Dave Moenning

Should You Wait For Valuations To Improve?

One of my favorite Wall Street clichés relating to stock market valuations goes something like this: “Valuations don’t matter until they do, and then they matter a lot.”

Actually, you can probably replace the word valuations with any issue you’d like and the phrase would still work. However, since valuations continue to be a rather hot topic in the market these days, I thought I’d spend some additional time on the subject this morning.

If you will recall, we did a pretty thorough review of valuations last month. And frankly, I thought we had exhausted the subject.

However, I talk to financial advisors every single day and stock market valuations continue to be a topic that nearly everybody I chat with is concerned about. The conversation usually goes something like this… “Dave, why should we invest in stocks when valuations are so high? Why don’t we just wait until the next crisis hits and then buy when prices are lower?” (Go ahead; I dare you to try and tell me these thoughts haven’t crossed your mind at some point this year!)

The primary problem with the idea of selling now and waiting for valuations to improve is one of timing. The concept certainly makes sense. Sell high, buy low. What’s not to like?

The issue, of course, is knowing when to sell and then when to buy. (And no, I won’t be offended if you utter the word, “Duh!” right about now.) But here’s a tip – implementing such a strategy based on stock market valuations ain’t as easy as it sounds.

The point to this morning’s meandering market missive is that the general consensus that one should sell when valuations are high and then buy when valuations have improved actually doesn’t work very well. And the folks at Goldman Sachs have some statistics to prove the point.

In the October 2017 Market Pulse publication, the Goldman Sachs Asset Management (GSAM) writes…

“Our historical analysis finds that when investors sell equities at elevated valuations, such as today’s, the expectation of buying at lower valuations is usually disappointed. The result is meaningful underperformance relative to a much simpler approach: staying invested.”

An important point made in the report is that valuation levels can stay elevated in the stock market for extended periods of time, especially when the economy and, in turn, earnings, are growing. As such, selling when valuations are high can be problematic.

As you might suspect, GSAM provided some statistics to back up their claim.

For example, GSAM says that if one decided to sell stocks when valuations – defined by the S&P 500’s forward 12-month price-to-earnings (P/E) ratio – reached the 90th percentile, they would have waited a very long time before valuations reached “cheaper” levels (defined as the 50th percentile).

In the chart below, GSAM illustrates that the investor who sold at the 90th percentile in March of 1992 would have waited 33 months before valuations improved to the 50th percentile. And then if the strategy was repeated in February 1998 – a time when valuations were once again at the lofty 90th percentile – investors would have had to wait 100 months (or nearly a decade) for valuations to improve before buying back in at “cheaper” levels (assuming the 50th valuation percentile).


View Large Image Online

Oh, and for those keeping score at home, go ahead and look at a monthly chart of the S&P 500 for these buy and sell points. It will suffice to say that both buy-in spots (you know, when stocks were “cheaper”) weren’t exactly timely!

It is likely for this reason that, as GSAM points out, the returns from such an approach wind up being below a buy-and-hold approach.

The chart below illustrates the returns of this valuation approach compared to buying and holding the S&P. I.E. You sell stocks when valuations hit the 90th percentile and then buy back in when valuations are lower (at the 70th, 60th, and 50th percentile).


View Large Image Online

This analysis covers the period from January 1954 to September 2017 (the earliest and latest points the data was available respectively) and shows that playing this particular valuation game underperformed by 0.8% per year if one bought back when valuations fell to the 70th percentile, 0.9% at the 60th percentile, and a full 1.0% per year at the 50th percentile.

Now, if you’d really like to have some fun, compound 1% underperformance over 20 years and see what happens.

The takeaway here should be obvious. Using valuation levels as timing indicators to get in and out of the stock market is a losing proposition.

The key is that valuations can remain elevated for long periods of time and the market can move higher – sometimes significantly higher – during the time when the indices are considered very overvalued.

It is for this reason that the cliché I mentioned at the beginning exists. So, everyone, please repeat after me. “Valuations don’t matter… UNTIL they do, and THEN they matter a lot!”

So, in my humble opinion, an elevated valuation condition is not, in and of itself, a reason to sell stocks. Instead, I believe high valuations should be viewed as a warning sign that investors need to be on the lookout for a bearish catalyst – which would indicate “when” valuations might begin to matter. Something like a recession, for example, could easily cause valuations to “matter.” Until then, stocks can, and probably will march higher, infuriating the uneducated bears in the process!

Publishing Note: I am traveling the rest of the week and will publish reports as my schedule permits.

Thought For The Day:

Do not speak unless you can improve the silence. -Spanish Proverb

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of the Earnings Season

      2. The State of Tax Reform

      3. The State of the Economy

      4. The State of Fed Policy

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

Disclosure: At the time of publication, Mr. Moenning and/or Sowell Management Services held long positions in the following securities mentioned: none. Note that positions may change at any time.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.

Dave Moenning

All About Fund Flows?

To say that the stock market has become a low-volatility game this year is definitely an understatement. For example, it has now been two months since the last time the S&P 500 dropped by 1% or more and according to Ned Davis Research, this is now the longest stretch without even a 3% pullback since the 1990’s. So, my first point on this Tuesday morning is that it is important to recognize that what we’re seeing now isn’t exactly “normal.”

Think about it; the stock market has had all kinds of what might normally be viewed as negatives thrown at it in 2017 including failures in Washington, political scandals, rate hikes, something now being called “quantitative tightening,” some natural disasters, and even the threat of war. And yet, with the exception of a couple missteps along the way, stocks have marched steadily higher – especially over the last couple of months.

The question, of course, is why is this happening? Why have the bears been stymied to such a degree? And is this the new, new normal?

The easy answer is that the economy is doing just fine, thank you, the consumer is enjoying their “happy places” again, and corporate earnings are growing at a pretty good clip. Neither earnings nor GDP are great, but, as I opined yesterday, they appear to be “good enough” to keep the ball moving down the field.

I could probably leave the topic right there as it is oftentimes best to keep things simple in this business. And the bottom line here appears to be pretty simple – good economic growth and good earnings mean higher stock prices.

However, Morgan Sizer, the head trader at our firm (and a real pro!) came up with an equally “simple” answer to the question of why volatility has been so low this year.

Morgan offered his thought via our company’s investment committee messaging network yesterday:

I have a theory. I was just thinking – I would guess that money flowing into passive funds is, for the most part, long-term. As such, there is money flowing into these funds every month for retirement contributions. The key is there is no fund manager who is reacting to news, earnings, rumors, etc., for these funds. Therefore, it makes sense that the bias would be for stocks to go higher with lower volatility. Before passive funds took over, you would have fund managers reacting to positive and negative news events and acting accordingly, adding to volatility and/or selling pressure. In conclusion, passive funds reduce volatility and add an upward bias to the market. Food for thought…

Morgan then followed up with a nice chart from BAML to illustrate to the group that passive investing has dominated fund flows for several years running.


View Image Online

The key to this chart is two-fold. First, money has been flowing into passive funds for some time now and these flows have increased significantly over the past five years. And second, actively managed funds – you know, the funds that tend to do better in times of stress – have seen serious outflows in five of the last seven years.

I’ve seen numerous reports on this subject and from my seat, there can be no denying that passive investing appears to be all the rage right now. And as Morgan opines, with the passive funds, there are no managers making decisions on where/when to buy/sell. No, there is only buying when new money comes in the door.

Is this the only reason that volatility has been so low recently? Probably not. However, my guess is that this is indeed ONE of the reasons that stocks have been grinding higher without so much as a garden variety pullback since just prior to last November’s election.

Tomorrow, we’ll run down some of the additional tailwinds that may also be helping the bulls move ever higher.

Thought For The Day:

If you wait until you’re ready, you may be waiting the rest of your life. -Unknown

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of the Earnings Season

      2. The State of Tax Reform

      3. The State of the Economy

      4. The State of Fed Policy

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

Disclosure: At the time of publication, Mr. Moenning and/or Sowell Management Services held long positions in the following securities mentioned: none. Note that positions may change at any time.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.

Dave Moenning

Good Enough, But…

Good morning. We’ve got a new week on tap so let’s get started with a review of my key market models/indicators and see where we stand. To review, the primary goal of this exercise is to try and remove any subjective notions about what “should” be happening in the market in an attempt to stay in line with what “is” happening in the markets. So, let’s get started.

The State of the Trend

We start our review each week with a look at the “state of the trend.” These indicators are designed to give us a feel for the overall health of the current short- and intermediate-term trend models.


View Trend Indicator Board Online

Executive Summary:

  • The short-term Trend Model remains positive, however the march higher is showing signs of fatigue. 
  • Both the short- and intermediate-term Channel Breakout Systems remain on their 8/22 buy signals. 
  • The intermediate-term Trend Model is in good shape – albeit a bit extended. 
  • The long-term Trend Model remains positive. 
  • The Cycle Composite remains negative AND out of sync with the trend of the market at this time. Note that the composite calls for one more significant move to the downside over the next two weeks before a bottoming process. 
  • The Trading Mode models finally all agree that stocks are trending. But, the levels of the indicators aren’t exactly robust.
  • The bottom line as far as price is concerned is the trend is up, but is looking a little tired.

