I read that a recent Merrill Lynch survey of mutual fund managers noted the following:
“The new year sees asset allocators assigning more funds to equities than at any time since February 2011, while their confidence in the world’s economic outlook has reached its most positive level since April 2010. Investors’ appetite for risk in their portfolios is now at its highest in nine years…”
Interestingly, from April 2010 to last week (January 18, 2013), when the appetite by fund managers for risk was low, equity markets generated strong returns. The S&P 500 Index made about 27% in that period. Thus, even so-called “sophisticated” investors can sometimes be a contrary market indicator. Contrarians might buy when they (fund managers) are bearish, and sell when these folks are bullish.
Coinciding with this increased appetite for risk by both institutional money and individual investors are a few factors that make me a bit nervous.
- First, we are steadily getting closer to the S&P’s 12-year highs – a very significant point of technical resistance that has failed to be broken even in better economic times.
- Second, we are well into a 5-year market cycle and due to peak within a very short time period. Here is my original July 2012 post on this cycle, which was also present in the last secular sideways market (1965 – 1982): https://www.valuetrend.ca/?p=1325.
- Third, we are about half way through the bullish seasonal period (November – April) according to the “Best Six Months” seasonal strategy. This gives us only a few more months of relative outperformance expectations from the markets.
- Lastly, there appears to be a “rising wedge” forming on both the S&P500 and the broader NYSE composite index. Thanks to reader Dave for noting this in a comment a couple of weeks ago. Note also on this weeks charts that the NYSE composite is now attempting to break its 2011 highs, something that I have mentioned before as not having happened yet (https://www.valuetrend.ca/?p=1533). A failure to remain above the 2011 highs by this index will signal weak market breadth.
I should mention here that ascending wedges are usually thought to be long-term bearish patterns. This formation is not one to trade off of immediately. In other words, don’t sell everything and run for the hills just yet. Patterns like a rising wedges are warning signs. They generally should not be traded until the formation breaks – however, there may be reason to sell before a break occurs in the current situation. Let me explain:
It is my opinion that markets will hit their old highs (S&P target of 1550-ish) before a topping process begins. The fact that markets are quickly approaching their long-time ceiling, a 5-year cycle peak, coinciding with contrarian bullish institutional and retail sentiment, may indicate that we will indeed have plenty of reason to be selling as this wedge formation completes itself.
I remain long the markets, but look to raise significant levels of cash as my market targets are reached. This means that I may not wait around to see the current wedge pattern break. My reasoning behind an early exit – or at least trailing stop loss orders on certain stocks – at or around the aforementioned target levels revolves more around the longer termed technical resistance and cyclic patterns noted above.