1. All three major U.S. indices have now closed above their respective 200-day simple moving averages (SMA) and have made a series of higher highs and higher lows. These are the first steps in the transition from a bear to a bull market. Look for the 200-day SMAs on all three indices to slow their respective rates of descent, turn sideways, and ultimately turn higher as confirmation of this new bull trend.
2. Credit markets continue to improve. Most noticeably, the TED Spread has come back down into the .50-.55 range. As we have discussed before, the TED Spread has been a leading indicator for future moves in equities. In its own bear market, the TED Spread has now made a series of lower highs and lower lows since topping out last October. Even with this improvement, it should be noted that the TED Spread needs to fall even further, to the .30s, before it returns to the pre-credit crisis levels of 2007.
3. Breadth is increasing. While volume has been not been overwhelmingly effusive as is typical at the start of a new bull cycle, breadth has been very positive. The Advance/Decline Line on the NYSE made a higher high late last week, ahead of the Dow and the S&P 500's break above their respective 200-day SMAs. This shows strong underlying demand with most groups participating in the early stages of this nascent bull. Noticeably weak groups like the biotechs and utilities are also showing signs of bottoming, two groups which have historically led in the early stages of new bull markets.
4. Banks are raising capital easily. Bad news continues to be ignored and any slight hint of good news is embraced with open arms. This is bull market behavior. North Korea launched two new missiles last week and stocks barely budged. Jobless claims are still above 600k and the market feels good that they are not at 700k. Hewlett Packard’s earnings disappointed a few weeks ago and yet the NASDAQ was the first index to break to higher highs. Keep a sharp eye on how the market responds to bad news over the coming months for a sign of a change in investor sentiment and psychology.
6. Like the TED Spread, the $VIX is also in its own bear market, making lower highs and lower lows in the 40s and most recently in the 30s. Look for the $VIX to work toward the lower 20s as more money gets funneled into equities in the coming months. Lower volatility creates one of the most important backdrops necessary for any market to work higher: fresh money flows. With mutual fund cash piles at the highest levels in years, look for a continued move lower in the $VIX to bring in more money from the sidelines as intra-day volatility continues to decline.
7. The U.S. is following the lead of emerging nations already in bull markets. China, Russia, Taiwan and Chile have been in established bull markets for the past two months. A new paradigm continues to be created, with the U.S. slowly losing its economic might and emerging markets beginning to flex their collective muscle more forcefully than has ever been observed in our lifetimes. Look for this trend to continue in the coming decade.
8. A good number of pension funds and hedge funds have missed the move so far. With notable economists like Nouriel Roubini still calling for a retest of the March lows, the institutional money that has remained bearish has missed much of the upside move to this point. Fund managers who want to keep their jobs must now put massive amounts of money to work in an effort to play "catch-up" with the indices for the remainder of the year.
9. The “average Joe” market participant is still shell-shocked and too frightened to return to the market after selling out at the March lows. Odd lot selling activity on the NYSE is at the highest level in seven years, indicating that the small investor is selling into this rally as opposed to supporting it. Look for retail interest to improve as the year progresses.
10. Takeover activity has spiked of late. While the prices paid for some of these buyout are a bit befuddling - namely Intel's takeover of WIND for a 40%+ premium and EMC’s bid up for Data Domain over NetApp’s offer - this activity is very encouraging for the overall market.
11. As the market rallied off the March lows, a rare bull market indicator was triggered – the Martin Zweig Breadth Thrust (ZBT). According to Dr. Zweig, who authored the seminal book “Winning On Wall Street,” when the ZBT rises from below 40% to above 61.5% in the span of 10 trading days, a bull market is just around the corner. What makes this so special is there have been only 14 ZBTs since 1945 up until now. Let’s take a look at number 15:
12. With summer swinging into full gear, June and July will be busier than usual as institutional money goes to work so that money managers can enjoy August in the Hamptons. By getting fully-invested in the next two months, managers will still be able to take that August vacation, secure in the knowledge that they will not miss any further upside in the market. While this may sound outlandish now, things could very well play out this way. Never under-estimate a fund manager's desire to kick back and relax.
Now for the BAD NEWS: With valuations on the indices very high and the "easy money" already made over the past few months, I envision this cyclical bull market to be very short and uninspiring. Here are 6 reasons why.
1. The NASDAQ only registered 43 New Highs last Friday, a very low reading for a new bull market. The lack of strong big-stock leadership at the onset of this cycle suggests that we may only see 15-20% more upside before topping out. While leadership should improve in the coming months, the low number of stocks making new 52 week highs is a big red flag and an indicator that should be watched closely as the rally continues.
2. The banking system and the housing markets are not out of the woods by any stretch of the imagination. What will happen to the TED Spread and the credit markets when the Fed is forced by the bond market to slowly drain liquidity? Look for another quick recession to hit the U.S. economy late next year should rates on the 10-year bond move above 5% as the dollar weakens and inflation seeps back into the system.
3. There is too much resistance and too many angry sellers above current levels. Look for the markets to expend all their energy getting the NASDAQ back to 2100-2200 and the S&P 500 up to 1100-1175 before they top out. There will not be enough strong buyers down the road to overtake the legions of angry Americans who no longer believe in the stock market and the American dream. Like the economy, the U.S. indices will require many years of repair work before strong leadership can propel the markets above these significant zones of technical resistance.
4. Volume has not been overwhelmingly strong. Past bull markets have been typically marked by strong surges in volume in the indices on the up days. While it is summertime, the lagging volume on the recent pushes above the 200-day SMAs cannot be looked upon as anything other than suspect and a crucial indicator of market strength over the coming months.
5. We are only in year 10 of a secular bear market for equities. The commodity cycle still has a long way to go before it has run its course and equities become attractive enough to warrant the large and consistent money flows that are the hallmarks of secular bull markets.
6. With inflation looming and the long-term “valuation contraction” in equities not yet complete, expect a range-bound market and a series of mini-bull/mini-bear stretches over the next 5-7 years. This must continue until the public has finally sworn of equities "for good." Only then will we be in position to start a new secular bull market cycle that will last for over a decade.
Strategy: I think this could be one of the shortest bull markets in history. As such, I am trading very aggressively in names that offer the best growth prospects in the market right now. Furthermore, I believe that the easy money has already been made since early March. So while it could be a nice ride for the next 3-6 months, I think it is one that will end badly. It is just a question of when.