The State of Internal Momentum

Next up are the momentum indicators, which are designed to tell us whether there is any “oomph” behind the current trend…


View Momentum Indicator Board Online

Executive Summary:

  • Both the short- and intermediate-term Trend and Breadth Confirm Models are positive, which suggests the march higher is “in gear.” 
  • The Industry Health Model remains moderately positive and near the highest levels of the year. However, my only complaint is that this model is not outright positive. 
  • The short-term Volume Relationship model is positive. However, the up-volume indicator looks to be rolling over a bit here – something to watch. 
  • Ditto for the intermediate-term Volume Relationship model. The model itself is positive and on a buy signal that dates back to the spring of 2016. However, the demand-volume indicator leaves something to be desired here. 
  • The Price Thrust Indicator remains positive but is starting to wane. 
  • The Volume Thrust Indicator slipped to neutral this week. 
  • The Breadth Thrust Indicator also slipped back into the neutral zone.
  • While in good shape overall, the momentum board slipped a notch this week. This suggests that momentum may be waning.

The State of the “Trade”

We also focus each week on the “early warning” board, which is designed to indicate when traders may start to “go the other way” — for a trade.


View Early Warning Indicator Board Online

Executive Summary:

  • From a near-term perspective, stocks remain overbought. However, at this stage, we view the condition as a sign of strength as stock have been unable to become oversold since mid-August. 
  • From an intermediate-term view, stocks are VERY overbought as my favorite intermediate-term indicator is now at the most overbought condition seen since the beginning of 2015. 
  • After a failed sell signal, the Mean Reversion Model is back to neutral. 
  • The near-term VIX indicator flashed a sell signal on 10/6, which remains in play. 
  • Our longer-term VIX Indicator remains positive as volatility has been unable to pick up any steam for some time since early summer. 
  • From a short-term perspective, the market sentiment model remains negative. 
  • There is no change to our intermediate-term Sentiment Model – still a negative input. 
  • Longer-term Sentiment readings are back to the weakest levels of the year – a warning sign. 
  • The bottom line is the table is set if the bears can find a reason to sell for more than a couple hours.

The State of the Macro Picture

Now let’s move on to the market’s “external factors” – the indicators designed to tell us the state of the big-picture market drivers including monetary conditions, the economy, inflation, and valuations.


View External Factors Indicator Board Online

Executive Summary:

  • Absolute Monetary conditions remain neutral as the backup in rates took a break last week. 
  • The Relative Monetary Model continues in the neutral zone this week. 
  • After a quick trip to the sell side, our Economic Model (designed to call the stock market) is back on a buy signal this week. 
  • The Inflation Model continues to move modestly lower within the neutral zone and is currently at the lowest reading of the year. This model tells us that inflation pressures are minimal here. 
  • The Absolute Valuation Model remains solidly in the red, but it has been trending lower for much of the year on the back of improving earnings. 
  • Our Relative Valuation Model suggest that stocks are approaching an undervalued condition relative to the level of yields.

The State of the Big-Picture Market Models

Finally, let’s review our favorite big-picture market models, which are designed to tell us which team is in control of the prevailing major trend.


View My Favorite Market Models Online

Executive Summary:

  • The Leading Indicators model, which was our best performing timing model during the last cycle, remains on a buy signal and is in good shape. 
  • The overall message from “the tape” is that things are “good enough” for the bulls to continue to run with the ball. 
  • The Risk/Reward model managed to peek its head into the positive zone – albeit by the skinniest of margins. 
  • The External Factors model remains positive and on a buy signal.

My Takeaway…

Running through the indicator boards, I conclude that things are clearly “good enough” for the bulls to continue to control the ball. For example, the trend is up. Momentum is pretty good. Seasonality will become a tailwind soon. Valuations, while still clearly negative, are actually improving a bit as the year goes on. And year-end window dressing should be assumed this year. Thus, I think we need to continue to give the bulls the benefit of any/all doubt and to buy the dips. However, it is also worth noting that both the near-term trend and the momentum indicators are starting to look a little tired. So, in sum, I would not be surprised to see some earnings-related difficulity in the near-term (as in a “sell the news” trade on good, but not great earnings) and would expect to see additional gains before this cyclical bull – a bull that will turn 2 years old in February – runs its course.

Sample Risk Exposure System

Below is an EXAMPLE of how some of above indicators might be used in order to determine exposure to market risk. The approach used here is a “Model of Models” comprised of 10 independent Models. Each model included gives separate buy and sell signals, which affects a percentage of the model’s overall exposure to the market.

Trend models control a total 40% of our exposure. The 3 Momentum Models and 3 Environment Models each control 10% of the portfolio’s exposure to market risk. The model’s “Exposure to Market Risk” reading (at the bottom of the Model) acts as an EXAMPLE of a longer-term guide to exposure to market risk.

In looking at the “bottom line” of this model, my take is that readings over 75% are “positive,” readings between 50% and 75% are “moderately positive,” and readings below 50% should be viewed as a warning that all is not right with the indicator world.


View Sample Exposure Model Online

The model above is for illustrative and informational purposes only and does not in any way represent any investment recommendation. The model is merely a sample of how indicators can be grouped to create a guide to market exposure based on the inputs from multiple indicators/models.

Thought For The Day:

The richest man is not he who has the most, but he who needs the least. – Unknown

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of the Earnings Season

      2. The State of Tax Reform

      3. The State of the Economy

      4. The State of Fed Policy

Indicators Explained

Short-Term Trend-and-Breadth Signal Explained: History shows the most reliable market moves tend to occur when the breadth indices are in gear with the major market averages. When the breadth measures diverge, investors should take note that a trend reversal may be at hand. This indicator incorporates NDR’s All-Cap Dollar Weighted Equity Series and A/D Line. From 1998, when the A/D line is above its 5-day smoothing and the All-Cap Equal Weighted Equity Series is above its 25-day smoothing, the equity index has gained at a rate of +32.5% per year. When one of the indicators is above its smoothing, the equity index has gained at a rate of +13.3% per year. And when both are below, the equity index has lost +23.6% per year.

Channel Breakout System Explained: The short-term and intermediate-term Channel Breakout Systems are modified versions of the Donchian Channel indicator. According to Wikipedia, “The Donchian channel is an indicator used in market trading developed by Richard Donchian. It is formed by taking the highest high and the lowest low of the last n periods. The area between the high and the low is the channel for the period chosen.”

Intermediate-Term Trend-and-Breadth Signal Explained: This indicator incorporates NDR’s All-Cap Dollar Weighted Equity Series and A/D Line. From 1998, when the A/D line is above its 45-day smoothing and the All-Cap Equal Weighted Equity Series is above its 45-day smoothing, the equity index has gained at a rate of +17.6% per year. When one of the indicators is above its smoothing, the equity index has gained at a rate of +6.5% per year. And when both are below, the equity index has lost -1.3% per year.

Industry Health Model Explained: Designed to provide a reading on the technical health of the overall market, Big Mo Tape takes the technical temperature of more than 100 industry sectors each week. Looking back to early 1980, when the model is rated as “positive,” the S&P has averaged returns in excess of 23% per year. When the model carries a “neutral” reading, the S&P has returned over 11% per year. But when the model is rated “negative,” stocks fall by more than -13% a year on average.

Cycle Composite Projections: The cycle composite combines the 1-year Seasonal, 4-year Presidential, and 10-year Decennial cycles. The indicator reading shown uses the cycle projection for the upcoming week.

Trading Mode Indicator: This indicator attempts to identify whether the current trading environment is “trending” or “mean reverting.” The indicator takes the composite reading of the Efficiency Ratio, the Average Correlation Coefficient, and Trend Strength models.

Volume Relationship Models: These models review the relationship between “supply” and “demand” volume over the short- and intermediate-term time frames.

Price Thrust Model Explained: This indicator measures the 3-day rate of change of the Value Line Composite relative to the standard deviation of the 30-day average. When the Value Line’s 3-day rate of change have moved above 0.5 standard deviation of the 30-day average ROC, a “thrust” occurs and since 2000, the Value Line Composite has gained ground at a rate of +20.6% per year. When the indicator is below 0.5 standard deviation of the 30-day, the Value Line has lost ground at a rate of -10.0% per year. And when neutral, the Value Line has gained at a rate of +5.9% per year.

Volume Thrust Model Explained: This indicator uses NASDAQ volume data to indicate bullish and bearish conditions for the NASDAQ Composite Index. The indicator plots the ratio of the 10-day total of NASDAQ daily advancing volume (i.e., the total volume traded in stocks which rose in price each day) to the 10-day total of daily declining volume (volume traded in stocks which fell each day). This ratio indicates when advancing stocks are attracting the majority of the volume (readings above 1.0) and when declining stocks are seeing the heaviest trading (readings below 1.0). This indicator thus supports the case that a rising market supported by heavier volume in the advancing issues tends to be the most bullish condition, while a declining market with downside volume dominating confirms bearish conditions. When in a positive mode, the NASDAQ Composite has gained at a rate of +38.3% per year, When neutral, the NASDAQ has gained at a rate of +13.3% per year. And when negative, the NASDAQ has lost at a rate of -8.5% per year.

Breadth Thrust Model Explained: This indicator uses the number of NASDAQ-listed stocks advancing and declining to indicate bullish or bearish breadth conditions for the NASDAQ Composite. The indicator plots the ratio of the 10-day total of the number of stocks rising on the NASDAQ each day to the 10-day total of the number of stocks declining each day. Using 10-day totals smooths the random daily fluctuations and gives indications on an intermediate-term basis. As expected, the NASDAQ Composite performs much better when the 10-day A/D ratio is high (strong breadth) and worse when the indicator is in its lower mode (weak breadth). The most bullish conditions for the NASDAQ when the 10-day A/D indicator is not only high, but has recently posted an extreme high reading and thus indicated a thrust of upside momentum. Bearish conditions are confirmed when the indicator is low and has recently signaled a downside breadth thrust. In positive mode, the NASDAQ has gained at a rate of +22.1% per year since 1981. In a neutral mode, the NASDAQ has gained at a rate of +14.5% per year. And when in a negative mode, the NASDAQ has lost at a rate of -6.4% per year.

