The strong rally off the October lows still indicates plenty of demand for stocks, however, U.S. markets are overbought and the strong outperformance we’ve seen is unlikely to persist over the next 3 to 6 months, Jonathan Krinsky, Chief Market Technician at MKM Partners, recently told Financial Sense Newshour.
He also pointed out that large-cap equities have done much better this year than the smaller caps, a characteristic of an aging bull market, though this may also partly reflect foreign money flows, which typically concentrate in the large-cap space.
Jonathan doesn’t see much evidence of a turnaround in the gold market yet, noting that it usually takes a long time—several quarters, if not years—to repair the type of “technical damage” that’s taken place.
You can listen to his recent interview with Financial Sense Newshour by clicking here (starts at 20:13) or in iTunes here.
Transcript
Jim Puplava: October has always been known as one of the worst months for the market; sometimes it’s September. Just as the markets started to drop precipitously, well they came right back as we head into the final stretch of the year. Joining us on the program is Jonathan Krinsky. He is Chief Market Technician at MKM Partners. Jonathan, what does it tell you when you see a sharp drop, whether you’re looking at the DOW, you’re looking at the S&P, or even the Russell, and then you see a sharp recovery equally as fast? What does that say to you?
Jonathan Krinsky: Well, it says that clearly there are aggressive buyers out there. You know, the pattern over the last two years has been just that – as soon as a low has been put into place after a pullback or correction, the rally really doesn’t stop until it makes new highs. And we actually thought that this correction might be a little different in October looking at some of the internals. But clearly that didn’t play out and in fact it’s been quite the opposite. We’ve seen one of the most powerful rallies we’ve ever seen off the lows in the last month or so. So it’s been really impressive. One of the most amazing things that we’re following here – the S&P has actually closed above its five-day moving average, which is a very short-term moving average, but it has done that for 24 consecutive days now - pretty much since the October lows. And we went back for the last 50 years and this is the second longest streak in history. Only a streak in 1986 that went 26 days was longer. So we’re seeing some fascinating stuff here that we haven’t seen in quite some time. But back to your original question – I think it really just shows you there’s plenty of demand for equities right now.
Jim: Let’s talk about the major averages. We have the Dow in record territory. We have the S&P in record territory. The Russell 2000 small-cap stocks, you would think they would be doing better because of the U.S. economy versus the large-cap stocks that have to deal with the international economy, but the Russell has been struggling all year. What’s going on there?
Jonathan: Yeah, exactly. It has been a bit interesting. And it’s not just the Russell – it’s really a market cap issue. If you look down the line this year – if you look at the NASDAQ 100, which is obviously very large-cap stocks, it’s up about 18% on the year. The S&P is up I think 10% or 11%. The mid-caps are up about 7%. Small-caps are, like you said, about flat on the year. The micro-caps are actually negative on the year. So it’s really been the story all year in that the larger the market cap, the better the performance. So what does that say? Well, generally it’s not a great sign. As you get toward the later innings of bull markets, you’ll see investors go up the market scale. That could be one possibility here. I think it’s too early to really make that call, but it’s definitely something worth watching. And it’s definitely a concern at this point.
Jim: So when you’re looking for a topping process, investors start upscaling, they start going up to quality. But let me throw something else out. How much of this could be, let’s say, foreign money coming into this country? Japan’s economy just sunk into a recession – for the second quarter in a row it’s been negative. Europe could be on the verge of one. And if money is coming out of a country and going into another country, it tends to gravitate toward quality and safety.
Jonathan: Yes, that’s definitely a valid point as well. As we’ve said, this year has been a market cap story. It’s also been, as you said, a U.S. focused story. If you look at the S&P relative to the all-world index, which is all developed countries globally, it’s hitting multi-decade highs here at an extreme rate. In other words the rate of outperformance is accelerating. We’re getting some really overbought signals on a relative basis. So, that’s been the playbook. That certainly makes sense why it’s happening. But from our perspective, it’s getting probably a bit long in the tooth over the near term. In other words, the rate at which the U.S. is outperforming the rest of the world is unlikely to remain over the next three to six months.
Jim: When you look at some of the foreign indices, how do they look to you technically?
Jonathan: Well, most of them don’t look great. We can start out with Japan, which is actually probably one of the better looking ones. What’s interesting is that has really been in a secular bear market going back to 1989. So it’s just now starting to break out of some very long-term downtrend lines. On a secular basis that actually looks interesting to us. Also, Shanghai is one of the other stronger global markets. Outside of that, there is a lot of weakness out there. Europe continues to struggle – it’s been making lower highs the past few months. South America, with Brazil, is trying to find a bottom, but it’s done nothing over the last year or so. There are opportunities there, but if you are a pure trend follower and you’re looking for pure momentum, it’s tough to find anything better than the U.S. right now.
Jim: Two of the big surprises I think for market participants this year were the direction of interest rates, which were 3% at the beginning of the year and everyone thought they were going higher, and oil prices which really hit triple digits in the second quarter and now we’re talking about, on the day you and I are speaking, $75 West Texas intermediate crude. And Brent crude is at $77. This is something that we haven’t seen since 2010. What is your take on oil and interest rates?
