These Two Indicators Say the ‘Trump Rally’ in Stocks Can Continue for Months

January 27, 2017January 12, 2017 Editor

This article was originally published on this site

Full steam ahead: The average stock and interest-rate-sensitive shares have kept pace with blue-chip averages like the Dow Jones Industrials and the S&P 500, pointing to underlying strength in the equity market.

A surprise could be in store.

That’s right. Don’t be caught off guard if the stock market extends its gains, even as some are calling for an end to the so-called Trump rally.

While a short-term decline of up to 5% is always a possibility during a bull market, the prospect of the major averages stopping dead in their tracks and reversing for good is faint.

This view is based on the things that count. To wit: historical precedent, not personal opinion.

And there is plenty of precedent to show that most bull markets are nearing the end when these two developments occur: 1. The average stock can no longer match the highs set by the Dow Jones Industrial Average or the S&P 500 Index; and 2. Interest-rate-sensitive issues diverge from the higher highs posted by the Dow Industrials or the S&P 500.

The best gauge of the average stock may be the daily New York Stock Exchange advance-decline, or A-D, line. Historically, when the A-D line is unable to confirm new highs in the blue-chip averages for at least several months, it is usually a sign that the market’s foundation is unstable.

This is especially true in a mature bull market when the central bank is tightening the money supply and short-term rates are rising.

As the chart below shows, the recent high in the S&P 500 was confirmed by a high in the A-D line. This means the broad market is in gear with the blue-chip indices. Thus, stocks have essentially bought themselves some time before an inevitable rotation into larger companies renders the A-D line unable to keep pace with the S&P 500. This would start a period of divergence between the two yardsticks that would ultimately lead to a bear market.

The other reliable long-term signpost of market direction, interest-rate-sensitive issues, has outperformed the S&P 500 since the summer. The chart below shows the NYSE Financial Index keeping pace with the recent S&P 500 highs. Long-term market tops rarely occur when interest-rate-sensitive groups like the banks and brokers are at bull-market highs.

As for the action of leading stocks, many are taking a break after having advanced in tandem with the averages. For active investors, now would be the time to make a list of issues forming bases or sideways consolidation patterns on their charts.

Glaukos Corp. is one such stock. Its chart pattern shows a base of three months being formed. In fact, this base is as constructive as any in the market, at least among those with reasonable liquidity.

Glaukos is a specialist in glaucoma treatments. After posting losses for 2013 through 2015, most analysts on Wall Street expect a return to profitability in 2016 followed by an estimated 83% growth in earnings for 2017. Revenue growth has been impressive, both in magnitude and stability. For example, the past six quarters have seen the top line grow between 44% and 60%.

After coming public a year and a half ago at $18, GKOS built a year-long consolidation pattern. As seen on the chart below, its most recent breakout attempt last fall failed amid softness in the broader market. On a bullish note, the stock is under extreme accumulation (high-volume buying) over the past six weeks. This occurs as price forms the right side of its cup-like pattern.

Aggressive speculators might consider using the $39.82 high of Sept. 23 (the base top) as a trigger for an entrance. As always, a protective stop should be used to mitigate risk, along with a starter position that is half, or less, the normal size. In most cases, a position should not be entered when price is extended, i.e. more than 5% past the top of its base for buys.

The market may just surprise most investors by adding to its gains in the months ahead. For those who rely on historical precedent, not a crystal ball, this view is buttressed by the message given by the two reliable long-term signposts I mentioned. The average stock and interest-rate-sensitive issues have kept pace with large, blue-chip averages like the Dow Jones Industrials and the S&P 500.

This buys the market some time before the usual period of decay in these two measures leads to a bear market.