Short-Term Overbought/sold Indicator: This indicator is the current reading of the 14,1,3 stochastic oscillator. When the oscillator is above 80 and the %K is above the %D, the indicator gives an overbought reading. Conversely, when the oscillator is below 20 and %K is below its %D, the indicator is oversold.

Intermediate-Term Overbought/sold Indicator: This indicator is a 40-day RSI reading. When above 57.5, the indicator is considered overbought and wnen below 45 it is oversold.

Mean Reversion Model: This is a diffusion model consisting of five indicators that can produce buy and sell signals based on overbought/sold conditions.

VIX Indicator: This indicators looks at the current reading of the VIX relative to standard deviation bands. When the indicator reaches an extreme reading in either direction, it is an indication that a market trend could reverse in the near-term.

Short-Term Sentiment Indicator: This is a model-of-models composed of 18 independent sentiment indicators designed to indicate when market sentiment has reached an extreme from a short-term perspective. Historical analysis indicates that the stock market’s best gains come after an environment has become extremely negative from a sentiment standpoint. Conversely, when sentiment becomes extremely positive, market returns have been subpar.

Intermediate-Term Sentiment Indicator: This is a model-of-models composed of 7 independent sentiment indicators designed to indicate when market sentiment has reached an extreme from a intrmediate-term perspective. Historical analysis indicates that the stock market’s best gains come after an environment has become extremely negative from a sentiment standpoint. Conversely, when sentiment becomes extremely positive, market returns have been subpar.

Long-Term Sentiment Indicator: This is a model-of-models composed of 6 independent sentiment indicators designed to indicate when market sentiment has reached an extreme from a long-term perspective. Historical analysis indicates that the stock market’s best gains come after an environment has become extremely negative from a sentiment standpoint. Conversely, when sentiment becomes extremely positive, market returns have been subpar.

Absolute Monetary Model Explained: The popular cliche, “Don’t fight the Fed” is really a testament to the profound impact that interest rates and Fed policy have on the market. It is a proven fact that monetary conditions are one of the most powerful influences on the direction of stock prices. The Absolute Monetary Model looks at the current level of interest rates relative to historical levels and Fed policy.

Relative Monetary Model Explained: The “relative” monetary model looks at monetary indicators relative to recent levels as well as rates of change and Fed Policy.

Economic Model Explained: During the middle of bull and bear markets, understanding the overall health of the economy and how it impacts the stock market is one of the few truly logical aspects of the stock market. When our Economic model sports a “positive” reading, history (beginning in 1965) shows that stocks enjoy returns in excess of 21% per year. Yet, when the model’s reading falls into the “negative” zone, the S&P has lost nearly -25% per year. However, it is vital to understand that there are times when good economic news is actually bad for stocks and vice versa. Thus, the Economic model can help investors stay in tune with where we are in the overall economic cycle.

Inflation Model Explained: They say that “the tape tells all.” However, one of the best “big picture” indicators of what the market is expected to do next is inflation. Simply put, since 1962, when the model indicates that inflationary pressures are strong, stocks have lost ground. Yet, when inflationary pressures are low, the S&P 500 has gained ground at a rate in excess of 13%. The bottom line is inflation is one of the primary drivers of stock market returns.

Valuation Model Explained: If you want to get analysts really riled up, you need only to begin a discussion of market valuation. While the question of whether stocks are overvalued or undervalued appears to be a simple one, the subject is actually extremely complex. To simplify the subject dramatically, investors must first determine if they should focus on relative valuation (which include the current level of interest rates) or absolute valuation measures (the more traditional readings of Price/Earnings, Price/Dividend, and Price/Book Value). We believe that it is important to recognize that environments change. And as such, the market’s focus and corresponding view of valuations are likely to change as well. Thus, we depend on our Valuation Models to help us keep our eye on the ball.

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

Disclosure: At the time of publication, Mr. Moenning and/or Sowell Management Services held long positions in the following securities mentioned: none. Note that positions may change at any time.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.

Dave Moenning

Out of Sync

I have written many times about the tendency for the market to follow various seasonal patterns. Frankly, it is eerie how often the S&P 500 winds up mirroring these historical cycles. To be sure, the market doesn’t always follow the seasonal patterns and therefore, it doesn’t pay to trade heavily on what history suggests may come next in Ms. Market’s game. However, since I’ve observed that the market does tend to follow cyclical patterns a fair amount of the time, I like to, at the very least, pay attention to what the cycles have to say about both the short- and intermediate-term trends.

As you are likely aware, I follow a composite of historical cycles developed by Ned Davis Research. NDR combines the 1-year seasonal, the 4-year Presidential, and the 10-year decennial cycles in order to create their composite projection for each calendar year. The bottom line is that the cycle composite winds up providing a pretty decent roadmap for the calendar year.

However, Ms. Market is currently making a mockery of the seasonal patterns. Instead of the meaningful decline that was to occur from the beginning of August through late October, stocks have instead “melted up” in a slow, grinding fashion. Take a peek at the chart below and you’ll see what I mean.


View Image Online

To say that the market is currently out of sync with the cycle projection is a bit of an understatement, right?

The question, of course, is, why?

On Wall Street it is said that something everyone knows isn’t worth knowing. In my opinion, this stems from the idea that once an idea becomes overly accepted or popular, it tends to (a) already be “priced in” to the market or (b) become a position that the fast money trader types simply “fade” or “go the other way” with.

So, my explanation for the market’s current divergence from the cycle projection is that (a) everybody on the planet knows that stocks tend to correct in the fall and (b) traders may be fading the trade.

Another thought is that investors are simply focused on the fundamentals at this particular point in time. And with the economy expanding and earnings growing, stocks continue to advance.

Yet another idea is that “performance anxiety” is setting in on Wall Street. With the S&P 500 up more than 14% on the year and the calendar quickly running out of pages, underperforming managers could be moving into “chase mode” where money is placed with the leaders in the hope that these stocks will help them catch up into the end of the year.

And then there is the idea that the market is discounting the benefits of tax reform. Wall Street is already out with projections of what the White House plan will do for earnings on the S&P. The bottom line is that if earnings are expected to get another boost, then prices can follow suit.

My guess is that stocks are benefitting from a pretty strong tailwind right now in the form of earnings growth, performance anxiety, and the expected benefits of tax reform. As such, I can argue that the dips will continue to be bought aggressively (I think yesterday was a good example of this). And with the caveat that stocks could easily pull back a couple percent in the near term for almost any reason, it looks like it may become tough for managers looking to put money to work to find an entry point in the coming two and a half months.

But we shall see. As a reminder, there is still some time left on the cycle composite’s call for a decline and another earnings parade is about to begin. So, stay tuned, this is gonna be interesting!

Thought For The Day:

If you can’t explain it simply, you don’t understand it well enough. – Albert Einstein

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of Tax Reform

      2. The State of the Economic/Earnings Growth (Fast enough to justify valuations?)

      3. The State of Fed Policy

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

Disclosure: At the time of publication, Mr. Moenning and/or Sowell Management Services held long positions in the following securities mentioned: none. Note that positions may change at any time.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.

Dave Moenning

The Next Bear Won’t Look Like The Last One

Don’t look now fans, but the United States is enjoying one of the longest economic expansions in history. In fact, First Trust tells us that if the economy can avoid slipping into recession for the next 18 months, this will become the longest period of economic growth on record. Granted, the pace has been maddening at times, but it is important to recognize that the economy appears to be doing just fine, thank you.

It is also worth noting that the stock market has been a stellar place to be invested over the last eight years. According to my calculator, the S&P 500 is up more than 280% from the March 9, 2009 crisis-low. However, I will admit that it was rough sledding there for a while after the crisis ended.

On that note, if we look at the gains in the market since the 2011 low, which occurred after the first couple go-rounds with Greece and the downgrade of U.S. debt, we find that stock market investors have enjoyed a “double” with the S&P sporting gains of more than 125%.

Even if one waited to invest in stocks until the most recent mini-bear ended in February 2016, their gain would now be approaching 40%. Not bad. Not bad at all.

And yet, investors remain nervous that the bad old days of 2000-02 and 2008 will return at any moment. Financial advisors are no different. I had meetings with 6 different financial professionals last week and to a man, they all believed stocks were sure to enter a bear market any day now.

From a behavioral perspective, I believe this represents a classic case of “recency bias,” which is the tendency to believe that the recent trends will continue in the future. As such, advisors and investors alike are adamant that they will be ready for the bears this time around.

The bottom line is nobody wants to see their 401K turn into a “201K” ever again!

Fighting The Last War

In my experience, this is called “fighting the last war.” You see, one lesson I’ve learned in my 30+ years of professional investing is that the next bear market is unlikely to look anything like the last one.

During my career, there have been several meaningful declines in the stock market. First there was the “Crash of ’87,” which was triggered by computers and something called “portfolio insurance.” In 1990, stocks declined in response to the first Gulf War. Next was the flirtation with recession in 1994. Then the Russian debt default/LTCM crisis in 1998. Next up was the bursting of the Tech Bubble of 2000-02. Then the Credit Crisis of 2007-early 2009 which was caused primarily by the alphabet soup of derivatives, a bubble in the housing market, and mark-to-market accounting.

