The Santa Claus rally has begun a week earlier than normal when the Dow Jones Industrial Average gained more than 700 points in three days and the S&P 500 Index rallied 5%. That's almost, but not quite, back to where it was when the sell-off started nearly two weeks ago. The Christmas present from the Fed was Wednesday's announcement by the rate-setting Federal Open Market Committee that it can be "patient" in deciding when to start raising interest rates again was followed by a press conference in which Yellen said the Fed would not raise rates until after "a couple of meetings" in 2015.
U.S. stocks extended gains for a third session on Friday, giving the S&P 500 its best weekly performance in nearly two months as energy shares continued to rebound. The S&P energy index jumped 3.1 percent, leading the benchmark index's advance, and closed out the week with a 9.7 percent gain, its biggest weekly increase since December 2011. The benchmark S&P 500 has gained 5 percent over the three sessions, bouncing back quickly from recent losses sparked by a selloff in oil prices. For the week, the Dow gained 3 percent, the S&P 500 rose 3.4 percent and the Nasdaq climbed 2.4 percent with the S&P 500 rising to within a few points of its closing record high. The index has gained 5 percent since Wednesday for its best three-day stretch since 2011. As we head into year-end, treasury bonds continue to be the top performer as this asset class has been in a bullish trend all year basically unabated.
Last week we noted "...the Bullish Index confirmed last week's technical signals by starting a downtrend as bearish momentum continued..." In the updated Bullish Percentage Index chart below we highlight the broken downtrend line. We still need further confirmation to see if there is a new uptrend, especially considering momentum is still flashing bearish signs.
Last week's analysis said "...The inverse relationship between the dollar and commodity played out last week as the dollar pulled back from multiyear highs... treasury bonds exploded, plus even gold jumped to its highest price since October..." In the updated chart below you can see the inverse relationship continues to play out as the previous week's trend reversed. The dollar returned to recent highs while treasuries and precious metals pulled back this past week.
Last week we noted "...in recent years, the market has been prone to early-December weakness...On average the DJIA, S&P 500 and NASDAQ tend to drift lower until reaching their respective December lows sometime mid-month...From that point on they briskly rally into yearend...The sharp slide in the stock market this week also has the major averages nearing technical support...look for the market to bottom next week, possibly Monday, followed by a strong up day and then a nice rally to wrap up the year..." The December seasonal pattern performed as advertised with the major indexes generating the best weekly gain in months. Officially the so-called "Santa Claus Rally" is the seven-trading day period begins on the open on December 24 and ends with the close of trading on January 5. Normally, the S&P 500 posts an average gain of 1.5%. The failure of stocks to rally during this time tends to precede bear markets or times when stocks could be purchased at lower prices later in the year.
As the fourth quarter winds to an end, the chart below shows that Real Estate remains the top performing asset class. But other sectors that are coming on strong such as the small cap Russell 2000 and DOW Transports signal that investors are confident about future economic performance. Particularly the Russell 2000 is considered a bellwether for near term direction on where the market is headed.
Last week we mentioned "...we highlight the break below the recent uptrend line into a downtrend which is confirmed by bearish momentum. Stock prices need to recover during option expiration next week to get back the momentum for finishing the year strong..." In the updated Momentum Factor ETF (MTUM) chart below we highlight where the recent downtrend line has been broken with a new uptrend. Also noted is momentum is turning bullish to confirm the market should finish the year on an up note.
Last week we stated "...what happens during triple-witching next week will say a lot about if or when the market returns to recent highs..." In the updated chart below you can see the market returned to recent highs while the Volatility index plummeted. Expect the VIX to continue downward as traders have moved past the recent market hiccup and are more confident in the market heading into next year.
Last week we opined, "...the best bet is still moderate price movement over the next week or so with prices spurting higher into year-end..." The current American Association of Individual Investor Survey (AAII) survey result approximates historical norms. The current reading supports the expectation for moderate near-term price movement as traders go on vacation during the Christmas holiday.
Third-quarter National Association of Active Investment Managers (NAAIM) exposure index averaged 71.09. Last week the NAAIM exposure index was 89.01%, and the current week's exposure is 65.12%. Money managers backed off from relatively high exposure as they sold off losing stocks for year-end tax purposes. Also, investment managers are putting cash in the kitty to prepare to bid on shares to start the New Year.
Last week's comment "...Next week is critical for determining market momentum heading into the end of the year and kicking off 2015. Prior to this past week, the major indexes had not suffered a weekly loss in almost two months. Next week is the final expiration week of the year for regular options and is a triple-witching week when contracts for stock index futures, stock index options and stock options all expire on Friday. The markets usually experience elevated volatility during triple-witching week and if this follows last week's volatility surge the probability for stocks to end the year higher is lessened..." Triple-witching week was big for the stock market with the best weekly performance in a long time for the major indexes. Holiday week is normally a slow trading week and you can expect the market to consolidate at its current highs. The best strategy is to purchase shares in the top performing S&P sectors below because these stocks will continue to lead as the market moves higher.