As always, the economy’s fundamentals determine the stock market’s medium-long term outlook. Technicals determine the stock market’s short-medium term outlook. Here’s why:
- The stock market’s long term is bullish.
- The stock market’s medium term is bullish.
- The stock market’s short term is 50-50
Let’s go from the long term, to the medium term, to the short term.
The Medium-Long Term Model is bullish right now. It doesn’t see a bear market or “big correction” on the horizon. With that being said, here are some medium-long term bullish signs for the stock market from the past week.
Initial Claims and Continued Claims are still trending lower (improving). These 2 data series move inversely with the stock market. They also lead the stock market.
Of particular interest is the yield curve, which continues to flatten. The 10 year – 2 year Treasury yield curve is currently at 0.25%.
This isn’t as bearish as you think. The stock market usually tops AT LEAST a few months after the 10 year – 2 year yield curve inverts. Sometimes the stock market tops 2 years after the 10 year – 2 year yield curve inverts.
Moreover, investors are focusing on the wrong yield curve. The 10 year – 3 month yield curve gives a more timely SELL signal when it inverts. The 10 year – 3 month yield curve is currently at 0.87%, so still far from inversion.
Investors shouldn’t turn bearish until the 10 year – 3 month yield curve inverts.
Inflation continues to rise a little. This is not bearish. The stock market tends to go up when inflation goes up, unless there is stagflation (i.e. the economy deteriorates). The U.S. economy is strong right now, so there is no stagflation.
Philadelphia’s Leading Index suggests that the stock market’s top isn’t in. This Leading Index needs to fall below 1% before an equities bear market or economic recession can begin.
Meanwhile, an avalanche of stock buybacks are putting a floor under the market, preventing a big decline in the stock market in 2018.
Banks’ lending standards are still easing. Lending standards tend to tighten towards the end of bull markets.
And lastly, contrary to what you might think, there has yet to be sustained global euphoria in this bull market. Bull markets need to have at least 1 period of global euphoria before they can end.
The S&P 500 will probably make a new all-time high before summer 2018 is over (end of August).
For starters, the S&P 500 is already very close to making new highs.
More importantly, as we demonstrated in this study, 10-15% corrections usually make a new all-time high within 7 months. Since the S&P 500’s last all-time high was in late-January 2018, this suggests that the S&P will make a new high by late-August.
We have a strong earnings season coming up in the next 2 weeks. Earnings expectations are high, but here’s the key point: earnings ALWAYS beat expectations.
Expectations are in grey, actual earnings are in blue.
Perhaps earnings season will push the stock market to new highs. Meanwhile, breadth continues to make new highs (a bullish divergence with the S&P 500). This is a bullish sign for the stock market.
And lastly, “Sell in May and go away” hasn’t worked this year so far. The stock market went up every month in Q2 (April, May, June). When this happens, the stock market’s 3-12 month forward returns are very bullish. The stock market’s returns every month in Q3 (July, August, September) are reasonably bullish as well.
The short term is a 50-50 bet right now, as it is most of the time.
The stock market’s long term is bullish, and the medium term suggests that the S&P 500 will make new all-time highs by the end of August 2018. Trying to predict EXACTLY when the stock market will make new highs is a fool’s game. Nobody is a god.
Focus on the medium-long term and don’t put too much emphasis on the short term.
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