Bulls Running Like Pamplona

This is looking more and more the running of the bulls in Pamplona. They just stampede anyone and everyone in their way. After the two strongly positive seasonal trends ended after the first week of October, there was sufficient evidence that stocks were due for a pause to refresh or modest, single digit pullback. That’s what I was looking for. Nothing big. Nothing significant. Nothing really actionable. Just your garden variety reset.

Stocks came out of the gate to the upside on Friday after what I kiddingly referred to as a one day bear market on Thursday. All of the major stock market indices are at or essentially at all-time highs. Bears can’t argue with that. My four key sectors are also acting very well with semis and banks at new relative highs with transports and discretionary catching up. In recent weeks, I wrote about the poor behavior by the banks, but that is changing today.

High yields, while not leading and looking a little lifeless, are still just a day or two from all-time highs. The NYSE A/D Line is also just a whisker from new highs. On the other hand, defensive sectors, like utilities, telecom and staples are the worst sector performers. For the first time since Q1, bond yields look they could break out to the upside and see the 10-year note head above 2.6%. That would be a huge tailwind for banks and signal that the economy may be heating up.

Stocks should end the week on a high note. Interesting how GE reported awful earnings yet again and the stock opened sharply lower by more than 5%. As I type this, it’s trying mightily to turn green on massive volume. If that 4%+ dividend is safe…

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Anatomy of The Stock Market Crashes of 1929 & 1987. Can It Happen Today?

Today is the 30th anniversary of the stock crash of 1987. All week long there has been a stream of recountings, anecdotes and comparisons to today’s market. While I love nostalgia as much as anyone, there are almost no valid comparisons to 1987 and it’s pretty much a waste of time to take that argument. Writers, analysts and investors who insist that stocks are about to crash like 1987 are either perma-bears who have been wrong for the past 8 years, people trying to make a PR splash or just plain ignorant.
Real crashes are generational events. They are market events, not economic ones. We saw one in 1929 and not again until 1987. 2008 was absolutely not a crash. It took weeks, months and quarters to unfold and it was very fundamental with the financial crisis. Flash crashes in 2010 and 2015 were definitely not stock market crashes. Remember, 1987 saw more than 22% cut from stocks in a single day and more than 30% from high to low.
True crashes don’t just come out of the blue and they do not occur from all-time highs. My basic study of crashes concludes that an asset literally melts up into a peak before the seeds of a crash can be sown. By melt up, I am talking about an historic rate of return over the past 6-12 months. Look below at what happened in 1986 and 1987. The Dow surged 50%+ in less than a year.
In 1928 and 1929 the rally was even more vertical as you can see below although it’s a little more difficult to make out.
Stock market crashes are also preceded by a repeating topping pattern where price melts up to the final high. After that, what’s viewed as a normal and healthy 10% correction sets in over the next month or so. Stocks find their footing and rally to a secondary peak which is lower than the all-time high. You can see this just above on the right side of the chart in 1929.
It is from this peak that the snowball begins to head downhill. Snowballs typically grow and grow as they accelerate more and more until they are at their largest the split second before they hit the bottom.
Today, we have absolutely nothing that resembles the price action of 1929 or 1987. It’s idiotic to even try and make that case. If stocks crashed like they did previously, we would be looking at a decline of thousands of points in a single day. Additionally, stock market participation was very narrow in the months leading up to the crashes in 1929 and 1987. The final advances were both led by very few stocks with the vast majority already experiencing double digit declines well before the decimation was even seen. That’s certainly not the case today as the NYSE Advance/Decline Line just hit yet another all-time high as you can see below.
Finally, although crashes are not fundamental economic events, there are certainly triggers and accelerators. In 1987, newly appointed and among the worst Fed chairs ever, Alan Greenspan decided to sharply raise interest rates to fight an inflation problem that didn’t exist. Additionally, Treasury Secretary, James Baker, engaged in a war of words with the Germans over their currency and even went so far as to threaten to devalue the U.S. dollar. Lastly, the strategy du jour, portfolio insurance, somehow seemed like this brilliant idea where portfolio managers would use computer programs to sell stocks the lower they went. And the lower they went, the more stocks were sold. And on and on and on. Talk about insanely ludicrous!
One day, the stock market will be set up again for another great crash. But first, investors who lived through the previous one will likely have to be no longer involved or represent a tiny minority. Those who ignore history are doomed to repeat it, or at least watch it rhyme.

