SPY: What Could Derail The Rally?

Jun.23.14 | About: SPDR S&P (SPY)

Summary

Market optimism reflected in record stock prices.

Wide variety of assets influenced by the bull market run in stocks.

Watch the Dollar for signs of underlying economic strength.

The stock market crash that began in 2008 with events like the Lehman Brothers bankruptcy is now a distant memory, as the central stock benchmarks in the US continue to post record highs and investor optimism show no clear signs of abating. The S&P 500 and the SPDR S&P 500 Trust ETF (NYSE:SPY) have moved comfortably into uncharted territory, with the most commonly watched stock index posting its first weekly close above the 1960 mark. These moves higher have led some sections of the market to grow skeptical, and start trimming back on positions while valuations are still trading at lofty levels. But there are some important factors that investors should consider before assuming that stock prices have reached their peak.

"The real question going forward is whether or not the underlying bull trend in equity markets has been based on strong earnings performances," said Vlad Karpel, options strategist at TradeSpoon. "As long as we see consistent strength in corporate revenues, the current rally will have the added fuel it needs to continue." For these reasons, it could be argued that stock market bulls will need to see improvements on better expectations as we head into next earnings season. Without this, stock markets could be in danger of stalling. But, at the moment, there is little standing in the way of a test of the coveted 2,000 mark in the S&P 500.

Related Assets: Gold, the Dollar, Blue Chip Stocks

Important moves have been seen in related asset classes, as well. The changing policy stance at the Federal Reserve is also likely to put upside pressure on the US Dollar, as the removal of QE stimulus should be seen before the end of this year. This has already been reflected in the PowerShares DB US Dollar Index Bullish ETF (NYSEARCA:UUP) relative to its European counterparts, and the growth outlook for both regions still favors continued upside in the greenback and its ETFs.

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Positive results in US macroeconomic data shows an improving labor market (shown above) and the increased likelihood that we will start to see inflationary pressures start to pick up at the consumer level. For those with a long term perspective, this creates some added arguments for renewed exposure in precious metals. At current levels, instruments like the SPDR Gold Trust ETF (NYSEARCA:GLD) iShares Silver Trust ETF (NYSEARCA:SLV) have started to look more attractive for many long term investors given the declines that were posted last year. But there are strong arguments for buying physical gold as well, given its long standing history as a hedge against consumer price inflation.

In any case, the broader macro trends remain supportive, and as long as this is the case there is little reason to believe that the rally in SPY will be ending soon. It will be important to watch the general performance in blue chip stocks like Apple, Inc. (NASDAQ:AAPL) and Google, Inc. (NASDAQ:GOOG), as there is a good deal of market sentiment that tends to be influenced by positive or negative developments in the tech space. But perhaps the best gauge will be to watch market valuation activity in the US Dollar itself, as this is the best gauge of macroeconomic trends

Chart Perspective: EUR/USD

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(Chart Source: Orbex)

When we look at multi-year activity in the Euro against the Dollar, a relatively clear uptrend looks to be in place. But charts like this can be deceiving, as what is seen from the short term perspective looks entirely different. Macro traders will need to closely watch the 1.35 level in the EUR/USD, as this could prove to be a major breakdown point. Moves like this would help to confirm the underlying strength we are seeing in other areas of the market.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.