Boom

Well it finally happened.  The S&P 500 {shown above via its ETF, SPY} finally made a new closing high yesterday.  It's taken the market roughly 14 months to do this, and we've seen two declines during that period of around 10%, but we finally bested the old highs.  We've also now broken out of this trading range {highlighted in yellow} we've been mired in since late 2014.  I would venture that very few investors thought this could be a possibility after the British voted to leave the EU.  I would have said new highs were a low probability event back then, but as I said the day after the vote when many pundits were proclaiming the end of the world, "nobody knows what was going to happen".  These results prove that out.   They also illustrate the old Wall Street maxim, "Nobody ever made a dime by panicking".

So now what?    First and irrespective of what happens going forward the markets are now extremely oversold by many ways we measure these things.  Some sort of profit taking is now a very high probability event and should be welcomed as a way to relieve some of the pressures that have built up now in the markets.  After that we have to consider what are the probabilities.  These are the ones that I can see right now and they are not listed in any particular order.  

1.  This is just a massive head fake.  We've seen a relief rally off of the Brexit panic.  Stocks now will focus on corporate earnings which have the possibility of not being so great.  We sell off soon and settle back into the trading range we've become accustomed to all these past months.

2.  Investors focus now on the next big event {political conventions, rate increases, the elections or whatever} and we enter a period now of indecisiveness.  What we find with the passage of time is that we've done nothing more than expand the upper band of the trading range.  Markets flop around now until after the elections.

3.  This break out is for real and we power higher over the coming months.  Investors become attracted to US stocks due to their higher yields relative to all most other investments and a view that the American economy is the best house in a bad neighborhood.

As I said all of these scenarios could play out and I'm sure there are a few others that I haven't thought of.  But I will say this.  I've spent a few weeks in meetings around the investment world and participated in several presentations and economic conference calls.  There is a growing sense in the investment world that the earnings recession we've seen going back over a year may be coming to an end in the coming quarters.  There is also a belief that the next President has an open window at the beginning of his or her Administration for some sort of stimulus package.  Both of these would be good for the markets if they come to pass.  Right now there is also a belief amongst the same group that there is no viable alternative to stocks, especially with yields around the world where they currently stand.  That view about lack of alternatives may prove to be dangerous in the end but it is there now.

Finally and this is totally anecdotal.  Investors around the world have become exceedingly pessimistic.  This could be seen in the reaction to the Brexit vote.  Investors have been net sellers of equities for the past two years.  The only net buyers of stocks during that time have been corporations doing buybacks of their own shares.  I heard a fellow on CNBC from some brokerage firm a few days ago say that client accounts at his firm have cash balances that one normally sees at the bottom of a bear market.  Add to that the trillions of institutional dollars sitting on the sidelines overseen by nervous portfolio managers worried that the market is going to run away from them.  That's the fuel  to propel stocks higher if confidence improves about the economy for 2017 and beyond.  Remember stocks look ahead, never behind.

I still think there's a higher probability that we see some backing and filling in the markets now.  We have the political conventions starting next week and we could see trouble along with negative headlines out of the GOP gathering.  Also we have the typical summer doldrums to get through.  But I think something's changed recently.  Unless we start to see much more negative headlines out of the economy in the coming weeks then I think there is a higher probability that stocks have the potential now to move structurally higher in the coming months.  In that scenario market declines and profit taking will likely be met with real buyers for a change.

Chart is from Tradingview.com.  Annotations to it are mine.

*Long ETFs related to the S&P 500 in client and personal accounts although positions can change at anytime.