Markets & Finance

Stocks: After the Record, What Next?


The S&P 500 may run into a ceiling in the 1540 to 1560 area, but could move north of 1600 after a few months

From Standard & Poor's Equity ResearchAfter 7 years and 2 months, or about 1,800 trade days, the S&P 500 has finally completed the long and strenuous round trip back to the tech-driven, mania highs of March, 2000. Now what?

Before we take a gander at our crystal ball, the one we have been polishing quite a bit lately, we must cite some interesting statistics that compare the differences in the S&P 500 from March, 2000, to May, 2007. Some are fundamental stats, and I apologize for that. But I just love numbers!

The price-to-earnings ratio in 2000 on the S&P 500 was almost 28, now it is about 17. The dividend yield was 1.12%, and is now 1.8%. Cash held by companies in the "500" as a percentage of market value has risen from 2.5% to 5.8%. The largest issue was Microsoft (MSFT) with a market cap of $553 billion, while the largest component today is Exxon Mobil (XOM) with a market cap of $465 billion.

More interesting, in our view, is the representation that each of the ten S&P 500 sectors now make up. Back in March, 2000, Information Technology made up a whopping 34.5% of the index, and looking back, if that wasn't a bell ringer, we don't know what is. Info tech currently makes up 15% of the index. There were three sectors that made up at least 11% of the index back in 2000, IT, Financials, and Consumer Discretionary.

Today, with a much broader market, there are six, including Financials, IT, Health Care, Industrials, Energy, and Consumer Discretionary. Financials are now the largest sector, making up 21.4% of the index. Seven of the ten sectors now make up more of the index than they did in 2000.

With the S&P 500 at an all-time high, the market has put aside any potential overhead resistance, a major positive in our view. Everyone that has invested in the index is sitting on a profit, so there is no urgency by investors to sell. If everyone has a profit, there is also no supply of stock from investors with past losses that are looking to get even.

However, with the index just poking its head above the prior high, making price projections becomes a bit tougher. Currently, there is no chart resistance to look for, nor is there any trendline resistance to use for a price projection.

In the short-term, we will rely on some data we monitor in the options market that we've found to be fairly reliable at pinpointing potential support and resistance levels for the major indexes. With the next expiration in the options market being June, we will focus on the open interest levels for that month. High levels of call open interest that sit above current prices can act as a short-term ceiling for the market while large put open interest levels residing below current prices can act as powerful short-term supports for the market.

When looking at the options data for the S&P 500 (SPX), we see that there is a high level of call open interest at the 1540 level as well as the 1560 level. Until the June options expire, this area could be tough for the S&P 500 to crack. For the iShares Russell 2000, there is heavy call open interest at 85, or just above current prices.

Looking out a bit, and past the June expirations, we will lean on some tools based on Fibonacci analysis. Many times, major indexes will advance by a certain percentage of their prior pullback or correction. For example, the last pullback in late-February/early March encompassed 97.59 points, from intraday high to intraday low.

Once the market retraces the pullback, we can then make projections based on Fibonacci retracement numbers. The first potential target is based on an extension of 61.8% of the width of the pullback. This product is simply added to the prior high and equated to an initial projection of 1521.88. Since the "500" has surpassed this initial projection, the next target is based on an extension of 161.8% of the width of the pullback, and that would project to the 1619.47 level.

So, in the next few weeks, the S&P 500 may run into a ceiling in the 1540 to 1560 area, but looking out a few months, we see the potential for a move north of 1600.

There have been some grumblings by the technical analysis community that because the market is overbought on a daily basis, and has lost some momentum, that therefore the rally is over. They are right on one count, but we think wrong on another. First, the S&P 500 did get overbought on the 14-day relative strength index, as it climbed just above 74 on April 25. Since that time, there have been some minor divergences, as the RSI has traced out lower peaks, as the S&P 500 has posted higher price highs.

However, many times during intermediate-term advances, the peak in daily momentum does not coincide with the peak in prices. In addition, the peak in momentum over the last three years has preceded the peak in prices by four to six months. Often, there is a series of negative divergences before the market rolls over. The same thing can be seen in the daily MACD chart. When examining weekly momentum indicators, many times there is a least one negative divergence before the market pulls back.

One potential roadblock to the current rally is the Treasury bond market. The 10-year yield just completed a fairly large basing pattern, and based on the width of the formation, we could see a move to the 5.4% zone. Before we get there, the yield has to break good support at 5.25%, which was the high from last year. The makeup of futures traders confirms our bearish outlook. Commercial hedgers are net short the market while large speculators are net long. Something to watch!

Arbeter, a chartered market technician, is chief technical strategist for Standard Poor's .

Best LBO Ever
LIMITED-TIME OFFER SUBSCRIBE NOW

Sponsored Financial Commentaries

Sponsored Links

Buy a link now!

 
blog comments powered by Disqus