The point here is that none of these declines mirrored the prior one as there was a new set of problems to deal with each and every time the bears took control of the game.

Will This Time Be Different?

The question, of course, is if it will be different this time around. My guess is the answer is no. For example, just about everyone, everywhere in the game has been busy looking for the next bubble – because nobody wants to be fooled again. So, in my opinion, it is a pretty safe bet that the next bear won’t have anything to do with housing or bubbles of any kind.

I also believe it is important to recognize that the stock market is currently in a secular bull trend. The key here is to recognize that, according to Ned Davis Research, cyclical bear markets that occur within an ongoing secular bull cycle tend to be shorter and shallower than both the average bear market (which sees losses of -30.6% on the DJIA) as well as the bears that occur when stocks are in the grips of a secular bear cycle.

For example, the average decline for the DJIA during cyclical bear markets that occur within a secular bear has been -36.3%. However, cyclical bears taking place within a secular bull trend create an average loss of just -21.8%. If my math is correct, this means that bear markets taking place within a secular bull trend are 40% less severe than the bears that occur in a secular bear and 29% less damaging than the average bear seen since 1900.

So, the good news is that even if the bears do find a raison d’etre in the next year, history suggests the damage isn’t likely to be as severe as what was seen in 2008.

The takeaway here is that brutal bear markets – like the declines seen in 2000-02 and 2008 – are actually pretty rare. In addition, bear markets usually need a trigger or a “reason” to begin. Remember, stocks don’t dive just because the bulls have been in charge for a long period of time. And finally, since stocks are currently in the midst of a secular bull trend, the next bear isn’t likely to look like the last one.

Thought For The Day:

It is best to deal with your problems before they deal with your happiness. –Unknown

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of Tax Reform

      2. The State of the Economic/Earnings Growth (Fast enough to justify valuations?)

      3. The State of Fed Policy

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

Disclosure: At the time of publication, Mr. Moenning and/or Sowell Management Services held long positions in the following securities mentioned: none. Note that positions may change at any time.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.

Dave Moenning

Steady As She Goes

Good morning. Although we’re getting a late start to the week, market analysis definitely falls into the “better late than never” category. So, let’s go ahead and review my key market models/indicators and see where we stand. To review, the primary goal of this exercise is to try and remove any subjective notions about what “should” be happening in the market in an attempt to stay in line with what “is” happening in the markets. So, let’s get started.

The State of the Trend

We start our review each week with a look at the “state of the trend.” These indicators are designed to give us a feel for the overall health of the current short- and intermediate-term trend models.


View Trend Indicator Board Online

Executive Summary:

  • The short-term Trend Model likes nothing more than new all-time highs. 
  • Both Channel Breakout Systems remain on their 8/22 buy signals and are in stellar shape. 
  • Not surprising that the intermediate- and long-term Trend Models are solidly positive. 
  • The market continues to thumb its nose at the historical cycles, which means that the Cycle Composite is currently “out of whack” with what the market “is” doing. 
  • Two of the three Trading Mode models now indicate the market is in a trending environment. The fact that these models have lagged and that one is still in “mean reversion” mode suggests that the current move doesn’t have a lot of “oomph” behind it.
  • Overall though, not much to complain about from a trend standpoint.

The State of Internal Momentum

Next up are the momentum indicators, which are designed to tell us whether there is any “oomph” behind the current trend…


View Momentum Indicator Board Online

Executive Summary:

  • Both the short- and intermediate-term Trend and Breadth Confirm Models remain positive. This tells us that “market breadth” is in gear. 
  • The Industry Health Model is inching ever closer to the outright positive zone but isn’t there yet. We should note however that the global version of this indicator remains positive. 
  • The short-term Volume Relationship is now positive. 
  • The intermediate-term Volume Relationship model has also made a strong move back up into positive zone. 
  • The Price Thrust Indicator is in good, but not great, shape. 
  • The Volume Thrust Indicator has finally confirmed the movement in price and is positive. Note the extremely strong historical return from the market when this indicator is positive. 
  • The Breadth Thrust Indicator continued to improve last week.
  • When the momentum board is solidly green, investors tend to smile – a lot.

The State of the “Trade”

We also focus each week on the “early warning” board, which is designed to indicate when traders may start to “go the other way” — for a trade.


View Early Warning Indicator Board Online

Executive Summary:

  • From a near-term perspective, stocks remain overbought. However, I will now argue that this is a “good overbought” condition that should be seen as a sign of strength. As such, I’ve changed the “current signal” to “hold”. 
  • From an intermediate-term view, stocks are now very overbought. But again, a market that “gets overbought and stays overbought” is positive. 
  • The Mean Reversion Model suggests that it is time to “go the other way.” 
  • The VIX Indicators are conflicted right now. The shorter-term model just issued a sell while the intermedite-term model remains on a buy 
  • Note that we’ve now broken out the VIX indicators into short- and intermediate-term 
  • From a short-term perspective, market sentiment is back to negative. 
  • The intermediate-term Sentiment Model remains negative 
  • Longer-term Sentiment readings are also quite negative. 
  • Bottom Line: Stocks are overbought and sentiment is overly optimistic. However, this alone does not “cause” declines – it merely increases the risk of a decline and the potential severity of a decline if/when a bearish catalyst emerges.

The State of the Macro Picture

Now let’s move on to the market’s “external factors” – the indicators designed to tell us the state of the big-picture market drivers including monetary conditions, the economy, inflation, and valuations.


View External Factors Indicator Board Online

Executive Summary:

  • Absolute Monetary conditions remain neutral as rates are on the rise and there is renewed talk of a bond bear. 
  • The recent spike in rates has also caused the Relative Monetary Model to slip to neutral. 
  • Our Economic Model (designed to call the stock market) flipped from negative to neutral last week. 
  • The Inflation Model continues to slide lower within the neutral zone. 
  • The Absolute Valuation Model appears to have rolled over a bit from elevated levels. So, the reading isn’t quite as negative as it was… 
  • Our Relative Valuation Model remains in the neutral zone.

The State of the Big-Picture Market Models

Finally, let’s review our favorite big-picture market models, which are designed to tell us which team is in control of the prevailing major trend.


View My Favorite Market Models Online

Executive Summary:

  • The Leading Indicators model, which was our best performing timing model during the last cycle, improved a bit last week and remains on a buy signal. 
  • The overall message from “the tape” is pretty good. Not great, but good enough for the bulls to continue to control the ball. 
  • The Risk/Reward model continues to be weighed down by sentiment, valuation and monetary. So, this model continues to wave a yellow flag. 
  • The External Factors model is in good shape.

My Takeaway…

Let’s run this down from top to bottom… The trend of the market is good. The Momentum board is a thing of beauty. The early warning board is like a 3rd grader with his hand waving in the back of the class dying to be called on. Monetary conditions are going the wrong way but not enough to hurt the bulls to any meaningful degree (at this point). From a fundamental standpoint, there can be no arguing that valuations are elevated. And finally, my favorite “primary cycle” indicators remain mostly green. So, this combination tells me to continue to give the bulls the benefit of the doubt but to be aware that a corrective phase is long overdue and as such, may not require much of a catalyst to get started.

Sample Risk Exposure System

Below is an EXAMPLE of how some of above indicators might be used in order to determine exposure to market risk. The approach used here is a “Model of Models” comprised of 10 independent Models. Each model included gives separate buy and sell signals, which affects a percentage of the model’s overall exposure to the market.

Trend models control a total 40% of our exposure. The 3 Momentum Models and 3 Environment Models each control 10% of the portfolio’s exposure to market risk. The model’s “Exposure to Market Risk” reading (at the bottom of the Model) acts as an EXAMPLE of a longer-term guide to exposure to market risk.

In looking at the “bottom line” of this model, my take is that readings over 75% are “positive,” readings between 50% and 75% are “moderately positive,” and readings below 50% should be viewed as a warning that all is not right with the indicator world.


View Sample Exposure Model Online

The model above is for illustrative and informational purposes only and does not in any way represent any investment recommendation. The model is merely a sample of how indicators can be grouped to create a guide to market exposure based on the inputs from multiple indicators/models.

Thought For The Day:

The future belongs to those who believe in the beauty of their dreams. -Eleanor Roosevelt

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of Geopolitics

      2. The State of the Economic/Earnings Growth (Fast enough to justify valuations?)

      3. The State of the Trump Administration

      4. The State of Fed Policy

Indicators Explained

Short-Term Trend-and-Breadth Signal Explained: History shows the most reliable market moves tend to occur when the breadth indices are in gear with the major market averages. When the breadth measures diverge, investors should take note that a trend reversal may be at hand. This indicator incorporates NDR’s All-Cap Dollar Weighted Equity Series and A/D Line. From 1998, when the A/D line is above its 5-day smoothing and the All-Cap Equal Weighted Equity Series is above its 25-day smoothing, the equity index has gained at a rate of +32.5% per year. When one of the indicators is above its smoothing, the equity index has gained at a rate of +13.3% per year. And when both are below, the equity index has lost +23.6% per year.

Channel Breakout System Explained: The short-term and intermediate-term Channel Breakout Systems are modified versions of the Donchian Channel indicator. According to Wikipedia, “The Donchian channel is an indicator used in market trading developed by Richard Donchian. It is formed by taking the highest high and the lowest low of the last n periods. The area between the high and the low is the channel for the period chosen.”