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Banks & Transports Still Tired. Modest Pullback Here.

Last Friday, I discussed what appeared to be tired behavior in the banks as they were selling off on good earnings news after rallying sharply into earnings season. Citigroup and JP Morgan were the examples. This morning, Goldman Sachs and Morgan Stanley beat earnings expectations, yet reaction has been muted with the former opening sharply higher and then selling off while the latter is hanging tight. I would not be surprised to see Morgan Stanley buck the trend in the short-term and finish better than its peers have.

Another one of my key sectors, transports, is following through to the downside after seeing its own “key reversal” last week, another sign of a tired sector. While I am not looking for a substantial decline in either sector, I do believe the upside is now capped and the best case is some sideways activity for a few weeks.

On the stock market index side, I continue to be of the opinion that an October pullback remains in the cards as I have discussed for the past few weeks. Nothing big or traumatic. Just a modest, single digit bout of weakness. On Monday with new highs in the Dow and S&P 500, there were more stocks declining than advancing on the NYSE. That comes off an all-time on Friday in the NYSE A/D Line. While one day does not amount to much, it does support my over theme of a slightly tired market.

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Banks Selling the News. Transport Close By

Earnings season is now in full swing which means that every morning. pre-market, you will find a slew of companies reporting as well as offering guidance or forecasts about the future. That creates a much higher level of single stock and sometimes single sector overnight risk. Right now, the major banks are reporting, after experiencing a near vertical ascent into Q3 quarter end.

The last time I wrote a specific article about the banking sector, it had just touched a three-month low and I offered a very binary outcome. Either it was going to rally strongly to new highs or collapse. Unfortunately and uncharacteristically for me, I didn’t have strong conviction which would be the ultimate outcome.

As you can see above, banks followed the super bullish scenario (line in green) almost perfectly and scored new highs right before earnings season began. On the surface, the average investor would probably become very excited about this development. However, with more than a 10% run before earnings season, I argue that good earnings are expected and already priced into the sector. In other words, investors bought the rumor of good earnings and selling the news. As such, banks would need to really blow out earnings on the upside to keep momentum going which I do not think is likely.

Both JP Morgan and Citigroup reported earnings on Thursday morning. While they both beat expectations by 11 and 10 cents respectively, both stocks closed lower in what technical analysts sometimes refer to as a key reversal day, where a new high is seen and they immediately rejected. Then the close is lower than the previous day’s low. It looks like a long, red stick as you can see below for Citigroup and it has negative implications.

I bring up the banks and reactions to earnings as it shows a tired banking sector. Should banks see a soft patch, that would likely translate into a cessation of the overall stock market’s rally, if not outright, short-term, modest pullback and I have discussing for October. Again, I do not see anything meaningful or long lasting on the downside, just a short-term bout of mild weakness.

Finally, although semis continue to make new high after new high, the transports are seeing somewhat of a reversal as I type this, scoring a fresh high this morning and weakening all day. At the same time, treasury bonds have been quietly rallying along with the defensive sectors, showing that “risk off” is now showing at least a little merit.

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3 Reasons Stocks Will Peak Right Now

Good Monday Morning! Huge weekend if you are a sports fan although the decision making of my Yankees’ and Cowboys’ manager and coach likely just ended their seasons. At that level, the margin for blunders is razor thin and both Girardi (4 stupid decisions in 40 min) and Garrett (one giant brain freeze) cost their teams. While I have never been in their shoes, it’s the same thing I face each and every market day. Over the past 29 years, I have probably made every bad decision one can make, but hopefully, I learn from those as I move forward.

Stocks begin the week with all five major stock market indices at fresh new highs along with high yield bonds and the NYSE A/D Line. So are the banks, semis and transports among key sectors. As I have said over and over and over again since 2010, bullĀ  markets do not end with this type of behavior. Sorry to all of the bull markets haters and disavowers; you have been wrong, are wrong and will be wrong until the evidence changes. And when they are finally right, I am sure they will crow about how they knew it all along. Reality over rhetoric.

With all that said, the very short-term has an opportunity to change right here and now. If there is going to be the mild, modest pullback in October which I have written about lately, stocks should peak this week for three reasons.

