The Crucial S&P 500 Levels to Watch This Week
Can the rest of the year possibly measure up to the stock market's blowout first quarter?
by Todd Salamone 3/31/2012 10:40:21 AM
It was an historically awesome first quarter for the market, as the S&P 500 Index (SPX) turned in its best January-March performance since 1998. (To put that in perspective: the last time the SPX fared this well in the first quarter, notorious tech-bubble casualty Pets.com was still five months away from launching.) It's a funny thing about this bull market, though -- three years and more than 600 SPX points later, retail investors still aren't buying it. This week, Todd Salamone lists three major signs that skepticism is mounting, despite the market's technical feats. Meanwhile, Rocky White crunches the numbers to discover whether an outsized first-quarter return might cannibalize April's typically bullish seasonality. Finally, we wrap up with a preview of the key economic and earnings reports for the week ahead, as well as a few sectors of note.
Notes from the Trading Desk: First-Quarter Earnings Could Bring Some Surprises
By Todd Salamone, Senior VP of Research
"Some technical indications are being thrown around as corrective warnings, yet our own research on these same indicators suggests a pause could be at hand, but not necessarily a correction. Sideways, choppy action within the current uptrend would not be a surprise, as the SPX battles the round-number 1,400 area concurrent with the S&P MidCap 400 Index (MID) making its second run in as many years at the 1,000 millennium mark."
- Monday Morning Outlook, March 17, 2012
"Short selling rose at the New York Stock Exchange and Nasdaq Stock Market during the first half of March... the number of short-selling positions at the NYSE not yet closed out, known as short interest, increased 2.05%... On Nasdaq, short interest rose 2.54%... Over the period covered by the latest short-interest report, the Dow Jones Industrial Average rose 300.69 points, or 2.32%. The Nasdaq Composite Index increased 89.48 points, or 3.02%. Marketwide, the short ratio, or the number of days' average volume represented by outstanding short positions, rose to 4.2 days from a revised 3.7 days, at Nasdaq, in late February."
- The Wall Street Journal, March 26, 2012
"AAII % bulls on 2/9 =52% AAII % bulls on 3/29 =42%. SPX on 2/9=1,351...SPX now= 1,400 - bullish from contrarian view"
- @ToddSalamone on Twitter, March 29, 2012
Two weeks ago, we pointed out the numerous calls for a correction we were seeing based on varying technical indicators. Our own research on these indicators -- together with the fact that equity benchmarks, such as the S&P 500 Index (SPX - 1,408.47) and S&P MidCap 400 Index (MID - 994.30), were bumping into the round-number areas -- suggested there was a higher probability of a choppy period, rather than a correction. Frustrating for both bulls and bears alike is that we have experienced the higher-probability choppy scenario, with the bulls experiencing a jolt once things look good, and the bears getting shocked just when a breakdown appears underway.
With the market directionless during the past couple of weeks, we still think the next significant move is higher, as we see skepticism building even as the technical backdrop remains healthy. The skepticism, of course, represents potential future buying power. With respect to the short term, we find it impressive that the SPX has still experienced only two closes below its 14-day moving average since Dec. 20. This trendline, which we briefly discussed last week, came into play during the past three trading days, and enters the week at 1,403.70.
The aforementioned build-up in skepticism is evident on a few fronts, including:
- The retail investor has been getting increasingly worried since early February, according to the American Association of Individual Investors' (AAII) weekly survey. The skepticism comes amid an advance in the market since this period. The fact that only about four in 10 retail investors think the market is headed higher is mind-boggling, given the short-term and intermediate-term trends.
- Moreover, short interest recently ticked higher, even as the market advanced. The short interest statistics cited in The Wall Street Journal earlier this week came as no big surprise to us. It is usually the professionals who do the bulk of the shorting, and we are seeing increasing nervousness among professional market players through our daily analysis of the options market, where put buying on CBOE Market Volatility Index (VIX - 15.50) futures has grown rapidly in recent weeks -- probably as hedges to the short positions some fund managers have initiated in recent weeks.
- The first-quarter earnings season is only a couple of weeks away, and it appears analysts aren't expecting much. Low analyst expectations set the stage for positive surprises, and high expectations sets up an environment ripe for disappointments. Evidence that low expectations for earnings are in force: "'While companies still seem to be trying to operate as leanly as possible, it is going to be harder for them to translate whatever cost-cutting measures are still possible into profits that can surprise analysts and beat the latter's earnings estimates,' Thomson Reuters says. That's the big worry as investors turn their sights to first-quarter earnings season."
- The Wall Street Journal, March 30, 2012
"The fourth-quarter company results season was the worst since 2008 in terms of firms beating estimates. That was largely overlooked by a market in the middle of a liquidity surge, but it may come home to roost this quarter."
