Caution Warranted Despite Full Spectrum of Bullish Indicators Worldwide

I often refer in my posts to the use of moving averages as indicators of the stocks market’s secondary and primary trends. Although not stand-alone indicators, the moving average lines add a certain discipline to the investment decision-making process when used in conjunction with other fundamental and technical measures.

Just to recap: The 50-day moving average is an indicator of the secondary trend. However, the longer-term 200-day moving average is of more importance as an indicator of the primary trend. Although it is a lagging indicator by construction, it fulfills a useful role in keeping investors on the right side of the long-term trend.

It is important to note that three conditions must be met in order to call an equity bull market, namely (1) the index in question must penetrate the 200-day average, (2) the 50-day average must cross the 200-day line, and (3) the 200-day average must turn upwards.

Following the surge in global stock markets since the March 9 lows - and earlier lows in the case of a number of emerging markets - one after the other has started fulfilling the above conditions. This is fodder for the bull argument, especially when considering the following:

(1) The benchmark indices of every single mature and emerging market that I monitor are above both the 50- and 200-day averages, as can be seen in the two graphs below (only the 200-day lines are shown).

Click to enlarge:

Source: Plexus Asset Management

Source: Plexus Asset Management

(2) The 50-day lines are in all instances above the 200-day lines.

(3) The 200-day averages have turned up in all instances with the exception of the Athens Composite Index and the Karachi 100 Index.

But also bear in mind that some of the movements have been quite extreme when weighing up the following:

As far as mature markets are concerned, 76% are trading more than two standard deviations above their 50-day averages and 56% more than two standard deviations above their 200-day lines.

Among emerging markets, 59% are trading more than two standard deviations above their 50-day averages and 68% more than two standard deviations above their 200-day lines.

Interestingly, the Wellington NZSZ 50 Index is trading more than three standard deviations above its 200-day line and the Istanbul Index likewise its 50-day line.

Although these figures support the bullish case, they also argue that some degree of reversion to mean looks overdue. This could take the form of either a pullback or a consolidation (i.e. ranging) pattern. Caution seems to be in order.

Comments

[Moon Kil Woong:]

As when people turned universally bearish the market hit bottom likewise we should be concerned about universal bulishness. After the last market collapse you would think that was fresh in everyone's mind but it appears not to be. Although I'm not a contrarian because momentum can last a very long time, I am not a momentum player eaither because it often masks the market dynamic truths that sooner or later get rectified.

Likewise, I hate overpaying. Perhaps that's why I haven't been buying new positions since about April. As Aristotle once said, moderation in all things. Don't get lured in after the markets rise.

Aug 07 09:00 AM

[Tony Petroski:]

No. Buy the laggards, the Greek and Pakistan stocks.

Aug 07 09:01 AM

[Alphameister:]

"fodder for the bull argument"??? More like conclusive evidence of a cyclical bull market that commenced in March regardless of how much additional potential is seen in magnitude and duration and regardless of whether the bull market is overextended for the short term.

Aug 07 11:06 AM

[Mad Hedge F...:]

mfx. Welcome to the new bubble. In four months we have gone from 35% below the 200 day moving average to 15% above. It turns out that 1,000 in the S&P 500 is 38.2% recovery of the fall from the2007 peak, a great Fibonacci number. DeMark indicators are showing that buying power is getting exhausted. Daily sentiment indicators are 88%bullish. RSI’s and oscillators are over extended. Every day the buyers show up, marching in lockstep with military precision, to give us our needed spike up at the close to keep the rally alive on the charts one more day. Worst of all, I am getting deluged with emails from subscribers who, having stayed out all year, are asking if they should start buying now, and buying everything. All of this, and we still have the second half of the “W” to discount. If the American stock market was the only issue, I wouldn’t really care, since most of my longs are overseas. But if the US rolls over like the Bismarck, emerging markets,foreign currencies, commodities, the energies, and junk bonds will be dragged down with it, because everything is so interlinked these days.There will be no place to hide. I think the glass half full crowd is coming to the end of their run, so I would urge investors to pare down some risk. If your friends stay in, and they make a ton of money,that’s fine. Just let them buy the next round of drinks.

Aug 07 02:54 PM

[Henry Buttal:]

Prieur,

I have always enjoyed the Postcards; this time I would like to add to the cautionary voices:
1) 3 layoffs this week of people I know, 1 of whom had survived two cuts and moved to night shift
2) My main consulting client, which depended primarily on state and local government contracts (and was a revenue generator for the state and local governments) said even their business had started to turn down (the infrastructure money being redirected to gap coverage and ACORN initiatives) and
3)VCs that I know being unable to raise new funds, and the laying off associates.

