Markets Give the "All Clear" Signal

12/23/2009 11:00 am EST

Focus: MARKETS

John Bollinger

President and Founder, Bollinger Capital Management

John Bollinger, editor of Capital Growth Letter, says the market has given several signals it could move higher in the weeks ahead.

Quietly, with few paying real attention and the naysayers howling, the stock market has consolidated and started to trade into higher ground. My biggest worry was that with the emphasis shifting to larger stocks, we'd be left with worrisome divergences, but that is not turning out to be the case.

Take the New York Stock Exchange Advance/Decline Line, a cumulative sum of the daily number of stocks advancing less those declining. It has gone to new highs right along with price, something we would only expect to see in a well-confirmed rally. Stock indices as diverse as the Dow Jones Industrial, Transportation and Utility Averages, the Standard & Poor’s 500 and 400 and the Nasdaq Composite indexes all inked new recovery highs [last week].

(The new recovery highs in the Dow Averages constitute a positive Dow Theory signal and a minor “all clear” signal for the market as a whole.)

As we pull into year end, I have noticed the relative strength of the smaller stocks starting to pick up, both on the up side with larger relative gains and on the down side with smaller relative losses. The phenomenon of smaller stocks doing better in January is well known and documented; in fact it is so well known it has largely disappeared. However, it looks to me like we are setting up for a classic small-stock January, so I recommend a spread: short large stocks, long small stocks.

I view this as a counter-trend trade that will likely work for a month or so, after which I expect a return to large-cap leadership. So, nimble players only!

The international indices have been losing a lot of relative strength to US stocks. which coupled with the recent relative calm/rally in the dollar leaves us wondering if this wave of America bashing isn't over.

This has been a very long cycle of America bashing, and the pendulum is due to swing in the other direction. Perhaps America will prove to be the economic recovery leader? That would do it! Is that rumbling I hear a V-shaped recovery rather than a double-dip recession?

The dollar’s recent rally has carried it back to the levels from three months ago. In fact, we first touched these levels at the end of July, so we are unchanged on the Dollar Index for four-and-a-half months. I am not ready to call the bear market over yet; however, the evidence is mounting for a stronger dollar. 77.50 is a key pivot point in our work, and we are right on it. A series of sustained closes above that level would be an all-clear signal for the dollar. (It traded over $78 Tuesday—Editor.)

Subscribe to Capital Growth Letter here…

Related Articles on MARKETS