The present rally began on March 12. That was a key reversal day, where the markets gapped down hard, only to reverse and go positive, closing near the highs of the day.
Friday’s action was nearly a mirror image: On the positive Intel news, the markets gapped up hard, only to reverse and go negative, selling off and closing near the low of the day.
That’s a key reversal day; It occurs whenever a market makes a nominal new high, reverses down to take out the previous day’s low and close lower than the previous day’s close. Historically, when you see one of these reversals, it signals the end of the up move and the beginning of a new leg down.
That trading action also suggests that, at least for the near term, most of the positive economic developments have been priced into the markets. That’s why a “Sell the news” mentality took hold. Smart money that positioned their funds in INTC or similar names (i.e., the Semis) had gains of 30, 40% in the sector. Their profit taking was not unexpected.
Additionally, many institutions are running at fairly fully invested levels. Equity fund flows have been positive for the past four months, but at levels nowhere near those seen in the late 90s. Its not as if managers are sitting on huge hordes of cash they must deploy.
Another factor working in favor of a pullback/consolidation rather than a continuing rally is the declining leadership of the Finance sector. The banking index – BKX – could not get out of its own way last week when the market was strong Monday-Thursday; On Friday’s weakness, the banking index cracked, breaking both its 50 day moving average and its up trend. A likely scenario is a pullback of 8-12% in the BKX from Thursday’s 883 close.
We are more constructive about the intermediate temr than the short term. The markets are about to enter their seasonally weakest two months; September and October have historically been very challenging. We expect a continued consolidation of recent gains to occur over the next 60 days.
For those who either missed this past rally, or have additional capital to deploy, any sell off in the near future will provide an advantageous entry point.