mark after a cross like this where the index was negative. That’s kind of a long time ago – I should know, I had just graduated from college and been commissioned as a brand new 2nd Lt in the Marine Corps…that was pre-Desert Storm.

I point it out as interesting data AND as an observation that the market has recently rallied significantly and with some serious velocity.

It bolsters my broken record advice – if you don’t need money from your portfolio over the next 18-ish months, leave it alone because you can never predict when or how quickly the market will turn. That applies to both up and down.

Small Caps

Nothing is harder or less fun than explaining why we stick with our convictions in the face of seeming wrong. Really wrong. We have not backed off our thesis that small caps are worthy of overweight, and this chart below shows that we have had to seem wrong for a long time in the face of “stealth improvement.” It’s the burden we bear when snapshots in time are used to evaluate performance. I’ve recently written about this by referring to “crossing state lines” on a drive from D.C. to Miami which you can find here.

After 167 consecutive days trading below its 200-day moving average, the Russell 2000 (the most commonly referred to index for small caps) has broken back through that moving average. That’s the longest amount of days since 1979. The Russell 2000 is now up 20.23% off its February 11th closing. Don’t look now folks, but that’s technically a bull market point for this index that was previously in a bear market.

Want to see what has historically happened after the Russell 2000 has gone over 150 days below its 200-day moving average then crossed it? Nothing is a guarantee, but here are the charts (again, from Bespoke).

Of course now that I’ve mentioned all of this, I hope I have not jinxed it…keep your fingers crossed. (Get it?)

Why Are Markets Higher?

It’s most likely a combo of a few things:

1. Oil prices are up. Higher crude has aided the market and should support the earnings of energy producers.  Also, it quells the worries in the high-yield bond market too.
2. Recession fears have really subsided. It seems like yesterday I was making our first quarter video about how we don’t see the signs of a recession unless there is clear over-borrowing, over-spending and over-confidence.  I know there are a number of economic indicators that still point to tepid growth, but weekly jobless claims have fallen to the lowest level since 1973. More on job stuff below.
3. As a follow-on to #2, if economic conditions were considerably declining, we’d probably be seeing an increase in layoffs.  This would be reflected in weekly claims for unemployment insurance increasing.  The Charles Sherry chart below this list highlights that weekly claims turned higher before the onset of each recession.
4. It’s still early, but first quarter profit reports are doing well versus expectations. Of course it’s easy to jump over a bar laying on the floor…but still.
5. The stability of the dollar helped fuel last month’s rally.  Remember, a strong dollar means that firms have to convert any sales done overseas back into the stronger U.S. Dollar when they report quarterly profits.
6. The Federal Reserve has signaled an unwillingness to raise interest rates. They meet this week.
7. China fears have receded. I’ve written in the past that U.S. exports to China comprise less than 1% of U.S. economic output, but China always dominates headlines, scares traders and alarms short-term investors… BUT NOT LONG-TERM INVESTORS WITH A PLAN.

Earnings

As of Friday, there have only been 309 companies who have reported out of the 1500 that will ultimately report this season. Remember, Alcoa kicks off the season and Walmart ends it. Here’s where we stand at this early stage of the first quarter reporting season.

Companies beating their revenue forecasts stand at 54%, which is slightly higher than the final number for fourth quarter, 2015 (Q4 2015). Companies beating their earnings estimates stands at 64%, which is higher than the Q4 2015 final number of 63%. While it is currently only 1% higher, and it is still early, the Q4 2015 number was actually the highest reading seen in five years, going back to Q4 2010.

Give us a call with any questions.

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