Sleepwalking at the Stock Exchange

Students are back in school, but market participants appear to be extending their vacations as volume is noticeably absent. What is the reason for this? It could be that individual investors have left the markets in droves and those that have stayed are no longer actively participating. It could be that banks are winding the practice of trading for their own accounts. Or possibly it could be that investors aren’t convinced about which direction the markets and the economy are heading.

It is that last suggestion that could create results that are really perilous, or could create quite a money making opportunity. If there really is a case of mass indecision, then once the majority aligns their views, a substantial move could result when a consensus is achieved. Until that time markets appear to be sleepwalking through their days. There is very little movement and extraordinarily low volume. Friday finished with the second lightest volume on the NYSE for the year.

Markets did manage to put together back to back winning weeks, something not accomplished since mid June for the S&P 500 and the NASDAQ. The gains were fractional at best, but hey a winner is a winner - right? I contend that the markets action from this week will be either improved upon or reversed very quickly once a majority decision is made.

Market analysis is a probability business, not a guarantee. Currently there are two very opposite views about what is happening with the economy, which is contributing to the contrary stance that participants have when investing in today’s market. The bulls contend that stocks are cheap. Valuations as measured by PE ratios show that stocks are trading around 12 times earnings. Tech stocks on a historical basis are trading at their cheapest levels in decades, including the years immediately after the early 2000’s tech wreck.

Bulls also argue that with interest rates near zero, and likely to stay that low for the foreseeable future, stocks are a great value relative to all other asset classes for investment. A popular refrain from by the bulls is that dividend stocks are much more attractive than the low bond yields of today. Personally, I hope the bulls are right. I would love nothing more than to have our economy recover and witness a long sustained rally in stocks to new all time highs. I believe that everyone hopes that this is the scenario that plays out – even the hardened bears.

The opposing belief held by those bears is that the economy cannot sustain its recovery. They point to a strapped consumer that is overleveraged in debt, a banking system that is hoarding cash rather than actively lending money, and higher taxes (hidden and revealed) that are soon coming for everyone which will further impinge spending. Bears believe that after all the government spending to date and the spending yet to come, there is no way that consumers will be able to maintain the lifestyles that they have become accustomed to, because it was built on unsustainable debt rather than actual affordability.

People of all ages and all classes of life share a similar sad story. Retirees who believed they had enough money to see them through are going back to work because they overestimated the returns that they would be able generate on their savings. With interest rates hanging around zero, their investment plans are not providing enough to supplement Social Security and any pension that they may or may not have. Rather than eating up their principal to meet expenses, many have had to take part time jobs. By keeping rates so low in hopes of increasing business activity, the Fed may be accidentally penalizing prudent savers and possibly be making jobs harder to get for young inexperienced workers, adding to that generation’s plight.

It is clear is that a trading range has formed on the major indices. Above 1132 on the S&P will signal a bullish breakout and a retest to at least the highs of this year. Below 1040 and there is potential for a drop down to 950 or even as low 875. The support and resistance for the NASDAQ Composite is 2100 and 2342 respectively. Until those levels are pierced, trading will most likely remain light and choppy. If you own stocks, ETF’s, or mutual funds, please always have an exit strategy assigned to each and every position! The risks remain very high until a positive resolution is achieved.

*Pacific Financial Planners maintains positions in GLD & SLV.