Technical Outlook Weak Despite Rally
Comstock Partners, Inc.
Thursday, Novemer 17, 2005
For the past 12 months the S&P 500 has traded in a relatively narrow range between a high of 1245 and a low of 1136, and once again we are approaching the top of the range where it has been stopped on several occasions. On a technical basis it is likely that any substantial breakout to new highs on heavy volume will result in a continuation of the rally to year-end. On the other hand, a move back down below 1136 would probably signal a resumption of the secular bear market that started in early 2000. Despite the current rally, we believe, both on a technical and fundamental basis, that the bear market will soon resume.
In our view, the technical aspects of the rally have been somewhat suspect in terms of breadth, volume and the number of new daily highs and lows. Overall, breadth has been much weaker than the major indexes, while volume has not picked up in with stock prices. At the same time the number of new daily lows has continued to exceed highs, even today, when the S&P 500 approached its prior rally highs. The VIX (CBOE Volatility Index) has dropped back to 11.25, near the low end of its range for the last ten years. Sentiment has again become overly bullish with Investors’ Intelligence bulls exceeding bears by 53% to 23%. Equity fund manager optimism is reflected in the fact that cash as a percentage of assets has declined to 3.8%, the lowest level in 40 years. The expectation of a year-end rally has been so widely discussed and anticipated, that it is likely the cash has already been invested.
The relatively poor technical picture is reinforced by the softening housing outlook, the negative household savings rate, record consumer debt, tepid consumer spending, Fed tightening, narrowing yield spreads and still lofty energy prices. Without the ever-increasing net worth resulting from rising home prices, households will have to raise their savings rates back to more normal levels, resulting in reduced spending. Since consumer spending growth generally leads industrial production by anywhere from 3-to-9 months and capital spending by 6-to-12 months, any weakness on the part of the consumer is likely to spread to the general economy. This should come as a highly negative surprise to an overvalued stock market that is priced for continuing growth.
© 2005 Comstock Partners, Inc.
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