For quite a while, we have heard that global economies are weak, that the yield curve is inverted, and that we are on the verge of economic recession. According to data from the Stock Charts site, August saw multiple daily CBOE put/call ratios of over 1.25, levels that have been associated with intermediate-term market lows over the past two years. The site also showed close to 50% of investors in the American Association of Individual Investors (AAII) survey bearish in August, among the highest level in several years.
In spite of this negative sentiment and concerns over everything from trade wars to oil supply disruptions, we have not seen any sustained selloff in stocks and, indeed, are hovering near all-time highs in many U.S. indexes. What is going on in the stock market?
One clue might be the thrust of the rise off the August lows. A very interesting post from the MacroCharts site finds an unusual degree of momentum strength among emerging market stocks. This is significant, because emerging market equities have underperformed their developed market counterparts for quite a while. According to MacroCharts, the percentage of stocks that gave buy signals across a number of markets hit unusually high levels. What this suggests is strength across a broad range of shares: a momentum thrust. In the past, this has characterized many sustained moves from intermediate-to-longer term market lows. Interestingly, the site finds evidence of similar breadth thrusts in U.S. stocks, including small-cap shares, which have been recent underperformers.
The TraderLion site observes that powerful moves in individual stocks–gains of 20+% in one to three weeks following an upside breakout–tend to continue over a subsequent eight weeks, as the momentum attracts investors seeking rapid gains. In my own research, I track the number of stocks across all U.S. exchanges that make fresh one-month new highs. (Data from the Barchart.com site). When that number has exceeded 1200 since 2010 (N = 141), the Standard and Poor's 500 Index has been higher 120 times and lower 21 times fifty days later, for an average gain of +3.83% (versus +2.69% for the rest of the sample). In such cases, market strength does not suggest an “overbought” condition ripe for reversal. Rather, the breadth and strength of the move tends to lead to further gains.
On a similar note, Peter Brandt observes that equities show promise, noting that the cumulative advance-decline line for U.S. stocks has been moving to all-time highs. Tracking charts for both U.S. and international equity markets, he notes the potential for upside follow-through. His most recent report shows long positions in U.S. and China shares. Jeff Miller observes falling confidence and increased uncertainty in his review of economic data, but observes that retail sales have been strong and recession odds are surprisingly low on several measures. Indeed, this past week revealed housing starts data that were the strongest in 12 years.
To be sure, events in global trade, oil supply, and myriad other factors could tip markets and the economy. Evidence is growing, however, that stocks are not only strong, but showing the kind of upside breadth that has led to intermediate-term upside. In the wake of recession and trade fears, a year-end rally could spark quite a chase among money managers eager to lock in 2019 performance.
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