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What's Changed? Investor Psychology

04/28/2016 9:00 am EST


James Stack

President, Stack Financial Management

Today, April 28th, this bull market becomes the 2nd longest in US history – surpassed only by the tech bubble of the 1990s, recalls Jim Stack, market historian, money manager and editor of InvesTech Market Analyst.

That is, of course, if Wall Street is still in a bull market! And that remains a wide-open debate since major blue chip indexes hit their highs almost 12 months ago.

This year started with a waterfall decline that turned into a remarkably strong rally, suggesting that the bull market may still be intact. So what changed so suddenly and dramatically?

The answer is investor psychology. And what turned that psychology around so quickly were dovish comments from the Federal Reserve.

The technical picture has changed dramatically in the past couple months – raising the prospect, or even probability, of new highs ahead in the blue chip indexes.

However, the jury is still out on whether this newfound strength will be enough to fuel a new bull market leg, or if it might be the final trap in a 7-year-old bull market.

Warning flags of possible trouble began appearing early last year – and leadership began showing serious “distribution” by mid-July.

Never in 50 years has our Negative Leadership Composite spent this much time below its warning level without stocks experiencing a bear market.

The Conference Board’s Leading Economic Index (LEI) has weakened since peaking in November last year. Historically, a drop below the 18-month moving average
would increase the probability—of a recession in the next 9-12 months.

More worrisome is the drop in&—the ratio of Leading to Coincident (LEI). Its weakness in recent months – including falling below its 18-month moving average – is not an encouraging sign for the economy in general.

Both the economically-sensitive Transportation Average and the Russell 2000 Small Cap Index have yet to recover with the blue chip indexes.

Transportation stocks are a pulse on the overall health of the broad economy while small-caps give an indication of how Main Street is faring.

While both indexes have been rallying, their failure to confirm the strength in either the DJIA or the S&P 500 indicates all is not right in this rally.

Technical evidence has improved over the past month, but enough unresolved issues still persist such that we are maintaining our defensive strategy, focused on non-cyclical sectors to reduce volatility and market risk.

While this rally has opened the door to new bull market highs, evidence indicates that further volatility may lie ahead and a “safety-first” stance is still warranted.

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By Jim Stack, Editor of InvesTech Market Analyst

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