Can The Market Sustain Its Bullish Run?

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The plural of anecdote is not data. I spent some time coaching a high school debate team, so I am all too aware of that fundamental truth. That said though, when it seems that everyone around you feels the same way about the market you would be foolish not to listen. Over the last few days almost everybody I have met, when made aware that I am a contributor here and elsewhere, has said some version of the same thing: ”This can’t go on, can it?”

It is interesting to me that when I then asked the obvious question, “Why not?” nobody seemed to have an answer. The belief that a big collapse was imminent was based on vague feelings of fear, memories of 2000 and 2007, and the fact that there were lots of pundits warning that collapse was just around the corner. The fact is though that we are nowhere near the crazy valuations of 2000 or 2007 and most of those publicly predicting doom seem to be motivated by one of two things.

Either they are ideologically opposed to the current U.S. President and cannot believe that they are watching the market soar on his watch or they have a deep understanding of the old adage that fear sells. I should probably add a third motivation; those that are terrified of being made to look foolish by still making bullish noises just before the big drop comes.


Regular readers will know that I have pointed out many times, including most recently here, that I have remained a cautious bull through all of this and I still am. I don’t wish to keep repeating myself, but none of the conditions that have driven us to here, huge global liquidity, an improving U.S. economy and increasing corporate profits, have changed. In the short term markets can be infuriatingly illogical, but ultimately fundamentals win out.

In the short- to medium-term though, it is the new highs that have people worried. The S&P 500 once again closed yesterday at a record high, 1911.91. The 1900 level had provided some serious resistance and the way it was broken represents a classic market pattern that traders will be all too familiar with. The third attempt to break through a level is often crucial and never more so when previous price action suggests a buildup of pressure. Take a look at the 6 month chart for the S&P 500.

SPXSPX

The first attempt at the 1900 level, at the beginning of April, saw an intraday high of 1897.28, before the market backed off over 4% in a week. Pressure built back up, however, and by May 13 we were back at the level. This time it was truly tested, with intraday action topping out at 1902.17. The eventual breakthrough began to look like inevitability here for two reasons. Firstly, we were unable to close above the level, and secondly the retracement, when it came, was muted; the S&P lost only 2% in two days before bouncing back.

This pattern of repeated challenges of a level and decreasing retracements as you back off usually indicates growing pressure, in this case buying pressure, somewhat like a building head of steam. Eventually the breakout will come and will usually be followed by a sharp move up. The level that represented resistance becomes support and a new trading range is established. As I say, this is usually the case, but I don’t believe it will be this time, for two main reasons.

The break up above 1900 on the S&P has come on gradually reducing volume. This would indicate that, rather than building pressure from buyers it was just a lack of conviction on the part of sellers that allowed the level to be breached. Secondly, there is that anecdotal evidence that I cited. If my tiny unscientific sample extrapolates throughout the market there are an awful lot of nervous people out there. Nervous longs see a break above a level as an opportunity to take a profit, not as a sign of strength.

In the short term, then, I believe a quite rapid collapse back below 1900 is likely. It could be that this will spook investors even further and a quite sharp drop could ensue. The long term bull case is still intact though, so for most investors any drop, should it come, will once again be more of a buying opportunity than a cause for panic.



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.




This article appears in: News Headlines , US Markets , Economy , Stocks

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Martin Tillier


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