1 – September ended at its highest close of the month for the S&P 500. That leads to another week of strength, roughly 1%, and then a give back of more than 1%.

2 – When October begins the month in an uptrend, the first five days tends to be higher. However, the next five and the five days after that and the final five days of the month all show mildly negative returns of roughly -0.25% each period.

3 – Stocks rallied hard into the beginning of Q3 earnings season, using up a lot of fuel. That usually means earnings are priced for perfection and rarely exceed expectations.

BONUS – The Economist and Barrons have run very bullish headlines this month about how the global markets and economies are hitting on all cylinders. Additionally, the term “melt up” is all over the place on blogs and Twitter. While this is nowhere even close to the true irrational exuberance of 1999 and early 2000, it does give bulls a little cause for short-term concern.

Finally, I am not going to rehash the piece I wrote about the negativity of Octobers in years ending in “7”, but you can reread it HERE.

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Three Big Short-Term Changes Today

Looking at the economic news of the day, jobs created in September actually declined for the first time since 2011. On the surface, that would be shockingly disappointing and brings in calls for recession. However, all of the drop from the expected 100,000 created will be attributed to the hurricanes. The unemployment rate surprisingly fell to 4.2% from the expected 4.4%. Until the economies in Texas and Florida get back to somewhat normal behavior, job numbers are going to be volatile and more difficult to assess.

Turning to the markets, as I wrote about earlier this week, all of the major stock market indices saw new highs this week. This was expected as we have strong seasonality from October beginning the month in an uptrend as well as September ending the month at its highest close. Both of those tailwinds end TODAY with the October seasonal trends turning negative for the next three weeks. Additionally, stocks have rallied very hard into the beginning of earnings season which is now. Put another way, stocks have exhausted a lot of energy as companies begin to report Q3 earnings. It’s going to be difficult to maintain the rate of ascent, not to mention that companies better not disappoint.

While all of this may sound negative, I want to be crystal clear that I absolutely do not believe the bull market ended or is close to ending. I only have some very short-term concerns which may translate into a modest low to mid single digit pullback in stocks. Nothing to worry about over the intermediate or long-term. Semis, banks and transports all made new highs and discretionary has ceased lagging significantly. Industrials, materials and all at or near new highs. Energy is rallying sharply. All this as defensive sectors like REITs, staples and utilities are lagging. The recipe for higher prices remains firmly intact into year-end and into 2018.

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Beware of October in Years Ending in “7”

While I often write about seasonality, in the grand scheme of things, it’s really only a slight head or tailwind. For those who do not know what seasonality is, it is using a period of time in history to see what trends have occurred the majority of the time. For instance, Sell in May and Go Away, is a seasonal trend for stocks to be weaker from May through October and stronger the rest of the year. The day before an exchange holiday is typically a seasonally strong day. Until 2015, years ending in 5, but especially every other decade (2015, 1995, 1975, 1955) produced outsized large returns.
The stock market is about to enter a seasonally volatile period. This one only occurs once per decade. It’s basically the month of October in years ending in “7”, but it’s not that cut and dried, exactly. Let’s take a look below and see if today’s price action looks similar to the past.
2007 was the last bull market peak. Stocks rallied hard into the October high but the underpinnings looked awful. Participation was pathetic and leadership was very weak. We saw a very unusual Q4 decline unfold starting in October. Whereas Octobers have been called the bear market killer, in 2007, October killed the bull.

1997 is next and stocks were making fresh all-time highs right into the beginning of October. Then the emerging markets currency crisis hit and stocks saw the single largest one day point decline in history. From there, the bull market reasserted itself and new highs were quickly seen. This does have similarities to today.
1987 is below and I don’t have to tell anyone what happened in October of that year! Stocks had already peaked in August, followed by a 10% correction into September. After a feeble bounce into early October, the bottom literally fell out. Calls of a new Great Depression were everywhere after the single largest one day percentage decline in history.
1977 is next. The one year bear market was getting long in the tooth. October saw a downside acceleration straight to the ultimate bottom. A bear market killer.
Here is 1967 and you can see that stocks peaked in early October and promptly lost more than 10%. This also has similarities to today.
Finally, 1957 is below and like 1977, stocks were already in decline. They accelerated lower in October to the bottom later that month. Another bear market killer.
Adding 1947, 1937, 1927, 1917 and 1907 wouldn’t change any of the results. ’47 was somewhat muted. ’37 saw the continuation and acceleration of the decline to a bottom. ’27 had a modest decline in an ongoing bull market. Both ’17 and ’07 looked very similar, seeing the continuation and acceleration of ongoing declines.
Octobers in years ending in 7 have had unique behavioral patterns to the downside. It seems like markets that are already in decline see the worst selling in October while stronger markets, like today, see more muted declines. It’s something we definitely need to be aware of with North Korea percolating.