Intermediate-Term Trend-and-Breadth Signal Explained: This indicator incorporates NDR’s All-Cap Dollar Weighted Equity Series and A/D Line. From 1998, when the A/D line is above its 45-day smoothing and the All-Cap Equal Weighted Equity Series is above its 45-day smoothing, the equity index has gained at a rate of +17.6% per year. When one of the indicators is above its smoothing, the equity index has gained at a rate of +6.5% per year. And when both are below, the equity index has lost -1.3% per year.

Industry Health Model Explained: Designed to provide a reading on the technical health of the overall market, Big Mo Tape takes the technical temperature of more than 100 industry sectors each week. Looking back to early 1980, when the model is rated as “positive,” the S&P has averaged returns in excess of 23% per year. When the model carries a “neutral” reading, the S&P has returned over 11% per year. But when the model is rated “negative,” stocks fall by more than -13% a year on average.

Cycle Composite Projections: The cycle composite combines the 1-year Seasonal, 4-year Presidential, and 10-year Decennial cycles. The indicator reading shown uses the cycle projection for the upcoming week.

Trading Mode Indicator: This indicator attempts to identify whether the current trading environment is “trending” or “mean reverting.” The indicator takes the composite reading of the Efficiency Ratio, the Average Correlation Coefficient, and Trend Strength models.

Volume Relationship Models: These models review the relationship between “supply” and “demand” volume over the short- and intermediate-term time frames.

Price Thrust Model Explained: This indicator measures the 3-day rate of change of the Value Line Composite relative to the standard deviation of the 30-day average. When the Value Line’s 3-day rate of change have moved above 0.5 standard deviation of the 30-day average ROC, a “thrust” occurs and since 2000, the Value Line Composite has gained ground at a rate of +20.6% per year. When the indicator is below 0.5 standard deviation of the 30-day, the Value Line has lost ground at a rate of -10.0% per year. And when neutral, the Value Line has gained at a rate of +5.9% per year.

Volume Thrust Model Explained: This indicator uses NASDAQ volume data to indicate bullish and bearish conditions for the NASDAQ Composite Index. The indicator plots the ratio of the 10-day total of NASDAQ daily advancing volume (i.e., the total volume traded in stocks which rose in price each day) to the 10-day total of daily declining volume (volume traded in stocks which fell each day). This ratio indicates when advancing stocks are attracting the majority of the volume (readings above 1.0) and when declining stocks are seeing the heaviest trading (readings below 1.0). This indicator thus supports the case that a rising market supported by heavier volume in the advancing issues tends to be the most bullish condition, while a declining market with downside volume dominating confirms bearish conditions. When in a positive mode, the NASDAQ Composite has gained at a rate of +38.3% per year, When neutral, the NASDAQ has gained at a rate of +13.3% per year. And when negative, the NASDAQ has lost at a rate of -8.5% per year.

Breadth Thrust Model Explained: This indicator uses the number of NASDAQ-listed stocks advancing and declining to indicate bullish or bearish breadth conditions for the NASDAQ Composite. The indicator plots the ratio of the 10-day total of the number of stocks rising on the NASDAQ each day to the 10-day total of the number of stocks declining each day. Using 10-day totals smooths the random daily fluctuations and gives indications on an intermediate-term basis. As expected, the NASDAQ Composite performs much better when the 10-day A/D ratio is high (strong breadth) and worse when the indicator is in its lower mode (weak breadth). The most bullish conditions for the NASDAQ when the 10-day A/D indicator is not only high, but has recently posted an extreme high reading and thus indicated a thrust of upside momentum. Bearish conditions are confirmed when the indicator is low and has recently signaled a downside breadth thrust. In positive mode, the NASDAQ has gained at a rate of +22.1% per year since 1981. In a neutral mode, the NASDAQ has gained at a rate of +14.5% per year. And when in a negative mode, the NASDAQ has lost at a rate of -6.4% per year.

Short-Term Overbought/sold Indicator: This indicator is the current reading of the 14,1,3 stochastic oscillator. When the oscillator is above 80 and the %K is above the %D, the indicator gives an overbought reading. Conversely, when the oscillator is below 20 and %K is below its %D, the indicator is oversold.

Intermediate-Term Overbought/sold Indicator: This indicator is a 40-day RSI reading. When above 57.5, the indicator is considered overbought and wnen below 45 it is oversold.

Mean Reversion Model: This is a diffusion model consisting of five indicators that can produce buy and sell signals based on overbought/sold conditions.

VIX Indicator: This indicators looks at the current reading of the VIX relative to standard deviation bands. When the indicator reaches an extreme reading in either direction, it is an indication that a market trend could reverse in the near-term.

Short-Term Sentiment Indicator: This is a model-of-models composed of 18 independent sentiment indicators designed to indicate when market sentiment has reached an extreme from a short-term perspective. Historical analysis indicates that the stock market’s best gains come after an environment has become extremely negative from a sentiment standpoint. Conversely, when sentiment becomes extremely positive, market returns have been subpar.

Intermediate-Term Sentiment Indicator: This is a model-of-models composed of 7 independent sentiment indicators designed to indicate when market sentiment has reached an extreme from a intrmediate-term perspective. Historical analysis indicates that the stock market’s best gains come after an environment has become extremely negative from a sentiment standpoint. Conversely, when sentiment becomes extremely positive, market returns have been subpar.

Long-Term Sentiment Indicator: This is a model-of-models composed of 6 independent sentiment indicators designed to indicate when market sentiment has reached an extreme from a long-term perspective. Historical analysis indicates that the stock market’s best gains come after an environment has become extremely negative from a sentiment standpoint. Conversely, when sentiment becomes extremely positive, market returns have been subpar.

Absolute Monetary Model Explained: The popular cliche, “Don’t fight the Fed” is really a testament to the profound impact that interest rates and Fed policy have on the market. It is a proven fact that monetary conditions are one of the most powerful influences on the direction of stock prices. The Absolute Monetary Model looks at the current level of interest rates relative to historical levels and Fed policy.

Relative Monetary Model Explained: The “relative” monetary model looks at monetary indicators relative to recent levels as well as rates of change and Fed Policy.

Economic Model Explained: During the middle of bull and bear markets, understanding the overall health of the economy and how it impacts the stock market is one of the few truly logical aspects of the stock market. When our Economic model sports a “positive” reading, history (beginning in 1965) shows that stocks enjoy returns in excess of 21% per year. Yet, when the model’s reading falls into the “negative” zone, the S&P has lost nearly -25% per year. However, it is vital to understand that there are times when good economic news is actually bad for stocks and vice versa. Thus, the Economic model can help investors stay in tune with where we are in the overall economic cycle.

Inflation Model Explained: They say that “the tape tells all.” However, one of the best “big picture” indicators of what the market is expected to do next is inflation. Simply put, since 1962, when the model indicates that inflationary pressures are strong, stocks have lost ground. Yet, when inflationary pressures are low, the S&P 500 has gained ground at a rate in excess of 13%. The bottom line is inflation is one of the primary drivers of stock market returns.

Valuation Model Explained: If you want to get analysts really riled up, you need only to begin a discussion of market valuation. While the question of whether stocks are overvalued or undervalued appears to be a simple one, the subject is actually extremely complex. To simplify the subject dramatically, investors must first determine if they should focus on relative valuation (which include the current level of interest rates) or absolute valuation measures (the more traditional readings of Price/Earnings, Price/Dividend, and Price/Book Value). We believe that it is important to recognize that environments change. And as such, the market’s focus and corresponding view of valuations are likely to change as well. Thus, we depend on our Valuation Models to help us keep our eye on the ball.

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

Disclosure: At the time of publication, Mr. Moenning and/or Sowell Management Services held long positions in the following securities mentioned: none. Note that positions may change at any time.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.

Dave Moenning

If You Knew What Would Happen Next…

As I have mentioned a time or two in the past, I think one of the biggest lessons investors (professional or otherwise) need to learn is to put the T.V. on mute, to avoid reading everything on the internet, to stop listening to “tips” and “trades,” and to forget about the “fast money” altogether. Instead, serious investors need to focus on developing their own “inner circle” of folks they trust and listen to – and then ignore everyone else!

For me personally, I prefer to keep the list of professionals I read/listen to pretty darned small. I don’t do this because I think I know more than the next guy. I probably don’t, as there is an abundance of highly educated guys/gals on Wall Street that are a lot smarter than I am. However, I have learned over the years that I need to think for myself and, perhaps more importantly, to implement an investing style that suits my personality.

For example, a black-box quant system can be a great way to invest. So too is a completely subjective, discretionary trading style. And employing option-based hedging strategies to a long-oriented equity portfolio is a strong approach. And then there are there any number of purely technical trading strategies, to say nothing of the long-only, buy and hope approach, etc., etc.

The bottom line though is I can’t use any of the above. None of these approaches “work” for me in my head. You see, I have tried a LOT of strategies over my 30 years (most of them in my younger days) of professional investing – and I have learned that I can’t simply give up all control and let a black box run my money. Nor can I trust myself to run a completely flexible, go-anywhere trading style for any length of time. I can’t do it. And I know this.

So, the first point on this fine Tuesday morning is to first learn to “know” and then “trust” yourself.

This was also a rather convoluted, long-winded way of saying that I read something from one of “my guys” yesterday that was so good, I want to share it – in its entirety.