This is only first person reporting, and may not reflect the larger statistical trends, so take it with a grain of salt. However, I do want you to know:
- sometimes I have been damned....
- and sometimes I have slamned...

But I am definitely, and have never been:

iamned..ed (no, down thumb, the lord strike me down if I amned....
Henry

Aug 09 01:07 AM

[sickofthehype:]

I think the herd mentality on bullishness has not approaced that of our previous highs in the market. The herd are all in lockstep as far as believing we are topped out, and that's where you might be wrong. For now though we have news media claiming the new bull market is here, and I think it's got a while more to go - technically sound or not.

With Goldman Suchs blackbox software at the helm it's not something you or I can fight, so ride their wave of insanity. I think Q3 will 'surprise' many once again, as our government has shown their own insanity as far as doing EVERYTHING in their power to reinflate all asset classes.

The bigger the rise the harder the fall will be later.

Aug 09 10:43 AM

[sickofthehype:]

Forgot to mention - this rise since March has only been on a fraction of reduced 'money on the sidelines'.

Does that tell you something's brewing?


On Aug 09 10:43 AM sickofthehype wrote:

> I think the herd mentality on bullishness has not approaced that
> of our previous highs in the market. The herd are all in lockstep
> as far as believing we are topped out, and that's where you might
> be wrong. For now though we have news media claiming the new bull
> market is here, and I think it's got a while more to go - technically
> sound or not.
>
> With Goldman Suchs blackbox software at the helm it's not something
> you or I can fight, so ride their wave of insanity. I think Q3 will
> 'surprise' many once again, as our government has shown their own
> insanity as far as doing EVERYTHING in their power to reinflate all
> asset classes.
>
> The bigger the rise the harder the fall will be later.

Aug 09 10:45 AM

[jay brebner:]

if the sell off in Jan-March was in response to a greater than 2 sigma event (the real possibility of financial collapse) how much of the deviation from the 200 DMA of the bounce should be expected. In other words this rebound might not be a true bull indication but a return to sideways.

Aug 09 11:00 AM

[Ricard:]

Although I agree with the author's reasoning (that these 'indicators' are egregiously lagging indicators), I absolutely disagree with his conclusions.

This is pure momentum technical investing.

Momentum investing = herd mentality => tendency to stampede.

The animals in question are not bulls, but lemmings ('sheeple').

The music stops WHILE the lemmings are falling off the cliff, not before.

Aug 09 12:03 PM

[mineralt:]

I don't understand why people insist on trying to make sense of the market, as if the economy and the stock market move in tandem. We have a nice bull market for four years, and it was due to the fake economy of HELOC purchases that blew up. In the 90's, we had a nice bull market due to overvalued internet companies that could never make money.

There is no relation, IMHO, between the Dow and reality. We are in for a terrible ten years, and the Dow, S&P or Nasdaq will go up and down, irrespective of the reality.

Aug 09 12:34 PM

[jay brebner:]

Mineralt : the other side of the coin as I see it.

In the 90s the market was sucking capital into the commercialization of the internet (although it was not very discriminating) but the investment was worth it overall therfore the market and the future economy were linked. In the last decade the market sucked capital into emerging markets whose development will also add to the future economy. The bubble in housing was created in part because of the opening of labor forces in emerging markets. In the next decade the market will disribute capital to energy efficiency.

If we can get through this period there will be an ultimate benefit to the worldwide standard of living because of the market.

Aug 09 02:34 PM

[rperrin:]

What makes you think today there is "universal bullishness"?

On Aug 07 09:00 AM Moon Kil Woong wrote:

> As when people turned universally bearish the market hit bottom likewise
> we should be concerned about universal bulishness. After the last
> market collapse you would think that was fresh in everyone's mind
> but it appears not to be. Although I'm not a contrarian because momentum
> can last a very long time, I am not a momentum player eaither because
> it often masks the market dynamic truths that sooner or later get
> rectified.
>
> Likewise, I hate overpaying. Perhaps that's why I haven't been buying
> new positions since about April. As Aristotle once said, moderation
> in all things. Don't get lured in after the markets rise.

Aug 09 05:08 PM

[Missing_Link:]

On Aug 09 12:34 PM mineralt wrote:

> I don't understand why people insist on trying to make sense of the
> market, as if the economy and the stock market move in tandem. We
> have a nice bull market for four years, and it was due to the fake
> economy of HELOC purchases that blew up. In the 90's, we had a nice
> bull market due to overvalued internet companies that could never
> make money.
>
> There is no relation, IMHO, between the Dow and reality. We are in
> for a terrible ten years, and the Dow, S&P or Nasdaq will go
> up and down, irrespective of the reality.


