DAY HAGAN RESEARCH UPDATE
LONGER-TERM INDICATORS REMAIN SUPPORTIVE
Sentiment remains optimistic for now. However, there are some divergences that suggest further weakness.
February 1, 2017
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It is clear that the major market indexes are in solid bullish uptrends when you look at longer-term trend indicators. All of the major indexes, with the exception of the Utilities (defensive group), are 7%-12% above their respective 200-day moving averages. However, on a shorter-term basis, most indexes have recently declined closer to their respective 50-day moving averages. In fact, the S&P 600 Index (small cap) is now trading below its 50-day moving average. In the past we have spent a great deal of time writing about market breadth and participation. In sum, markets tend to do better, and have longer sustained moves, if all ships are rising in unison.
While the U.S. indexes are experiencing some weakness, as shown on the chart below, global market strength appears to be in gear and solidly bullish. As shown, currently 93.5% of 46 global market indexes are above their respective 50-day moving averages. This is up from less than 20% just six months ago, suggesting that the global bull market remains in effect.
As far as the domestic markets go, it is clear that many sectors of the market have run too far too fast based on a myriad of reasons associated with changes in Washington, D.C. As noted, the S&P 600 index is trading below its 50-day moving average. The long-term mean reversion chart for IJR, the iShares Core S&P Small-Cap ETF, may provide some insight into why small caps are trading down. As shown, it is clear that IJR is extremely overbought based on this measure. A reversal in this measure back to "normal" trading levels would argue that there is further downside in this fund. Like sentiment indicators, we like to go with the flow until we start to see a reversal (which is starting to occur).
In addition to small-caps at overbought extremes, six of 11 sector SPDR ETFs are also at overbought extremes (Telecom, Materials, Energy, Financials, Industrials and Technology). All of these ETFs have participated in the significant rally since the November elections. It is no wonder that the markets are trending lower in the near-term, since those six overbought sectors represent over 60% of the S&P 500 index.
Current weakness can be attributed to optimistic market participants taking a rest. As shown below, longer-term sentiment still remains elevated. And consumer confidence remains high. However, sentiment could also suggest that there aren't that many buyers left to buy. Sentiment usually moves in lockstep with market and economic expectations. When some of this optimism works off, given the strong global trends, more pessimism will provide a better buying opportunity down the road in those cyclical and interest rate sectors. At this time, we see little evidence that we are in for a significant correction and are viewing current weakness as short-term in nature as cyclical sectors work off overbought extremes.
Bottom Line: We are not ready to commit large portions of capital to overbought areas of the market with such high investor optimism at this time.
Have a wonderful week,
Day Hagan Investment Committee Consultant
Day Hagan Asset Management
— Written 1.31.2017
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