Below is a great piece on investing from Brian Wesbury, who is the chief economist over at First Trust. I’ve been reading Brian’s work on economics and investing for years and I always enjoy his straightforward approach.

This week, Brian reflects on the last 10 years of investing. In his piece, Mr. Wesbury beats us between the eyeballs with the concept that it is all too easy to be “too smart by half” (my words, not Brian’s) and to mess up a really good thing in the process. So, without further ado, please enjoy Brian Wesbury’s piece entitled “Stocks Won.”

Stocks Won
By Brian Wesbury

Next Monday (October 9th) will be exactly ten years from the stock market peak before the Financial Panic of 2008.

Imagine that Doctor Doom, the perceived “best analyst in the business,” told you on that night, when markets peaked, that financial authorities would allow mark-to-market accounting rules to burn the banking system to the ground, with many well-known financial firms failing or being taken over by the government. You knew the unemployment rate was going to soar to 10% and the economy would experience the deepest recession since the 1930s. You also knew the US would soon elect a president that would socialize much more of the health care system, raise top income tax rates, and push the Medicare tax for high income earners up by an additional 3.8%. Finally, you knew that ten years later all of those new taxes and expanded health care policies would still be in place.

Then imagine you knew the federal debt would be more than 100% of GDP, with massive annual deficits predicted as far as the eye could see.

Then, imagine you were allowed one investment choice, a choice you had to stick to for the next ten years, through thick and thin, no reallocation allowed. Put all your investable assets in the S&P 500, a 10-year Treasury Note, gold, oil, housing, or cash. Pick just one of these assets and let your investment ride.

Which asset would you have picked? Be honest! In that environment, with that kind of foresight, right at a stock market peak, it would have been awfully tough to pick stocks.

And yet, on the basis of total return, over the last ten years, that’s the asset that did the best. Assuming no major shift in the next week, the S&P 500 has generated a total return (capital gains plus reinvested dividends) of 7.2% per year, essentially doubling in value in ten years.

Gold did well, but lagged stocks, increasing 5.7% per year. A 10-year Treasury Note purchased that night (now coming due), would have generated a yield of 4.7%. Oil was a laggard, down 4.3% per year. Home prices increased about 1% per year, on average, and “cash” averaged 0.4%, both trailing the 1.6% average gain in the consumer price index.

You might have slept better by investing in 4.7% Treasury Notes. Certainly the volatility of stocks, and the cascade of financial news headlines predicting doom and gloom over the past ten years, wouldn’t have bothered you as much. But you’d have fewer total assets today than if you would have kept the faith and stayed long stocks. And if you wanted to reinvest, now, for the next ten years, your rate would be roughly 2.3%.

If you knew exactly when to buy and sell each of these investments over the years, you could have done better, but no one did that and no one knew how to do that.

So, what’s our point? You would have been better off by ignoring all those pessimists who became famous in 2008-09. Investing in companies, and allowing world class business managers to use your money to build wealth, was once again the best investment strategy. Ten years on, we still think that’s true.

This information contains forward-looking statements about various economic trends and strategies. You are cautioned that such forward-looking statements are subject to significant business, economic and competitive uncertainties and actual results could be materially different. There are no guarantees associated with any forecast and the opinions stated here are subject to change at any time and are the opinion of the individual strategist. Data comes from the following sources: Census Bureau, Bureau of Labor Statistics, Bureau of Economic Analysis, the Federal Reserve Board, and Haver Analytics. Data is taken from sources generally believed to be reliable but no guarantee is given to its accuracy.

Interesting, eh? My takeaway is that even if you were fortunate enough to predict the future with perfect accuracy, you probably wouldn’t be able to know how the markets will react in advance. So, in my humble opinion, the best we can hope to do is to stay in line with the primary market trend/cycle and attempt to “get it mostly right, most of the time.”

Publishing Note: I am taking a few days of R&R the rest of this week (well, to be honest, I am sneaking in a couple meetings here and there) and will not publish morning reports. So, I will see you back here Monday – same bat time, same bat channel. Have a great week!

Thought For The Day:

Worry often gives a small thing a great shadow. -Swedish Proverb

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of Tax Reform

      2. The State of the Economic/Earnings Growth (Fast enough to justify valuations?)

      3. The State of Geopolitics

      4. The State of Fed Policy

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

Disclosure: At the time of publication, Mr. Moenning and/or Sowell Management Services held long positions in the following securities mentioned: none. Note that positions may change at any time.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.

Dave Moenning

Indicator Review: Looking For Confirmation

Good morning. Sadly, the first week of October starts with the news of the deadliest gunman attack in U.S. history. So, let me first say that our thoughts and prayers go out to the victims, the injured, and all those traumatized by the sickening attack that occurred in Las Vegas last night.

My second thought this morning may not win me many friends as I normally try to avoid any political commentary in my morning market missives. However, in light of this event, I simply have to say it; why on earth these types of weapons available for purchase by the public?

To be sure, this type of event makes it tough to focus on mundane things like investing. However, the stock market will open in less than an hour, so let’s go ahead and review my key market models/indicators and see where we stand. To review, the primary goal of this exercise is to try and remove any subjective notions about what “should” be happening in the market in an attempt to stay in line with what “is” happening in the markets. So, let’s get started.

The State of the Trend

We start our review each week with a look at the “state of the trend.” These indicators are designed to give us a feel for the overall health of the current short- and intermediate-term trend models.


View Trend Indicator Board Online

Executive Summary:

  • The short-term Trend Model is back to positive with the S&P closing a fresh all-time highs. 
  • The short-term Channel Breakout System remains on a buy signal. This system’s stop point stands at 2488 to start the week. 
  • The intermediate-term Trend Model is also positive. 
  • The intermediate-term Channel Breakout System did a great job issuing a buy signal on 8/22. The system would require a drop below 2443 to leave the positive zone. 
  • The long-term Trend Model remains solidly green. 
  • The Cycle Composite remains negative and is clearly out of sync from a short- and intermediate-term perspective at this time. 
  • The Trading Mode models are not yet convinced that the trend is “in gear” but one of the models is positive and the other two are moving in the right direction.
  • In sum, as the saying goes, the most positive thing a market can do is make new highs. Now if the Dow and NASDAQ 100 would just confirm.

The State of Internal Momentum

Next up are the momentum indicators, which are designed to tell us whether there is any “oomph” behind the current trend…


View Momentum Indicator Board Online

Executive Summary:

  • Both the short- and intermediate-term Trend and Breadth Confirm Models are positive. 
  •  
  • The Industry Health Model continues to waffle in the moderately positive zone. As I’ve said many times, I would prefer to see this model in an outright positive mode. 
  • The short-term Volume Relationship remains negative and is not improving here. While the indicator could certainly turn in the near-term, this is a nagging concern 
  • The intermediate-term Volume Relationship has upticked and is improving. 
  • The Price Thrust Indicator remains positive. 
  • The Volume Thrust Indicator continues with a neutral reading. But we should note that the historical return in neutral is fairly strong. 
  • The Breadth Thrust Indicator remains positive this week.
  • From a momentum perspective, the bottom line is things are pretty good. However, I would like to see the volume relationship model confirm the overall message in the near-term.

The State of the “Trade”

We also focus each week on the “early warning” board, which is designed to indicate when traders may start to “go the other way” — for a trade.


View Early Warning Indicator Board Online

Executive Summary:

  • From a near-term perspective, stocks are once again overbought. However, it has been a more than a month since the S&P was oversold and as such, the bulls will argue that this is becoming a “good overbought” condition. 
  • From an intermediate-term view, stocks are have reached an overbought condition as well. However, we prefer for these indicators to reverse from an extreme position before turning negative. 
  • The Mean Reversion Model 
  • The shorter-term VIX Indicator has issued a sell signal while the intermediate-term model’s last signal was a buy. 
  • From a short-term perspective, market sentiment is become more optimistic but has not yet reached a level that is considered negative. 
  • The intermediate-term Sentiment Model remains negative and the indicator hasn’t budged. 
  • Longer-term Sentiment readings are worsening and approaching the lowest levels of the year. 
  • Yes, stocks are now overbought from short-, intermediate-, and long-term time frames. But it is important to remember, that overbought conditions can remain in effect for long periods of time when the bulls are running.

The State of the Macro Picture

Now let’s move on to the market’s “external factors” – the indicators designed to tell us the state of the big-picture market drivers including monetary conditions, the economy, inflation, and valuations.


View External Factors Indicator Board Online

Executive Summary:

  • Absolute Monetary conditions continue to weaken with the recent spike in rates. 
  • But… the Relative Monetary Model remains upbeat. The divergence between the two models has to do with the overall level of rates. 
  • Our Economic Model (designed to call the stock market) issued a sell signal last week. However, I note that the model designed to “call” the economy remains positive. 
  • The Inflation Models continue to show weakening inflation pressures. 
  • The Absolute Valuation Model remains negative. However, we should recognize that the trend of the model reading is slightly down. As such, one can argue that valuations are improving – albeit from extreme levels. 
  • On the other hand, our Relative Valuation Model continues to improve and is very close to turning positive.

The State of the Big-Picture Market Models

Finally, let’s review our favorite big-picture market models, which are designed to tell us which team is in control of the prevailing major trend.


View My Favorite Market Models Online

Executive Summary:

  • The Leading Indicators model, which was our best performing timing model during the last cycle, remains positive after giving a whipsaw signal earlier in the year. 
  • The overall message from “the tape” remains constructive, but it could be better with stocks at all-time highs. 
  • The Risk/Reward model continues to suggest this is not a low-risk environment 
  • The External Factors model sums things up nicely here from a big-picture perspective. While there are concerns, this composite of external indicators remains green.