- Reuters, March 29, 2012
The coincidental impact of the growing wariness among professional market players -- as the SPX challenges 1,400, the MID stares down the barrel of 1,000, and the Russell 2000 Index (RUT - 830.30) closes in on all-time highs and former resistance points -- may account for the frustrating tape we have seen in recent weeks. For bulls, the good news is that the market remains on solid footing, and a fair amount of caution is apparent heading into first-quarter earnings season.
A pullback like we saw in late February and early March would push the SPX down to the 1,370 area -- which we view as support, given it is the site of the 40-day moving average and last year's high. Potential resistance is in the 1,450-1,470 zone, the SPX target after the inverse "head and shoulders" breakout above 1,260 and site of the May 2008 peak.
Indicator of the Week: The First Quarter Ends -- Now What?
By Rocky White, Senior Quantitative Analyst
Foreword: Last week ended the first quarter, and what a quarter it was. The 12.0% return gained by the S&P 500 Index (SPX) is the best first three months of the year since 1998, when the market saw a first quarter gain of 13.5%. Furthermore, March's return of 3.1% means that every month this year has seen at least a 3% return (January and February were both over 4%). That has never happened before, going back to 1950! This week, I'll take a look at seasonality to see how the market has performed in the past during the second quarter. Also, I'll take a look at stocks that performed exceptionally well over the last three months, and see what history tells us about what we can expect from those names.
The Second Quarter: The tables below summarize the returns of the SPX, by quarter, over the last 10-year and 30-year time frames. Both periods show that the fourth quarter stands out from the others as the most bullish. The second quarter has been the second-best over the last 10 years, going by average return. However, only 50% have been positive -- worse even than the third quarter, which averages a negative return.
I mentioned earlier that we've seen the best first quarter since 1998. Going back 30 years, below are five years where the SPX has gained at least 10% in the first quarter. You can also see what the market did going forward to the next month, the next quarter, and for the rest of the year.
The best first quarter was in the notorious year of 1987 (Black Monday happened that October). The second table below compares the average returns of those double-digit years to all other years. Stocks have struggled in April during those four years in the table below where the first quarter returned at least 10%. But the market seems to pick up after that rough patch, with decent second-quarter gains for three of those four years. The average return for the rest of those years significantly underperforms other years, at 2.20%, but that average is dragged down by one pretty extensive loss in 1987.
Individual Stocks: As I mentioned earlier, we have seen three excellent months for the SPX. There were 68 SPX stocks that outperformed the index in each of those first three months. Below are the top 20 of those stocks, going by year-to-date return.
These stocks have been strong, but that does not necessarily mean they will continue to be, so more analysis is in order. In fact, I went back over the data from the five previous years for current SPX stocks. I gathered their returns for the rest of the year, after the first quarter, depending upon whether they outperformed the market in each of the first three months, none of the first three months, or somewhere in between. The table shows that stocks outperforming the market in each of the first three months did not keep pace with those that were yet to do better than the market, as far as average return goes. The median on the outperformers was better, though, signaling that some huge gains may be skewing the data. The last two columns show the percentage of the stocks in each group that were positive and the percentage that outperformed the SPX for the rest of the year. Those results do not show much difference between the groups.
This Week's Key Events: If March Payrolls Come Out, and No One Is Around to Hear Them...
Schaeffer's Editorial Staff
Here is a brief list of some of the key events this week. All earnings dates listed below are tentative and subject to change. Please check with each company's respective website for official reporting dates.
Monday
- The economic calendar kicks off on Monday with the ISM manufacturing index, along with the latest stats on construction spending. There are no major earnings reports scheduled for release.
Tuesday
- Tuesday's docket features auto sales data, factory orders, and the minutes from the latest meeting of the Federal Open Market Committee (FOMC). Comverse Technology (CMVT), International Speedway (ISCA), and Mitcham Industries (MIND) are expected to report earnings.
Wednesday
- Jobs data starts to trickle in on Wednesday, with the release of ADP's private-sector payrolls report for March. Also on tap is the ISM services index, and the usual update on crude inventories. The earnings calendar includes reports from Acuity Brands (AYI), AngioDynamics (ANGO), Global Payments (GPN), Monsanto (MON), PriceSmart (PSMT), and Ruby Tuesday (RT).
Thursday
- Jobless claims are due out bright and early Thursday morning. On the earnings front, we'll hear from AZZ (AZZ), CarMax (KMX), Constellation Brands (STZ), Pier 1 Imports (PIR), Schnitzer Steel Industries (SCHN), SemiLEDs (LEDS), and WD-40 (WDFC).
Friday
- The market is closed in observance of Good Friday, so traders won't have a chance to respond to the Labor Department's nonfarm payrolls report until Monday.
And now a few sectors of note...
