Overheated Bulls May Freeze
This article is from the archive of The New York Sun before the launch of its new website in 2022. The Sun has neither altered nor updated such articles but will seek to correct any errors, mis-categorizations or other problems introduced during transfer.
“Into each life, some rain must fall,” Henry Wadsworth Longfellow wrote in 1842 in a poem called “The Rainy Day.”
Now, 165 years later, Standard & Poor’s chief technical strategist, Mark Arbeter, echoes similar thoughts about the high-flying stock market. In brief, he believes the market — reflecting a surging number of overheated bulls and sharply rising speculation — will soon be in for a period of rainy and snowy weather, maybe even a blizzard.
Like most of S&P’s investment brass, Mr. Arbeter expects a robust 2007 market showing, with his outlook calling for the S&P 500 to wrap up the year at between 1600 and 1675, versus Friday’s close of 1448.39. That’s even higher than the official S&P line, which calls for a year-end finish of 1510 or a total return of nearly 8.5%.
So it follows that investors should fatten their market exposure, right?
Wrong!, our technician says. “We’re now at a dangerous point in the market. This is the wrong time to buy stocks.”
Indicative of this, he says, a little-known but highly accurate indicator has been triggered that strongly suggests a market contraction will kick off later this month and knock the S&P 500 down 3% to 5% (or 8% on a worstcase basis) by the end of April. An even bigger decline in this period — on the order of 7% to 10% — is seen in the Nasdaq.
The indicator — which is based on the relationship of weekly trading volume between the two exchanges — tends to give sell signals about one to two months before an intermediate term top and is on the money about 70% of the time. Historically, Mr. Arbeter notes, when Nasdaq volume rises to the level of Big Board volume —which it recently did — it suggests risk taking is growing and bullish market sentiment is overheating.
“We’re in for a temporary pause in an ongoing bull market.” Mr. Arbeter says. Pointing to this, he observes, is the appearance of ballooning and more speculative Nasdaq volume, versus New York Stock Exchange volume.
He points out that over the past three years, whenever Nasdaq volume has exceeded New York Stock Exchange volume by at least 40% on a three-week basis — which happened in December — the overall market, as measured by the S &P 500, has soon pulled back.
It occurred in January 2004, January 2005, and April 2006, and following these occurrences, the SP 500 pulled back 8.2%, 7.2%, and 7.7%. Even heftier declines took place on the Nasdaq, which fell 17.2%, 12.6% and 14.8%.
Supporting his near-term technical outlook for lower stock prices, he tells me, are the dwindling number of new highs on both the NYSE and Nasdaq despite higher prices in the major indexes. About 70% to 80% of the time, such a development, Mr. Arbeter says, is also a forerunner of falling stock prices.
Most vulnerable in the downturn he sees are the aggressivetype stocks that have risen the most since last summer. These would include such areas as technology, the Internet, retailing, including specialty apparel stores, and casinos. The hot Chinese stocks are also thought to be vulnerable, including the exchangetraded fund, iShares FTSE/Xinhua China 25.
On the other hand, Mr. Arbeter notes certain sectors look technically strong. Chief among them are health care and consumer staples, namely household products, soft drinks, and tobacco.
What about the torrid energy sector? “It’s a tough call, but I’m neutral,” Mr. Arbeter says. After about a $9 run the past couple of weeks, he thinks crude oil is likely to give up some gains. As such, he sees oil and oil services stocks susceptible to a dose of profit taking, which could drive them down about 5% to 10% over the next couple of months.
Though worried about the vigor of the market over the near term, Mr. Arbeter says the long-term trend suggests much higher prices by year-end. Noting that “we’re coming off four-year cycle lows in 2006 in many indexes,” he observes that dating back to 1932, such multiyear lows are followed by an average 18% advance in the ensuing year. Yet another catalyst, he points out, many S&P sector indexes have broken out of longterm bases.
The bottom line: It’s okay to be bullish, but if you’re in the mood to buy stocks, wait a few months because you’ll be able to buy them at cheaper prices.
