A Green Light for the Bull

11/01/2010 1:00 pm EST

Focus: MARKETS

James Stack

President, Stack Financial Management

Jim Stack, president of Stack Financial Management and editor of InvesTech Research, says a key technical indicator he watches closely has given a bullish signal for stocks.

While widespread headlines of a possible double-dip recession earlier this summer triggered the twelfth worst quarterly loss in over 70 years, that fear was reversed by a strong third-quarter rally and the best September gains since 1939!

In recent weeks, one of InvesTech’s most important proprietary technical models has given a “green light” to the bull market for another six months—and possibly longer.

While new bull markets often have to climb a wall of worry, this current one is being forced to scale a mountain range of trials, tribulations, and torment. Just when one hill gets conquered, another appears immediately ahead.

Is it any wonder that a current CNBC Economic Survey found that “…a majority of Americans do not believe this is a good time to invest in the stock market, about the same percentage as during the height of the financial crisis in 2008.”

Our Negative Leadership Composite has returned to a bullish reading that has historically signaled more bull market gains ahead. And in many cases, those gains are significant.

To us, it means a high probability that the bull market will soon hit new highs and likely continue into 2011.

Of the 20 previous instances when the NLC climbed through +40, only one bull market ended within six months (1968—caused by Federal Reserve tightening), and only three saw the end in less than 12 months. The average three-, six-, and 12-month gains were a very healthy 3.9%, 7.8%, and 11.5%.

This technical evidence supports our view that a bear market is not imminent and the economy is not headed back into recession.

We could list the foreclosure crisis, housing inventory, Fannie Mae and Freddie Mac, and residual banking problems. Or we could mention the sharp rebound in commodity prices, the saber rattling by North Korea and Iran, the record deficit, and projected federal debt over the next ten years.

But frankly, these types of worries are no worse than I remember at the depths of the 1973-74 bear market, after the 1982 recession, or following the 1987 crash.

Worries are always plentiful in the first year or two of a new bull market. However, it’s the potential warning flags that one should be focused on. [A recent]  Consumer Sentiment survey from the University of Michigan was basically flat, but the expectations component was notably higher, and the 12-month outlook was even better.

Having a breakout to the up side of the obvious “head-and-shoulders” formations in the various indexes is a huge positive development. If the previous summer highs can be broken, then all these gyrations of the past five months should provide a support level for further gains in 2011, as investors start to feel left behind.

Don’t expect a runaway bull market, but the risks of a renewed bear market are subsiding.

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