My Takeaway…

I think the takeaway from this week’s indicator review is that despite the confluence of “issues” the bears continue to talk about, the market remains at all-time highs. Some will argue that this represents a classic case of stocks climbing a wall of worry. And with the majority of our indicators in decent shape, I can concur with this analysis. However, there are indeed some chinks in the indicator armor here. Of course, these problem areas could also be resolved with some time. So, with very positive seasonality just around the corner, it is probably a good idea to give the bulls the benefit of the doubt here and to continue to buy any/all dips.

Sample Risk Exposure System

Below is an EXAMPLE of how some of above indicators might be used in order to determine exposure to market risk. The approach used here is a “Model of Models” comprised of 10 independent Models. Each model included gives separate buy and sell signals, which affects a percentage of the model’s overall exposure to the market.

Trend models control a total 40% of our exposure. The 3 Momentum Models and 3 Environment Models each control 10% of the portfolio’s exposure to market risk. The model’s “Exposure to Market Risk” reading (at the bottom of the Model) acts as an EXAMPLE of a longer-term guide to exposure to market risk.

In looking at the “bottom line” of this model, my take is that readings over 75% are “positive,” readings between 50% and 75% are “moderately positive,” and readings below 50% should be viewed as a warning that all is not right with the indicator world.


View Sample Exposure Model Online

The model above is for illustrative and informational purposes only and does not in any way represent any investment recommendation. The model is merely a sample of how indicators can be grouped to create a guide to market exposure based on the inputs from multiple indicators/models.

Thought For The Day:

It requires less character to discover the faults of others, than to tolerate them. -J. Petit Senn

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of Geopolitics

      2. The State of the Economic/Earnings Growth (Fast enough to justify valuations?)

      3. The State of the Trump Administration

      4. The State of Fed Policy

Indicators Explained

Short-Term Trend-and-Breadth Signal Explained: History shows the most reliable market moves tend to occur when the breadth indices are in gear with the major market averages. When the breadth measures diverge, investors should take note that a trend reversal may be at hand. This indicator incorporates NDR’s All-Cap Dollar Weighted Equity Series and A/D Line. From 1998, when the A/D line is above its 5-day smoothing and the All-Cap Equal Weighted Equity Series is above its 25-day smoothing, the equity index has gained at a rate of +32.5% per year. When one of the indicators is above its smoothing, the equity index has gained at a rate of +13.3% per year. And when both are below, the equity index has lost +23.6% per year.

Channel Breakout System Explained: The short-term and intermediate-term Channel Breakout Systems are modified versions of the Donchian Channel indicator. According to Wikipedia, “The Donchian channel is an indicator used in market trading developed by Richard Donchian. It is formed by taking the highest high and the lowest low of the last n periods. The area between the high and the low is the channel for the period chosen.”

Intermediate-Term Trend-and-Breadth Signal Explained: This indicator incorporates NDR’s All-Cap Dollar Weighted Equity Series and A/D Line. From 1998, when the A/D line is above its 45-day smoothing and the All-Cap Equal Weighted Equity Series is above its 45-day smoothing, the equity index has gained at a rate of +17.6% per year. When one of the indicators is above its smoothing, the equity index has gained at a rate of +6.5% per year. And when both are below, the equity index has lost -1.3% per year.

Industry Health Model Explained: Designed to provide a reading on the technical health of the overall market, Big Mo Tape takes the technical temperature of more than 100 industry sectors each week. Looking back to early 1980, when the model is rated as “positive,” the S&P has averaged returns in excess of 23% per year. When the model carries a “neutral” reading, the S&P has returned over 11% per year. But when the model is rated “negative,” stocks fall by more than -13% a year on average.

Cycle Composite Projections: The cycle composite combines the 1-year Seasonal, 4-year Presidential, and 10-year Decennial cycles. The indicator reading shown uses the cycle projection for the upcoming week.

Trading Mode Indicator: This indicator attempts to identify whether the current trading environment is “trending” or “mean reverting.” The indicator takes the composite reading of the Efficiency Ratio, the Average Correlation Coefficient, and Trend Strength models.

Volume Relationship Models: These models review the relationship between “supply” and “demand” volume over the short- and intermediate-term time frames.

Price Thrust Model Explained: This indicator measures the 3-day rate of change of the Value Line Composite relative to the standard deviation of the 30-day average. When the Value Line’s 3-day rate of change have moved above 0.5 standard deviation of the 30-day average ROC, a “thrust” occurs and since 2000, the Value Line Composite has gained ground at a rate of +20.6% per year. When the indicator is below 0.5 standard deviation of the 30-day, the Value Line has lost ground at a rate of -10.0% per year. And when neutral, the Value Line has gained at a rate of +5.9% per year.

Volume Thrust Model Explained: This indicator uses NASDAQ volume data to indicate bullish and bearish conditions for the NASDAQ Composite Index. The indicator plots the ratio of the 10-day total of NASDAQ daily advancing volume (i.e., the total volume traded in stocks which rose in price each day) to the 10-day total of daily declining volume (volume traded in stocks which fell each day). This ratio indicates when advancing stocks are attracting the majority of the volume (readings above 1.0) and when declining stocks are seeing the heaviest trading (readings below 1.0). This indicator thus supports the case that a rising market supported by heavier volume in the advancing issues tends to be the most bullish condition, while a declining market with downside volume dominating confirms bearish conditions. When in a positive mode, the NASDAQ Composite has gained at a rate of +38.3% per year, When neutral, the NASDAQ has gained at a rate of +13.3% per year. And when negative, the NASDAQ has lost at a rate of -8.5% per year.

Breadth Thrust Model Explained: This indicator uses the number of NASDAQ-listed stocks advancing and declining to indicate bullish or bearish breadth conditions for the NASDAQ Composite. The indicator plots the ratio of the 10-day total of the number of stocks rising on the NASDAQ each day to the 10-day total of the number of stocks declining each day. Using 10-day totals smooths the random daily fluctuations and gives indications on an intermediate-term basis. As expected, the NASDAQ Composite performs much better when the 10-day A/D ratio is high (strong breadth) and worse when the indicator is in its lower mode (weak breadth). The most bullish conditions for the NASDAQ when the 10-day A/D indicator is not only high, but has recently posted an extreme high reading and thus indicated a thrust of upside momentum. Bearish conditions are confirmed when the indicator is low and has recently signaled a downside breadth thrust. In positive mode, the NASDAQ has gained at a rate of +22.1% per year since 1981. In a neutral mode, the NASDAQ has gained at a rate of +14.5% per year. And when in a negative mode, the NASDAQ has lost at a rate of -6.4% per year.

Short-Term Overbought/sold Indicator: This indicator is the current reading of the 14,1,3 stochastic oscillator. When the oscillator is above 80 and the %K is above the %D, the indicator gives an overbought reading. Conversely, when the oscillator is below 20 and %K is below its %D, the indicator is oversold.

Intermediate-Term Overbought/sold Indicator: This indicator is a 40-day RSI reading. When above 57.5, the indicator is considered overbought and wnen below 45 it is oversold.

Mean Reversion Model: This is a diffusion model consisting of five indicators that can produce buy and sell signals based on overbought/sold conditions.

VIX Indicator: This indicators looks at the current reading of the VIX relative to standard deviation bands. When the indicator reaches an extreme reading in either direction, it is an indication that a market trend could reverse in the near-term.

Short-Term Sentiment Indicator: This is a model-of-models composed of 18 independent sentiment indicators designed to indicate when market sentiment has reached an extreme from a short-term perspective. Historical analysis indicates that the stock market’s best gains come after an environment has become extremely negative from a sentiment standpoint. Conversely, when sentiment becomes extremely positive, market returns have been subpar.

Intermediate-Term Sentiment Indicator: This is a model-of-models composed of 7 independent sentiment indicators designed to indicate when market sentiment has reached an extreme from a intrmediate-term perspective. Historical analysis indicates that the stock market’s best gains come after an environment has become extremely negative from a sentiment standpoint. Conversely, when sentiment becomes extremely positive, market returns have been subpar.

Long-Term Sentiment Indicator: This is a model-of-models composed of 6 independent sentiment indicators designed to indicate when market sentiment has reached an extreme from a long-term perspective. Historical analysis indicates that the stock market’s best gains come after an environment has become extremely negative from a sentiment standpoint. Conversely, when sentiment becomes extremely positive, market returns have been subpar.

Absolute Monetary Model Explained: The popular cliche, “Don’t fight the Fed” is really a testament to the profound impact that interest rates and Fed policy have on the market. It is a proven fact that monetary conditions are one of the most powerful influences on the direction of stock prices. The Absolute Monetary Model looks at the current level of interest rates relative to historical levels and Fed policy.

Relative Monetary Model Explained: The “relative” monetary model looks at monetary indicators relative to recent levels as well as rates of change and Fed Policy.

Economic Model Explained: During the middle of bull and bear markets, understanding the overall health of the economy and how it impacts the stock market is one of the few truly logical aspects of the stock market. When our Economic model sports a “positive” reading, history (beginning in 1965) shows that stocks enjoy returns in excess of 21% per year. Yet, when the model’s reading falls into the “negative” zone, the S&P has lost nearly -25% per year. However, it is vital to understand that there are times when good economic news is actually bad for stocks and vice versa. Thus, the Economic model can help investors stay in tune with where we are in the overall economic cycle.

