The markets moved higher again last week. One would think there would be heavy selling in the market with constant images of unrest in the Middle East on our TV screens. So far, the market seems to be treating the tensions in the Middle East as a temporary thing that will be resolved without major impacts. Time will tell.
According to Lipper, inflows into equity funds have totaled $50.9 billion over the past 26-weeks. Cash in money market funds still remains elevated, $300 billion above the October 2007 level. While cash levels for stock mutual funds are at low levels there is still a ton of money on the sidelines in money market funds. The most important measure of cash is the amount on company balance sheets. Cash will be used to increase dividends, increase share buybacks or buy other companies outright.
So far, 55% of the S&P 500 companies have reported; 70% have beaten revenue estimates and 73% have exceeded earnings per share estimates. Technology has been the strongest area. Healthcare has also been an area of particular strength so far in this earnings season.
80% of the stocks in the S&P 500 are acting well technically. By that I mean 80% of stocks in the index are either basing or advancing. In that environment it makes sense to buy stocks. You have a good chance to make money. But, “we’re due for a pullback”, “a healthy correction is coming”, “the market has moved too far too fast” type comments are making you fearful. You’ll hear people make these comments when the market has a strong move higher. Similarly, you'll hear comments when the market is performing poorly that are supposed to pacify us and give us some sort of signal: “This is a buying opportunity”; “stocks are on sale”. If you ask people what those sage words of advice actually mean, you would get a variety of answers. I say the bulk of those types of comments are nonsense.
That’s right, I said nonsense. But, for whatever reason we love when someone “explains” the movements of the markets. They give us a “reason” for what just happened. Where they were prior to the movements I do not know. But, there are a host of “experts” that can tell you exactly why the market did what it just did.
What if CNBC had an “expert” on to describe the recent market behavior and he said, “We’re above the 12 and 20 on a monthly basis and the price is above the weekly 4 and 12 so all systems are go.”? There would be an awful lot of confused looks on the set and the producer that booked the guest would get fired. We need to give our viewers “reasons”.
Well if you kept track of a couple of real simple trends over the past 20 years you would have been on the right side of the market the vast majority of the time. What I mean by the right side of the market is you would be buying stocks ahead of advances, and selling stocks at the early stages of declines. It must be pretty tricky and require some high powered technology. That was the case in the past but, not so much now.
Where Are We Now? How Do We Know?!
Longer Term Moves
Let’s look at the technical condition of the market. I’ll look at the long-term picture with a monthly view. A very simple yet extraordinarily effective way to determine if you are in a bull or bear market is to look at two monthly moving averages. If the S&P closes above the 12 and 20 month exponential moving averages it signals a bullish trend. If the market closes below the 12 and 20 month moving averages you have a bear market. It can’t be that simple. Well it is! When you use a monthly trigger you will always miss the first part of a move, but will always stay for the vast majority of the move higher and stay away from the market when it is trending down. To put this method in perspective, let us see how it has performed over the years. There was a bullish signal triggered in early 1995 and it stayed in place until July of 2000. There was a pretty good run in the market over that time frame. This signal kept you out of the market until July 2003. It would have been nice to reduce equity holdings over that time. A bullish cross occurred in July of 2003 and it held until early 2008. I bring up this system to put the current market into perspective. A bullish cross took place in September of 2009 and it remains in place until now. The longer term nature of this signal would have kept you out of the market for a huge portion of the run off the lows of 2008. The 12 and 20 month exponential moving averages for the S&P are 1182 and 1151. So, this signal remains bullish with the S&P at 1310.
As you can see from the chart below, you would've begun buying stocks early in 1995 and been a Bull without any worries until the middle of 1998. That is the period of time when the markets were rocked by Russian bond defaults and Long Term Capital Management. The system made it real clear that this was a short term thing and 1999 was an epic year. When the price went below the two lines in 2000, GET OUT!!! Figure out why later. You can use these moving average lines to see when it is good to be more or less aggressive. Price flirted with the moving averages last year and bounced hard, our current advance. This is a pretty simple yet powerful exercise.
Intermediate Term View
We can then use the weekly charts to fine tune things and avoid the lag of the monthly trigger. When using weekly charts I like to use the 4 and 12 week exponential moving averages. That is essentially a way to compare the monthly and quarterly moving averages of the market to judge if we are in a bull or bear market, on an intermediate basis. So, if the price of the index is below these moving averages you reduce your exposure to stocks. This signal triggered a buy in late August. There are going to be more signals using this intermediate term model. Using this system you added to equities in late August and have not seen a sell generated since.
With the shorter, weekly averages, the above system will be more sensitive to changes in the market. This system will give you a heads up on major trend changes. It alerted you, for example, to an improving market at the beginning of April 2009, almost at the absolute bottom. This would have given you a clear signal to buy stocks at that point. The monthly trigger did not take place until September of 2009. Using these two fairly straightforward triggers together can let you know when there are changes at the margin of the psychology of the market. You can see when longer term trends begin to change.
Daily View
For whatever reason people are often most focused on the least important short term trend. I spoke about the S&P 500 being at support in November in the 1173 range. When the market held that level and moved higher the short term trend became positive. Since the bounce off 1173, the S&P has moved higher along its 20 day moving average. There are roughly 20 trading days in a month. So, if you want to track the near term trend you can use the 20 day moving average. If the index remains above the 20 day things are still positive. We are trading above that average so the short term trend is positive.
The price of the S&P 500 is above the 12 and 20 on the monthly, above the 4 and 12 on a weekly and the daily is above the 20. Clear to me. Hopefully, it is now clear to you.
