This is a very powerful rally. The combination of surprisingly strong economic reports and even more surprisingly strong earnings reports is pushing broad swaths of the U.S. stock market to new highs.
Even the technicians are impressed.
“The vast majority of NYSE stocks are in intermediate-term uptrends, independent of short-term pullbacks and volatility,” Michael N. Kahn of Lowry Research, the oldest technical analysis service in the U.S., wrote in a note to clients.
Of course, the market hit new highs in January and February, but this, time it’s different. Previous new highs in January and February were greeted with some hand-wringing: it was mostly big-cap tech stocks that were forcing the markets higher.
Not this time.
The rally has broadened out, big-time. Far more stocks are advancing than declining. Nearly one-fourth of the stocks in the S&P 500 and the NYSE Composite Index are at new highs. Recently, laggard groups like utilities, health care, and REITs have been outperforming prior leaders like technology and industrials.
Value is at a new high. Growth is at a new high. Big caps are at new highs, midcaps are at new highs. The small-cap Russell 2000 is lagging slightly, 4% off its high, but no one seems to be complaining too much.
The good news is that a major breadth advance is bullish for the markets.
The bad news is — well, traders aren’t sure what the bad news is, or whether the old rules even apply.
Everything is going up
One feature of the market this year is that if one sector lags (like technology) other sectors come along (like energy, banks, or industrials) that continue the rally, so the S&P stays on mostly an upward trajectory.
But now, everything is going up.
“The net of it all is that against the drop-dead good technical numbers, it has been hard to lose money, at least a lot, but not all that easy to make money,” Frank Gretz from Wellington Shields said in a note to clients, noting that when everything is up, it’s hard to make money as a trader rotating in and out of stocks: “Now the only thing running consistently is the S&P 500.”
That sounds like an odd problem to have: we’re running out of places to rotate into. But for active traders, it’s a serious issue.
“There’s no Covid discount anymore,” Peter Tchir, head of macro strategy at Academy Securities, told me. “There’s no obvious sector where it looks like the rest of the market has ignored the space. I’m not sure if we should just be 50% in cash and just figure out what gets mispriced in the next week or two.”
Earnings will be the big test
The market is now facing a very large group of stocks — not just technology names — that are rising fast and that have expectations that earnings are going to be rising fast. And that may be where the resistance starts.
“Most companies are not reacting well to earnings,” Alec Young, chief investment officer at Tactical Alpha, told me, noting that bank stocks barely budged last week despite reporting profits well above expectations. “Stocks are running well going into earnings. What’s not clear to me is whether they can maintain momentum once the earnings have been reported.”
The Fed problem is going to return
Then there’s the Fed problem — with economic growth well above expectations, it’s only a matter of time before the Fed becomes an issue, as it was in February.
“Investors want it both ways — they want strong growth but they don’t want the Fed to taper [buying bonds],” Young said. “The Fed is not going to sit on their hands with this kind of growth, they’re going to have to at least taper” sometime later this year, Young said.
Tchir agrees, noting that prices have moved so fast it’s likely something is going to give.
“We have priced in great economic growth, moderate inflation, and a belief that yields are under control,” Peter Tchir said, noting that recent reports that the Japanese have been buying U.S. bonds have helped drive down bond yields. “If one of those legs give way, we are going to have a pullback.”
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