Signs Point Higher this Week

After a solid end to September and Q3, stocks open the new day, week, month and quarter flirting with all-time highs. Of the major indices, only the NASDAQ 100 isn’t there, but I expect to see that achievement this week. When I think of October, Reggie Jackson’s three home run game in 1977 comes to mind along with Halloween, fall foliage and stock market crashes. As I already wrote about, while October is known for huge market swings, 2017 is on the atypical side with near record low volatility.

I updated my research regarding October and you can read about it HERE. Additionally, the always interesting Rob Hanna from Quantifiable Edges offered that when the S&P 500 closes the month at its highest close, the next 5 trading days are seasonally very strong with 21 wins and 7 losses since 1995. The average trade earned a stout 1%. This trend jibes very well with what I discovered about the first 5 days of October in an uptrend. I will be looking for a short-term peak next week.

On the sector side, strong leadership continues to support buying any dip with semis, transports and banks all stepping up big time. Discretionary is fine, but I am beginning to see the early stages of intermediate-term underperformance. High yield bonds are behaving well and there is just no evidence that the 8+ year bull market is ending. Sorry bears…

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The Legend of October

A month ago, I wrote an article debunking the theory that September was always a poor month for the stock market. You can re-read itĀ HERE. Essentially, September’s ire was very much dependent on how price came into the month. While the average return since 1928 has been -1.1%, coming into September 2017, price action suggested an up month with an average price of +0.50%. As I write this, the S&P 500 is ahead by 1.5% on the final day of September.
October, on the other hand has a different reputation, one of volatility, wild swings and the beginning of the most favorable time of year to invest. Most people remember the stock market crashes of 1929, 1987 and 1997. Bear markets died in 2002, 1998, 1990 and 1974. Overall, the month averages +0.50% since 1950 in good times and bad. Similar to September, that average return does not tell the whole story.
October is set to begin with all of the major stock market indices at or close to all-time highs, however volatility is close to all-time lows. Unlike most months when stocks start the month above their long-term trend (200 day moving average), October actually bucks the trend and shows some negativity after the first 5 days.
When the S&P begins October in an uptrend:
  • First 5 days average return +0.66%
  • Second 5 days average return -0.26%
  • Third 5 days average return -0.30%
  • Last 5 days average return -0.25%
The main takeaway is that October is very much front loaded for returns and caution is warranted as the month proceeds when it begins in an uptrend. On the contrary, October has very strong returns when beginning the month in a downtrend. With volatility almost non-existent right now, it’s unlikely that it will suddenly conform to historic norms and surge several hundred percent although a modest second half decline with higher volatility is the most likely path.

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Stocks on Solid Footing Heading into Q4

Since late July, my overall theme has been one of pause to refresh with a mild pullback as the five major stock market indices were certainly not all in gear to the upside. Two months later, with the S&P 400 and Russell 2000 recently surging, they are all getting closer together. That behavior comes at the expense of the NASDAQ 100 peaking earlier this month and moving sideways for the others to catch up. I fully expect November and December to see all five major indices scoring all-time highs at the same time although I am still not ready to declare that stocks are ready to blast off to the upside.

I have written much about the semis and banks as a tale of two key sectors moving in opposite directions. While semis broke out to new highs, banks finally got off the rear end and surged 10%, close to new highs, a very positive sign. Transports behaved similarly, but even stronger. Discretionary, leaders in most years since the bear market low in 2009, look like they are peaking, at least over the intermediate-term which could spell some trouble for the consumer. Somewhat quietly as I have written about before, energy has become the single strongest sector after some horrific declines.

All in all, stocks are closing out the quarter on fairly solid footing and poised for higher highs into year-end.

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