Inflation Model Explained: They say that “the tape tells all.” However, one of the best “big picture” indicators of what the market is expected to do next is inflation. Simply put, since 1962, when the model indicates that inflationary pressures are strong, stocks have lost ground. Yet, when inflationary pressures are low, the S&P 500 has gained ground at a rate in excess of 13%. The bottom line is inflation is one of the primary drivers of stock market returns.

Valuation Model Explained: If you want to get analysts really riled up, you need only to begin a discussion of market valuation. While the question of whether stocks are overvalued or undervalued appears to be a simple one, the subject is actually extremely complex. To simplify the subject dramatically, investors must first determine if they should focus on relative valuation (which include the current level of interest rates) or absolute valuation measures (the more traditional readings of Price/Earnings, Price/Dividend, and Price/Book Value). We believe that it is important to recognize that environments change. And as such, the market’s focus and corresponding view of valuations are likely to change as well. Thus, we depend on our Valuation Models to help us keep our eye on the ball.

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

Disclosure: At the time of publication, Mr. Moenning and/or Sowell Management Services held long positions in the following securities mentioned: none. Note that positions may change at any time.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.

Dave Moenning

What, Me Worry?

As long-time readers are likely aware, I believe in trying to keep portfolios “in tune” with the primary market trend. In this case, we’re talking about the bull market in stocks, which began either on March 9, 2009, September 26, 2011, or February 8, 2016, depending on your time-frame/cycle perspective.

While the bears tell us that the end is nigh and there are many, many reasons to be afraid (as in, very afraid) about what comes next in the stock market, the key is that this remains a bull market until proven otherwise.

However, it is also important to remember that all good things come to an end at some point. And with folks really not interested in seeing their 401K’s turn into a 201K again, well, everybody on the planet seems to be looking for the next big debacle.

In conversations with financial advisors this week, I was asked a couple times about what issues keep me up at night. My first response was that I actually sleep pretty well, largely because I have what I believe to be a pretty solid risk management plan in place from a longer-term, macro perspective.

But from there, I admitted that there were a few things that give me pause. And while I don’t wake up at 2:30 am worrying about them, I have given these issues considerable thought over the past year – during the waking hours of the day, of course!

The “Safety Play”

One of the key problems that causes me to scratch my head and ponder what might come next is the action in what the investing public perceives as the safety stocks. Things like utilities, high dividend payers, and the increasingly popular “low vol” space.

These areas have been persistently popular over the last several years, due, in my opinion, to the idea that investors don’t want to get fooled again – ala 2000-02 or 2008. But with the stock market having marched higher for many years now, investors don’t want to get left behind either. Therefore, the play for many appears to have focused on these “safer” areas of the stock market.

Exhibit A here is the performance of the utilities. This sector has long been known as a safety play due to the fact that utilities tend to pay strong dividends and are not allowed to become significantly overvalued due to the regulations on how much money the companies can earn. So, if you feel like you must be invested in the stock market, buying utilities are viewed as a safer way to go.

However, the returns of the sector have been uncharacteristically strong for some time. For example, the Utilities Select Sector SPDR ETF (NYSE: XLU) was up 14.95% through the end of August (per Morningstar) versus 10.39% for the S&P 500 index. This follows a gain of 16.05% in 2016 versus 11.96% for the S&P (including reinvested dividends). In fact, since 2014, the cumulative return for the XLU has been 63.3%, which is more than 40% higher than the 44.2% seen for the blue-chip S&P. And since 2011, the utilities ETF has provided investors with a return that is equivalent to the overall market. So, what’s not to like, right?

Too Popular?

The problem is the recent outperformance alone tells me that the space has gotten popular and that the “safety play” has likely become a very crowded trade.

From my seat, the issue is that whenever a “trade” becomes overly popular, it usually doesn’t end well. Why? Because at some point, for some reason, the “trade” starts to reverse and then all the “fast money” rushes to the exits at the same time. This, of course, causes a swift downdraft and before you know it, your safety trade can become the same as the overall market – or worse.

So, this is my fear for all those people flocking to the perceived “safety” of not only the utilities but also the high divy and so-called low volatility stocks. In short, I am concerned that if the bears were to find a raison d’etre in the near term, the traditional safety plays could fail to do their jobs this time around.

Perhaps the bigger point this morning is that there is no silver bullet for managing risk in this game. Times change. Markets change. Securities change. And the bottom line is that advisors and investors alike need to have a deep and thorough understanding of what “is” happening in the market – and then act accordingly – as opposed to succumbing to the latest sales pitch from Wall Street.

Thought For The Day:

Worry often gives a small thing a great shadow. -Swedish Proverb

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of Tax Reform

      2. The State of the Economic/Earnings Growth (Fast enough to justify valuations?)

      3. The State of Geopolitics

      4. The State of Fed Policy

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

Disclosure: At the time of publication, Mr. Moenning and/or Sowell Management Services held long positions in the following securities mentioned: none. Note that positions may change at any time.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.

Dave Moenning

Final Thought On Valuations: The Bears Could Be Wrong

I’ve spent a fair amount time recently talking about the various risks of the current market environment. In short, my view is that risk factors are elevated at this time from a macro perspective. I have suggested that this is due at least in part, to market valuation levels, many of which remain at or near historical extremes.

Yet, we must remember that risk factors alone do not necessarily “cause” bull markets to end or bear markets to begin. No, in my opinion, they either indicate that (a) the probability of a meaningful reversal is high and/or (b) the degree of the ensuing unpleasantry may be increased if the bears are able to find a catalyst to turn the tide.

However, one thing that I’ve learned over the years is that bull markets tend to last longer than those in the bear camp can possibly imagine. The current grind higher is a perfect example. There are all kinds of problems out there to fret about and yet stocks continue to stair-step their way higher. All the while, our furry friends constantly remind us that stocks are sure to implode at any moment. As such, they say, you need to take precautionary measures – now!

The problem with investing based on one’s “view of the world” is that your “view” could wind up being flawed. In other words, you could be wrong. As the late Marty Zweig was famous for saying, “Those who rely on a crystal ball in investing will likely end of with an awful lot of crushed glass in their portfolio.”

And on that note, I think we owe it to ourselves to recognize that on the subject of market valuations, the view that stocks are wildly overvalued could very well end up being wrong.

At issue here is the historically low level of interest rates. Sure, rates are up off the all-time lows seen in July of last year. But let’s also keep in mind that the yield on the US 10-year is still less than half where it was 10 years ago.

This is important because there isn’t much in the way of competition for stocks these days. And while this argument is an oversimplification of a very complex issue, given that central banks continue to pump money into the global financial system on a monthly basis, well, the thing to realize is all that fresh capital has to go somewhere, now doesn’t it?

So, with a world that appears to be awash in cash looking for a home, a fair amount of money continues to find its way into the U.S. stock market. From my seat, this helps explain why volatility remains low and any/all dips continue to be bought.

Getting back to the subject of low rates, it is worth recognizing that when viewed through an earnings yield lens (earnings yield = total S&P 500 earnings divided by the index price) stock market valuations are no worse than neutral. Check out the chart below, which goes back into the 1920’s.


View Large Image Online

Using the chart of earnings yield as a guide, one could argue that relative to the levels seen since 1970, stocks are even undervalued.

Another way to look at this issue is to compare the various yields against their 10-year historical averages. Ned Davis Research combines things such as Earnings, Dividend, and Book Value yields with the same adjusted for inflation, as well as the spread in these yields and bond yields. When tallied together, you wind up with what NDR calls a “valuation composite.”


View Large Image Online

As you can see on the chart above, the current reading of this indicator is neutral. And in fact, the model is just a hair away from the undervalued zone. So, again, one can argue that on a relative basis, stocks are not at all overvalued here.

So Which Is It?

The problem with all of this is the message from the “absolute valuation metrics” (Price-to-Earnings, Dividends, Sales, etc.) is that stock market valuations are sky high and warning of impending doom while the message from the “relative valuation indicators” is, everything is fine and stocks have plenty of room to advance.

From my perch, it’s probably a little of both. Stocks ARE indeed overvalued by traditional measures. However, the “yea, but” is with rates so low, there is no competition for stocks.

So… my macro takeaway from this exercise is that as long as (a) earnings continue to improve, (b) inflation expectations remain low, (c) economic growth continues to be decent, and (d) rates don’t spike higher, well… stocks can probably continue to advance in the 8% – 12% per year range. Unless, of course, something comes out of the wood work to change the fundamental backdrop of course. But that never happens, right?

Thought For The Day:

Wanting to be someone you’re not is a waste of the person you are. -Kurt Cobain

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of Tax Reform

      2. The State of the Economic/Earnings Growth (Fast enough to justify valuations?)

      3. The State of Geopolitics

      4. The State of Fed Policy

Wishing you green screens and all the best for a great day,

David D. Moenning
Chief Investment Officer
Sowell Management Services

Disclosure: At the time of publication, Mr. Moenning and/or Sowell Management Services held long positions in the following securities mentioned: none. Note that positions may change at any time.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning’s opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided “as is” without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is an investment adviser representative of Sowell Management Services, a registered investment advisor. For a complete description of investment risks, fees and services, review the firm brochure (ADV Part 2) which is available by contacting Sowell. Sowell is not registered as a broker-dealer.

Employees and affiliates of Sowell may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Positions may change at any time.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.

Advisory services are offered through Sowell Management Services.