Words of wisdom. All the hot air of the economy and its relation to the market is only there to fool investors and make regulators forget that Wall Street is playing a game with Americans' 401(k) plans.

Aug 09 05:17 PM

[Brian McMorris:]

Mad Hedge....why are you so convinced of a "W" recovery. That is only a hypothesis, unless you know something no one else does. Share with us exactly why it is that we MUST have a "W" recovery. Please.

You and your bearish friends are the reason I have done very well since March. Keep up the good work!!


On Aug 07 02:54 PM Mad Hedge Fund Trader wrote:

> mfx. Welcome to the new bubble. In four months we have gone from
> 35% below the 200 day moving average to 15% above. It turns out that
> 1,000 in the S&P 500 is 38.2% recovery of the fall from the2007
> peak, a great Fibonacci number. DeMark indicators are showing that
> buying power is getting exhausted. Daily sentiment indicators are
> 88%bullish. RSI’s and oscillators are over extended. Every day the
> buyers show up, marching in lockstep with military precision, to
> give us our needed spike up at the close to keep the rally alive
> on the charts one more day. Worst of all, I am getting deluged with
> emails from subscribers who, having stayed out all year, are asking
> if they should start buying now, and buying everything. All of this,
> and we still have the second half of the “W” to discount. If the
> American stock market was the only issue, I wouldn’t really care,
> since most of my longs are overseas. But if the US rolls over like
> the Bismarck, emerging markets,foreign currencies, commodities, the
> energies, and junk bonds will be dragged down with it, because everything
> is so interlinked these days.There will be no place to hide. I think
> the glass half full crowd is coming to the end of their run, so I
> would urge investors to pare down some risk. If your friends stay
> in, and they make a ton of money,that’s fine. Just let them buy the
> next round of drinks.

Aug 09 09:31 PM

[Brian McMorris:]

Jay, these are enlightened observations. There is always linkage between markets and economies. Sometimes it is not obvious, but as you astutely point out, the whole raison d'etere for markets is to distribute capital. The economic benefits from that capital might not be observable for many years.

So, we invest in the capital markets to take advantage of the benefits it will create, and all they while we watch the economy to get a sense for the short term direction of the market: to maximize the value of our investment.

Put another way: the stock price value of any company is the sum total of a company's future discounted cash flows. Likewise, for an entire market. Today's capital investments will determine tomorrow's economic cash flows. Hence, the economy and markets are linked.


On Aug 09 02:34 PM jay brebner wrote:

> Mineralt : the other side of the coin as I see it.
>
> In the 90s the market was sucking capital into the commercialization
> of the internet (although it was not very discriminating) but the
> investment was worth it overall therfore the market and the future
> economy were linked. In the last decade the market sucked capital
> into emerging markets whose development will also add to the future
> economy. The bubble in housing was created in part because of the
> opening of labor forces in emerging markets. In the next decade the
> market will disribute capital to energy efficiency.
>
> If we can get through this period there will be an ultimate benefit
> to the worldwide standard of living because of the market.

Aug 09 09:38 PM

[Brian McMorris:]

If you read these blogs at Seeking Alpha, you sure don't get that impression!!! :-)


On Aug 09 05:08 PM rperrin wrote:

> What makes you think today there is "universal bullishness"?
>
> On Aug 07 09:00 AM Moon Kil Woong wrote:

Aug 09 09:40 PM

[Joe Shareho...:]

Ditto. I also think the third quarter might be a strong one, or at least more "better than expected news" with many people expecting sourness. Also, the thought that we might actually have positive GDP will fuel the bears. There doesn't seem to be a catalyst to spark a sell-off so I don't believe we'll see a major move south....yet. Do I believe the economy is cured? Absolutely not. I do like Kool-Aid but refuse to drink what is being offered right now. We have not seen the lows to this bear market, but we might well be in the eye of the hurricane right now, with more carnage to come at the beginning of next year.


On Aug 09 10:43 AM sickofthehype wrote:

> I think the herd mentality on bullishness has not approaced that
> of our previous highs in the market. The herd are all in lockstep
> as far as believing we are topped out, and that's where you might
> be wrong. For now though we have news media claiming the new bull
> market is here, and I think it's got a while more to go - technically
> sound or not.
>
> With Goldman Suchs blackbox software at the helm it's not something
> you or I can fight, so ride their wave of insanity. I think Q3 will
> 'surprise' many once again, as our government has shown their own
> insanity as far as doing EVERYTHING in their power to reinflate all
> asset classes.
>
> The bigger the rise the harder the fall will be later.

Aug 10 02:48 AM