In the past two Street$marts as well as on this blog, I have pounded the table that the odds heavily favored a market rally. I thought that we were just seeing the fourth 4-8% pullback since the major low on July 1, 2010 and the bulls were about to pounce. When so many people emailed, called and interviewed with the opposite forecast, I felt even stronger that higher prices were in order. And the market did not disappoint!
Longer-term, the Russell 2000 (small caps), S&P 400 (mid caps), high yield bonds and the Dow Jones Transports scored all-time highs at the April market peak along with the Advance/Decline line, a cumulative measure of the number of stocks going up and down each day. On the fundamental front, something I am certainly no expert in, S&P 500 earnings are growing faster than the S&P 500 index. That means the market is getting cheaper even though it is still rising. We are actually seeing price/earnings multiple compression rather than the usual expansion. It is highly unusual for a bear market to begin with so many positives at a market peak. In April 2010, we saw the same thing, but had to endure a 17% correction before more new highs were seen.
One possible scenario that worried me during the rally was that the market was going to make it difficult and stop short of new highs and begin to rollover. People who trade and invest by using charts would call that formation a Head and Shoulders Top. Only when the index breached the blue neckline and closed below it, would the pattern be confirmed and much lower prices would ensue.
Until next time…
Heritage Capital LLC