2 More Reasons The Bull May Morph Into A Bear

by: Scott Gibson

Evidence is growing that the economy may be slowing as we progress into late winter and early spring. The Institute of Supply Management just reported that its business barometer declined to 60.2 from 62.2 in December. Economists had forecast that the gauge would rise to 63, according to a median of 57 estimates in a Bloomberg study. The ISM report reflects a slowing of orders and employment which will in turn affect earnings going forward.

We are currently in the midst of earnings season, a period of time during which a large number of publicly traded companies release their quarterly earnings reports. In general, earnings season starts one or two weeks after the last month of each quarter (December, March, June and September). Although there is no official end of earnings season, it generally wraps up after most major companies have released their earnings around 6 weeks after the start of the season. Consequently, we are presently right in the middle of earnings season.

So how does this quarterly phenomenon affect us as investors, and what can we expect in the weeks ahead? Stocks generally rally during the initial stage of earnings season, but then decline shortly thereafter. This pattern is not perfect, but is consistent enough that we can expect a sell off shortly. I have placed vertical lines on the chart below marking the end of the first month following the end of the quarter (January, April, July and October), which just also happens to mark the period during which the market has absorbed a significant number of companies earnings reports and their forward guidance.

This gets us back to the Institute of Supply Management business barometer that is falling rather than increasing. (right-click on the chart to see it in greater detail).

Note how clearly the chart illustrates the consistency of market sell offs around half way into each earnings season. Although this pattern is not perfect, it does repeat itself quarter after quarter.

As I pointed out in "3 Reasons the Bull May Turn into a Bear" both the S&P 500 and the NASDAQ Composite are within 3% of running into resistance levels that they have been unable to penetrate for many years. In fact, the last time the NASDAQ composite was above 2890 was in December of 2000 over 11 years ago. The last time the S&P 500 was above the 1360 level was at the end of May in 2008, 3.6 years ago. This overhead resistance and the slowing economy may take the indexes down further than many expect.

This prognosis is supported by the software models we use at ETF Maximizer which are favoring only municipal bond funds, high-yield corporate bond funds, investment grade corporate bond funds, consumer staples funds and other defensive investment ideas.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.