The major indexes scored a second consecutive month of gains. The benchmark S&P 500 index and Dow Jones industrial Average each gained about 1% in May, while the tech-heavy Nasdaq Composite gained 2.6%. The S&P 500 index shed 0.9% over the past week and Dow Jones Industrial lost 1.2%. Following three weeks of gains it was the first weekly decline for the S&P 500. The Nasdaq ended the week 0.4% lower. Year-to-date Treasury bonds are the only major asset class in the red.
A tool to help confirm the overall market trend is the Bullish Percent Index (BPI). The Bullish Index is a popular market "breadth" indicator used to gauge the internal strength/weakness of the market. It is the number of stocks in an index (or sector) that have point & figure buy signals relative to the total number of stocks that comprise the index (or sector). So essentially it is the percentage of stocks that have buy signals. Like many of the market internal indicators, it is used both to confirm a move in the market and as a non-confirmation and therefore divergence indication. If the market is strong and moving up, the BPI should also be moving higher as more and more stocks are purchased.
The updated chart indicates recent analysis is playing out as advertised "...The S&P 500 Index continues to hit nominal new all-time highs...most of the major equity indexes have settled into tight trading ranges with relatively low volume. Don't expect the S&P 500 index to break higher into a new bullish leg until BPSPX starts trending higher..."
In the chart below, notice how the small cap Russell 2000 Index basically lagged its larger cap brethren the past month. This behavior is a strong negative against the overall market breaking out into another bullish leg. The major indexes reached nominal new highs but could not surge higher. Now all the indexes are dropping in unison, which might be the sign of a pending market pullback.
Last week we said "...It's hard to imagine the Dow Jones Industrial Average climbing strongly without some help from the transports...a weak picture for the Dow Transports, which is also below its 200-day moving average..." In the updated chart below the divergence between the Dow industrials and the transports is the widest it's been in three years.
The dollar rally reasserted itself in May, after the buck snapped a nine-month winning streak by finishing lower against the euro in April. Commodities are priced in U.S. dollars, so as the greenback moves higher, instruments like oil and gold generally move lower, and the inverse applies due to the strong correlation in the moves. In the beginning of the week, the U.S. dollar moved higher on a Durable Goods Report suggesting business investment is slowly starting to pick up following stronger-than-expected Consumer Prices last week. Treasury prices finished the week higher, driving yields down to their lowest level in a month, on a report that showed that the U.S. economy contracted in the first three months of the year. Bad news has been a boon to the bond market because it usually compels investors to shed riskier assets in favor of safe havens, like Treasury's. A meaningful recovery in U.S. economic data, beginning with the nonfarm payrolls report for April, coupled with a reassuring statement from Yellen saying implying that the Fed intends to raise rates this year dispelled worries that the central bank might wait until 2016. Higher interest rates typically draw foreign flows into a given currency, helping it strengthen against its rivals, by increasing the yield on deposits held in that currency.
Market Outlook
Investors continue to search for clues on when the Federal Reserve will raise interest rates. San Francisco Fed President John Williams said the Fed would likely hike federal funds rate later this year. He reiterated Fed Chairwoman Janet Yellen's views that the central bank may raise interest rates this year as she believes soft economic data will not have a lasting effect on the economy. St. Louis Fed President James Bullard said that he wants "confirmation" that the economy is rebounding before hiking interest rates. Additionally, Minneapolis Fed President Narayana Kocherlakota said: "It follows that monetary policy makers should be extraordinarily patient about reducing the level of monetary accommodation."
In the second-quarter chart below, Nasdaq shares are the best performers. This is primarily because biotechnology stocks are a major component of the Nasdaq index and these shares have been soaring all year.
A standard chart that we use to help confirm the overall market trend is the Momentum Factor ETF (MTUM) chart. Momentum Factor ETF is an investment that seeks to track the investment results of an index composed of U.S. large- and mid-capitalization stocks exhibiting relatively higher price momentum. This type of momentum fund is considered a reliable proxy for the general stock market trend. We prefer to use the Heikin-Ashi format to display the Momentum Factor ETF. Heikin-Ashi candlestick charts are designed to filter out volatility in an effort to better capture the true trend.
The updated char below confirms recent analysis "...The Momentum Factor needs to break through the top of the current trading range to confirm a bullish move... the recent bullish move is not confirmed as the top of the trading range contains the price..." As noted momentum is actually starting to decline.
Thin trading volume confirms a lot of traders are still sitting on the sidelines. The low volume can be expected to continue during the summer months. Looking at the chart below suggest the Volatility Index is due for a bounce from last week's extreme low. If the S&P 500 continues to pull back next week the VIX should follow through and continue higher.
The updated Put/Call ratio indicates traders have gotten extremely nervous the past week. They have purchased an excessive amount of put contracts to protect against potential falling stock prices.
The American Association of Individual Investors (AAII) Sentiment Survey measures the percentage of individual investors who are bullish, bearish, and neutral on the stock market for the next six months; individuals are polled from the ranks of the AAII membership on a weekly basis. The current survey result is for the week ending 5/27/2015. The AAII neutral reading has been at historically high levels the past eight weeks. Retail investors appear to be following the lead of institutional money managers and sitting on the sidelines with relatively large cash positions.
The Nation Association of Active Investment Managers (NAAIM) Exposure Index represents the average exposure to US Equity markets reported by NAAIM members. The blue line depicts a two-week moving average of the NAAIM managers' responses. NAAIM member firms who are active money managers are asked each week to provide a number which represents their overall equity exposure at the market close on a specific day of the week, currently Wednesdays. Responses can vary widely as indicated below. Responses are tallied and averaged to provide the average long (or short) position or all NAAIM managers, as a group. As the name indicates, the NAAIM Exposure Index provides insight into the actual adjustments active risk managers have made to client accounts over the past two weeks. First-quarter NAAIM exposure index averaged 83.02%. Last week the NAAIM exposure index was 67.61%, and the current week's exposure is 65.50%. The continued low exposure number confirms relatively subdued trading volume.
Trading Strategy
In the chart the chart below major S&P sectors are basically flat the past month. You can see how energy stocks are the biggest loser primarily in response to a recent upsurge in the dollar. Commodities are priced in U.S. dollars, so as the greenback moves higher, instruments like oil and gas generally move lower, and the inverse applies due to the strong correlation in the moves. Health Care is the strongest as this group is actually the best performing S&P sector for the entire year. Heath Care sector gains are being driven by exceptional gains among biotechnology stocks. Financial stocks might be a good near term bet if rates rise as pundits expect. Higher interest rates usually benefit financial companies.
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