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3 Warnings For Market Bulls

  • Written by Syndicated Publisher No Comments Comments
    August 9, 2015

    There is a very interesting podcast at Financial Sense with Richard Dickson, who is the Senior Market Strategist at Lowry Research. The reason that this particular interview is so interesting is that Lowry Research has been one of the primary supports for Jeff Saut’s uber bullish view on the markets over the last couple of years. To wit:

    [May 2, 2014] In fact, the SPX has been in a flat-line pattern for almost two months, having only gained 0.03% since March 7th, causing many Wall Street wags to proclaim a major “top” is at hand. However, as Lowry’s writes:

    ‘The 88-year history of the Lowry Analysis shows that such stalemates are relatively common developments during most bull markets. They simply reflect periods in which investor buying enthusiasm is temporarily fatigued, at the same time that sellers are reluctant to part with their stocks, in anticipation of eventually higher prices. Thus, there is not enough Demand to push prices up to new bull market highs, and there is not a strong enough desire to sell to drive prices sharply lower. Eventually, sideways trading patterns are usually resolved through the process of a short-term correction, in which investors become impatient and sell, pushing prices low enough to revitalize buying enthusiasm and launch the next leg of the bull market.’

    Obviously I agree with the astute Lowry’s organization, and I will say it again, ‘It is too early to know if this is the beginning of a 10%-12% correction.'”

    That was so last year. However, very similarly this year, markets have once again been locked in a stalemate with “buyers” fatigued and “sellers” unwilling to part with stocks from fear of missing the next leg higher.

    So what is Mr. Dickson saying now?

    Dickson says when the broader indexes are approaching a top, the advance is led by fewer and fewer stocks, which has been seen at every major market peak they’ve studied.

    This phenomenon registers in the market’s widely followed advance-decline line, however, Dickson points out that relative under-performance by small-cap stocks often provides an earlier warning signal to potential trouble ahead. He notes that small-cap stocks began to deteriorate almost a year ago, and many have already entered bear market territory. This is not healthy action, he says.

    Based on research conducted at Lowry, this predicts a market top within 4 to 6 months.In the interim, Dickson will be watching a variety of other technical indicators for confirmation, such as buying power and selling pressure.

    Here is a chart of the advance-decline line and small-cap performance relative to the S&P 500.

    SP500-Adv-Decline-080615

    McClellan: Market Lacking “Escape Velocity”

    Tom McClellan, a family famous for the “McClellan Oscillator” recently issued a note discussing the importance of the number of advancing and declining issues and “escape velocity.” To wit:

    “To understand this important point, we need to explore and define a principle of rocketry known as ‘escape velocity.’ This term is variously (and sometimes confusingly) defined as the velocity which a projectile needs in order to escape the gravitational field of a planet or other body, and/or the velocity needed to achieve stable orbit as opposed to falling back down to Earth. My purpose here is not to defend either definition; for our purposes, the idea is the same, that there needs to be sufficient energy to keep from falling back down.

    The Summation Index can show us that. For this discussion I will be using the Ratio-Adjusted Summation Index (RASI), which factors out changes in the number of issues traded.,,the RASI gives comparable amplitude levels with which to evaluate available financial market liquidity.

    RASI July2015

    “The +500 level for the RASI is the important go/no-go threshold for this concept of ‘escape velocity.’

    Since the 2009 bottom, the Federal Reserve has made sure that there was liquidity available to the financial markets, at least for the most part. The cutoffs of liquidity after both QE1 and QE2 led to vacuums in the banking system, and stock prices fell into those vacuums. The question for 2015 is whether Fed actions are going to take away the liquidity punch bowl, and create a problem for the next rally’s ability to achieve escape velocity.

    We saw this principle of diminished liquidity back in 1998-2000, and again in 2007-08, as highlighted in this historical chart. When the RASI failed to climb back up above +500, it said that there were liquidity problems which ended up keeping the stock market from being able to continue itself higher.”

    RASI 1998-2008bb

    My leading indication from the eurodollar COT data says that we should expect a major top in August 2015, and so there is not all that much time left for the RASI to get back up above +500. An upturn from this oversold condition should be able to produce a marginally higher price high, but if it cannot produce a RASI reading above +500, then we will know that the end has arrived for the bull market.”

    Effron: M&A Activity Looks A Lot Like 2007

    In a recent interview on CNBC, Blair Effron, co-founder of Centerview Partners and one of Wall Street’s biggest dealmakers, highlighted the similarities between the current M&A environment to that of 2007.

    Currently, M&A activity is at its highest level since 2007 with global volumes hitting $2.9 Trillion since the beginning of 2015. According to data from Dealogic, that is a surge of 38% as compared to the same period in 2014.

    Importantly, Effron also notes that the high valuations paid for M&A deals are, in large part, being driven by the current low interest rate environment.

    Of course, with low interest rates, that means the majority of those deals are being funded by debt issuance. via WSJ:

    “According to Dealogic, the Americas accounts for 83% of global acquisition related bonds, with a record $241.7 billion issued so far this year, compared with just $62.6 billion this time last year. In Europe, 38% of all high-yield bond issuance in the first half of the year has been related to M&A activity, according to Credit Suisse.”

    MA-DebtFinancing-080615

    That is an interesting point since that is the same argument for high stock valuations, stock buy backs and dividend issuance and the housing market. Given that the vast majority of analysts currently believe interest rates are on the verge of rising, logic would suggest that such will likely be a negative for the bullish mantra.

    While we have seen this same game play out repeatedly before, this time is surely different…right?

    Images: Flickr (licence attribution)

    About The Author

    Lance Roberts – Host of StreetTalk Live

    After having been in the investing world for more than 25 years from private banking and investment management to private and venture capital; Lance has pretty much “been there and done that” at one point or another. His common sense approach has appealed to audiences for over a decade and continues to grow each and every week.

    Lance is also the Chief Editor of the X-Report, a weekly subscriber based-newsletter that is distributed nationwide. The newsletter covers economic, political and market topics as they relate to the management portfolios. A daily financial blog, audio and video’s also keep members informed of the day’s events and how it impacts your money.

    Lance’s investment strategies and knowledge have been featured on Fox 26, CNBC, Fox Business News and Fox News. He has been quoted by a litany of publications from the Wall Street Journal, Reuters, The Washington Post all the way to TheStreet.com as well as on several of the nation’s biggest financial blogs such as the Pragmatic Capitalist, Zero Hedge and Seeking Alpha.
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