Dissecting The Sectors
| | Sector | Leisure/Retail
Bullish |
Outlook: The trend of improving jobs data has continued, with February payrolls surpassing expectations, and the unemployment rate holding steady at its lowest point in nearly three years. In addition to the positive employment news, consumer-level inflation remains relatively tame, and February saw the biggest monthly jump in personal spending since last July -- pointing to an improving fundamental backdrop for shoppers, and, by proxy, consumer discretionary stocks. On the charts, the SPDR S&P Retail ETF (XRT) is still a technical outperformer, with the fund tagging a new all-time best of $63.04 last week. Since the March 2009 market bottom, in fact, XRT has rallied an impressive 243%. For those seeking a bullish play in the retail/leisure space, we recommend focusing on stocks in solid technical uptrends that are surrounded by skepticism, which creates the potential for upside surprises. A few of our current favorites include retailers AutoZone (AZO), Advance Auto Parts (AAP), and Whole Foods Market (WFM), along with restaurateurs Chipotle Mexican Grill (CMG), Domino's Pizza (DPZ), and P.F. Chang's China Bistro (PFCB). With skepticism still lingering toward these consumer-dependent stocks, contrarians can continue to capitalize on situations where sentiment has yet to catch up with the bullish technical performance.
| | Sector | Homebuilding
Bullish |
Outlook: Housing data continues to come in hot-and-cold. However, a batch of coolly received reports in recent weeks gave the SPDR S&P Homebuilders ETF (XHB) a chance to fill in its bullish gap from Feb. 3. In fact, XHB on Friday notched a second consecutive monthly close above the $20 level, which previously marked the fund's May 2010 peak. Plus, after a recent earnings miss from KB Home (KBH), XHB found a foothold near the site of its February highs, in the $20.50 area. From here, the fund still has room to rally up to $23.25 -- which is half its all-time high, reached only three months after XHB was launched in 2006. Despite the improving price action in the sector, analysts remain overwhelmingly negative. With 94% of builders trading above their 200-day moving averages, these names have attracted only 42% "buy" ratings from brokerage firms. However, a recent preponderance of put buying on XHB suggests that hedged players are starting to dip their toes into housing stocks, which could be a boon for the group during the near term. In fact, the 50-day buy-to-open put/call volume ratio for the fund is now resting near its highest level since 2007, which indicates that big-money investors are actively acquiring shares of sector components. As further evidence, Goldman Sachs is now launching a fund to buy home-loan bonds, with the investment giant asserting that "stabilization in U.S. housing fundamentals is creating an attractive investment opportunity." Some of our preferred names in the sector are Lennar (LEN), Toll Brothers (TOL), Meritage Homes (MTH), PulteGroup (PHM), and D.R. Horton (DHI), all of which sport relatively high short-to-float ratios. Going forward, these names could benefit from upgrades or short-covering activity as the technical and fundamental performance continues to surpass the Street's low expectations. As a point of caution, Barron's just featured an optimistic cover story titled "Home Prices Ready to Rebound" -- suggesting some optimism may be priced in, and the XHB could pull back in the short term. However, a pullback that is contained above $20 would be healthy, in our view, as we still believe in the potential reward in this sector. What's more, the bullish cover is not out of touch with the positive price action, making the contrarian implications less relevant.
| | Sector | Gold
Bearish |
Outlook: Lately, we've been seeing several danger signs that point to potential short-term weakness for the SPDR Gold Trust (GLD). First, as Jim Paulsen of Wells Capital Management recently observed, valuations for the underlying metal relative to stocks, bonds, and other assets have soared off the charts lately, hinting that a correction may be overdue -- particularly as gold sheds its "fear premium" in the face of improving consumer confidence. Looking at the options markets, the fund's front-month put/call implied skew has taken a significant dive from its late-2011 highs. Historically, downturns in this indicator have correlated with weakness in GLD. Along the same lines, total buy-to-open option volume on the ETF has imploded recently -- an occurrence that has previously coincided with periods of range-bound or negative price action for GLD. Meanwhile, from a technical perspective, the outlook is similarly unsettling. The fund turned lower in late February after an unsuccessful test of resistance in the $175 area, and GLD has since plummeted through its 140-day moving average. This trendline has played a key role as both support and resistance in the past, and it's currently serving as a stubborn technical ceiling. Most recently, GLD suffered a harsh rejection at its 140-day moving average on March 27, effectively squashing the security's latest rally attempt. On the other hand, the $160 area has yet to give way entirely -- although multiple recent tests of this level could indicate that support here is weakening. Even more troubling, we've started to see some bullish coverage on gold in the financial media. From a contrarian perspective, this optimism in the face of deteriorating price action has distinctly bearish implications. |
Prepare for the investing week ahead. Every week, Bernie Schaeffer and his staff provide you with their insight about what has happened and, more importantly, what will happen in the market. We dig deep and show you what's happening behind the scenes, and tell you which indicators are predicting major market moves. If you enjoyed this week's edition of Monday Morning Outlook, sign up here for free weekly delivery straight to your inbox.
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