Stocks on May 8, 2018: outlook


*These are my discretionary thoughts on the market. My Medium-Long Term model determines my trades. Go to the homepage for my latest market outlook. I update this webpage throughout the day.

Thoughts

  1. Rising interest rates will probably hurt the stock market once the 10 year yield approaches 4.5%
  2. Operating margins continue to surge. Neither bullish nor bearish for the stock market.
  3. Dow Jones is lagging the Russell 2000 and NASDAQ. A potential bullish sign for the stock market.

Read Study: does the year-over-year change in corporate earnings lead the stock market?
Read State of the U.S. economy in May 2018
1 am: Rising interest rates will probably hurt the stock market once the 10 year yield approaches 4.5%
Jamie Dimon thinks that the 10 year yield may approach 4% as the Treasury issues more bonds to fund the increasing deficit.
This chart demonstrates that the stock market tends to go up with interest rates until the 10 year yield reaches 5%. Then the stock market tends to move inversely with interest rates.

Since economic growth is slower in this economic expansion cycle than in previous cycles, rising interest rates will probably start to hurt stocks when the 10 year yield reaches 4.5%. To put that into perspective, that’s a little under where the 10 year yield peaked in the previous economic expansion cycle.
There is still a considerable distance between where the 10 year yield is today (under 3%) and 4.5%.

1 am: Operating margins continue to surge. Neither bullish nor bearish for the stock market.
The S&P 500’s profit margins continue to rise and are now at 11.6% for Q1 2018. This is a historical record.  This is neither a bullish nor bearish indicator for the stock market. Historically, profit margins and the S&P 500 tend to peak together. Profit margins are a coincident indicator for the stock market.

  1. Profit margins and the stock market peaked in early-2000.
  2. Profit margins and the stock market peaked in late-2007.


1 am: Dow Jones is lagging the Russell 2000 and NASDAQ. A potential bullish sign for the stock market.
Every once in a while it pays to look at the internals of the stock market. What’s keeping the S&P 500 down right now?
Large cap stocks.
The S&P has retraced more than 38.2% of its entire correction.

The Russell 2000 (small cap stocks) has retraced 78.6% of its correction!

The NASDAQ has retraced more than 61.8% of its correction!

The residual fear of a trade war continues to hold large cap Dow stocks down (Dow companies have the most to lose from a trade war). But remember – the probability of a full blown trade war is very small. Both China and the U.S. have too much to lose from a full blown trade war. Negotiations will take months, so I think the Dow will continue to underperform the rest of the stock market over the next few months.
You can see this in international markets as well. European equities and Japanese equities are recovering (Europe and Japan have nothing to do with the U.S.-China feud).
Here’s the German DAX Index. Notice how it’s rallying nonstop.

Here’s Euro Stoxx (European equities index). It is also rallying nonstop.

Here’s the Japanese Nikkei. Also rallying.

Imagine how much the U.S. stock market will rally once the trade war fears are worked off.
Read Stocks on May 7, 2018: outlook

Outlook

Here’s what I think will happen based on my discretionary outlook.

  1. The S&P has made a 6%+ “small correction”. This will not turn into a “significant correction”.
  2. 2018 will trend higher but also be a choppy year.
  3. The S&P 500 has approximately 1-2 years left in this bull market.

I do not use my discretionary outlook to place entry/exit trades. I am 100% long SSO (2x S&P 500 ETF) because my Medium-Long Term model does not foresee a significant correction at this point in time. I ignore small corrections. I only sidestep significant corrections and bear markets.
I have been long the S&P 500 since September 7, 2017 when it was at 2465.
*I also have a small Day Trading portfolio. Click here to view my day trades.

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