Jonathan: Let’s start with oil. It came in this week down 7 weeks in a row, which is the longest such streak since 1986. A lot of the decline is due to the strength in the U.S. dollar. And a lot of it is due to the fact that coming into this whole decline, if we go back to the peak this summer, large speculators were the most overweight crude oil that we’ve really seen. So everybody on one side of the boat on the long side, that’s being unwound right now. The strength of the dollar is obviously hurting that as well. I do think near-term oil is probably closer to a low. We should see some sort of rally over the near term. But you have to ask yourself is the structural pattern changing? We’ve been in this trading range over the past 4 or 5 years, pretty much between the $75 area which has been the low on WTI, and then it’s had a top-end of the range around $110 or $115. So if we are to see some sustained weakness below $75, then you have to ask yourself, is the trading range changed? So I think it’s too early to make that call yet, but near term we would expect some bounce here soon.
As far as interest rates, again you said it was probably the most consensus trade at the beginning of the year, was that interest rates would move higher. And in fact it has done the complete opposite. So that’s a clear case of when consensus gets too one-sided, sometimes it pays to take the opposite side. From our perspective, I think that the low in interest rates we saw in October was pretty capitulative. In other words, I think the 10-year hit about one spot eight and I think that’s a good low for the near term. The question is, do the yields push higher materially from here, and there’s not much evidence yet of that. We’re still below a lot of moving averages on the 10-year yield. So we’d really have to put in a lot of work to suggest we’re at a new uptrend for yields but I do think the downside is pretty limited.
Jim: Finally, let’s talk about gold. It just doesn’t seem like with all the headline risk that we’ve seen this year, whether it’s ISIS or Ebola or whatever the headline has been, gold doesn’t seem to have gotten any traction whatsoever. We’re historically now in the strongest part of the year where gold typically does well, but it’s not doing well.
Jonathan: Well, we have to take a step back and look at the bigger picture. It was in a 12- or 13-year bull market that peaked in 2011. It’s been in a multi-year cyclical bear market. Structurally it’s got a lot of issues. By that I mean it broke below critical support at $1180. It’s below a declining 200-day moving average. So structurally it’s got some issues. That makes the trend in this case lower. So you’re definitely going to see some countertrend rallies. We did see a bit of a move in the last couple of weeks, particularly in the gold mining stocks. You had a nice 20% rally in the mining stocks – they actually reached their 2008 lows which was interesting. To your point, it is not acting like you would expect it to act. That’s because it’s in a cyclical bear market right now. Similar to interest rates, you’re going to have to see a lot more evidence on the upside to suggest that a major bottom in gold is in. And for now it’s probably going to be range bound at best. There’s definitely a lot of resistance in the $1200 to $1225 range. So I would be surprised to see it materially move above that in the near term.
Jim: When you see a market like we’ve seen in gold, where from 2010 to 2011, just flew to an all-time record (same thing with silver). When you see it break down as it has over three or four years where you see a lot of technical damages as you talked about – broke critical support below its 200-day moving average – does it take a long time to repair when you have that kind of damage? In other words, psychologically so many people have been harmed and lost a lot of money in this trade, believing that it was a turnaround, does it take a longer time to bring those investors back? It's pretty much what has happened to individual investors with the stock market.
Jonathan: Definitely. When you talk about those types of collapses, whether it’s the Dow Jones in 1929 or the Nikkei in 1989 or crude oil in 2008 or technology stocks in 2000 – when you see what we call a parabolic move followed by a crash, it definitely takes a lot of time to heal. If you’re talking about gold, the last time we really saw that was in the early 1980s peak. And it was in a bear market until about 2000 when it started a secular bull market. So I don’t think anyone knows whether we’re in a new secular bear market for gold, but we’re definitely in a cyclical bear market. And like I said, it’s probably going to take several quarters, if not a couple of years, to really reverse the damage that’s been done over the past two years.
Jim: So given what you see in the market right now, what looks good to you? Talking about sectors, is there anything that really stands out that looks very good technically?
Jonathan: On a sector level, with the exception of energy, it’s been a very orderly rotation. There’s really not that much that stands out on the positive side. Health care has been a leader all year on a relative basis - that probably continues. The one question we’ve been getting a lot is: when is it time to step into energy? Energy has been on a relative basis by far the biggest outlier we’ve seen in a sector all year. I think it’s probably a little early to look there - although the downside is limited in the year-end. But beyond that, there’s nothing that stands out that’s going to extremely outperform in the year-end. If we go into the subsectors, I do think there are some opportunities looking at the homebuilders. We’ve seen the derivative homebuilding players such as Home Depot and Lowe’s shoot to the upside. But you haven’t seen the actual homebuilders perform that well. They’re just starting to make a nice little turn. So that’s one subsector I’d look at. Then tactically there have been some opportunities in some of the material names. So I’d say homebuilders and we’re watching energy but we’re not ready to jump in there just yet.
Jim: Jonathan, as we close, if our listeners would like to follow your work, how could they do so?
Jonathan: They can visit our website, www.mkmpartners.com, and you can follow me on Twitter – it’s @JKrinskyMKM.
Jim: Jonathan, I want to thank you for joining us on the program. All the best to you, sir.
Jonathan: Thank you Jim.
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