New Highs Would Mean A Lot

4/27/2015


We'd feel a little better about things if the S&P 500 Index and Dow Industrials could surpass their March 2 all-time highs, both within 1.5% of current levels. We'd feel a lot better if those highs were confirmed by the Dow Transports with a nearly 4% rally and a close above their December all-time high of 9,217.44.

For those wondering if it makes sense to attach significance to such minor market moves, we make three points:

Making new highs is what bull markets do. Stocks don't advance in a straight line. Even when news flow is overwhelmingly positive, the market will suffer pullbacks when investor sentiment becomes too bullish. When underlying company values are rising, however, those sentiment-driven pullbacks will be followed by rebounds to new highs.

For example, the Industrials and S&P 500 Index reached their March 2 all-time highs amid widespread optimism regarding improvement in the U.S. and European economies, mild inflation, and contained interest rates. A rally above the all-time highs would suggest the majority money opinion thinks the bullish case is intact — even though the market may have been a bit ahead of itself on March 2.

This year's market action has set up a classic Dow Theory scenario. Unable to reach new highs since Dec. 29, the Transports in early April broke below a significant low. The Industrials have avoided a breakdown to new lows, so the December reconfirmation of the bullish primary trend represents the last important signal under the Dow Theory.

However, because of this year's trading-range environment, both significant highs and significant lows are within striking distance. With closes above 18,288.63 in the Industrials and 9,217.44 in the Transports, the bullish trend would be reconfirmed — and the Dow Theory would be squarely in the bullish camp. On the downside, a roughly 5% breakdown below 17,164.95 in the Industrials would represent a bear-market signal.

A breakout to new highs could trigger some panic buying. After lagging the indexes badly last year, many portfolio managers are under pressure to perform. For those who have turned defensive amid this year's choppy action, new highs would exacerbate that pressure — and encourage them to plow their cash into the stock market. With an unusually high number of stocks trading just below 52-week highs, investors could feel the fear of being left behind on a stock-by-stock basis.

Conclusion

Subscribers should watch the averages, hold about 85% of equity portfolios in stocks, and look for opportunities. For new buying, especially promising names include Jones Lang LaSalle ($164; JLL), Lear ($117; LEA), and Shire ($254; SHPG).


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