Saturday, May 03, 2008

Four Observations About the Current Stock Market

1) Selling Pressure Has Abated - If you look at five-day money flows in the 30 Dow Industrials stocks (top chart), you can see that, since January, we've had reduced outflows from stocks. Indeed, during the month of April, we saw more inflows than outflows--particularly in the S&P 500 stock universe. As long as flows into stocks are improving, I find it difficult to sustain a bearish stance on the market.

2) Buying Pressure Is Modest - This is clear from the low level of recent positive readings in money flows (top chart), but also from overall advance-decline figures; cumulative NYSE TICK; and 52-week new high/low readings. This is because much of the recent market rise has featured sector rotations--flows of funds out of certain sectors and into others. While it seems clear that selling has abated, I find it difficult to anticipate a fresh bull market as long as much of the upside action is robbing one sector to pay another.

3) The Market Is Getting Stronger In Recent Days - Yes, the buying pressure is modest, but if you look at the percentage of S&P 500 stocks trading above their 200-day moving average, it has been steadily rising. An additional look at the excellent chart from Decision Point shows that we are coming off highly oversold levels in the percentage of issues trading above their 200-day average and are not yet near overbought levels. I noticed that we expanded to over 1900 new 20-day highs among NYSE, NASDAQ, and ASE issues on Friday. That's not how weak markets behave.

4) The Market Is Showing Underlying Long-Term Strength - We've had credit crises, a plunging dollar, a housing meltdown, concerns over investment bank failures, and an economic slowdown, but look closely at the long-term chart of the S&P 500 Index (bottom chart). The recent market decline has been small potatoes compared to the 2000-2003 rout. Could the economic situation get worse? Could the market turn tail and move lower? Of course. But, for now, in the face of major bearishness and quite a wall of worries, the market has held its own quite well. We are only about 10% from all time bull highs.

Bottom line: I think we'll need to see increased buying pressure to reach and sustain new bull highs in the broad market indexes, but I also think we'll need to see a resumption of increased selling pressure to take the market to fresh bear territory. With considerable sector rotation, it's a selective rally, with funds coming into beaten down consumer discretionary, technology, and financial shares. Investors may not have concluded that happy days are here again, but increasingly they're acting as if the financial world as we know it just may not come to an end.