Timing Outlook Special Edition: Getting Shaky?

1. Summary

The markets have sold off on 6 of the last 7 trading days, including the last 4 in a row, so this is a special edition of the Timing Outlook to assess the damage.

While the Timing Outlook is still (by definition) in positive territory, its value is now 6.0, down from 9.0 less than two weeks ago. While this is the 15th consecutive positive reading, it is hard to ignore the sharp declines in both the market and the Timing Outlook. In 7 trading days, the market has lost 5% of its value. In less than 2 weeks, the Timing Outlook has dropped by a third.

We are heavily into earnings season, and while positive earnings surprises have been prevalent, revenue and outlook surprises have been less so. Further, economic data has been sounding less positive. For example, the most recent survey of consumer confidence fell for the second month in a row. Under my “net news flow” theory, I think that market participants are voting with their dollars and saying the news hasn’t been good enough the last week or two. As stated last time, an extended string of bad news on earnings and/or revenues and/or corporate outlooks and/or economic fronts—such as employment—would probably kill the rally.

I am not ready to declare the rally dead yet, but it bears watching. Just as 3-ish weeks of generally rising prices in March heralded the beginning of this extended and sharp rally, 3-ish weeks of generally falling prices might signal that it has come to a close. We’ve had a couple other similar market drops along the way during this rally, such as in early July (when the S&P 500 fell back 7%), and the market recovered from them and resumed its upward action. It remains to be seen whether this recent negative action is just a short-term interruption or will prove to be longer-lasting.

As always, sell-stops or some other form of downside protection is recommended on your long stock positions (excluding, perhaps, those stocks you hold as dividend-producing investments).

2. Market Performance Since Last Outlook
(“now” figures are as of close Wednesday 10/28/09)

Last Outlook (10/19/09): 9.0 (positive)

S&P 500 last time (10/19/09): 1088
S&P 500 now: 1043 Change: -4%

S&P 500 at beginning of 2009: 903
S&P 500 now: 1043 Change YTD: +16%

S&P 500 at close 3/9/09: 677
S&P 500 now: 1043 Change since 3/9/09: +54%

3. Indicators in Detail

--Conference Board Index of Leading Economic Indicators: New report last Thursday went up for the sixth consecutive month. Positive. +10

--Fed Funds Rate: No change. The Fed Funds rate remains near zero. Positive. +10

--S&P 500 Market Valuation: The S&P 500’s P/E dropped slightly since last time from 19.5 to 19.3, remaining in neutral territory. As a reminder, I use Morningstar as the source for the P/E ratio based on trailing operating earnings, and I use three "bands" by adding and subtracting 10% from the recent-years’ average (19.3) to allow room for normal market volatility and noise. Thus, P/E < 4 =" Positive" 1 =" Neutral"> 21.2 = Negative = 0 points. At 19.3, therefore, this indicator is neutral. +5

--Morningstar’s Market Valuation Graph dropped slightly from 1.03 to 0.99. The graph continues to meander around 1.0 (which would mean the market is “fairly valued” under Morningstar’s system). The value this time stays within the neutral range of 0.90 to 1.10. (Historical data: All-time low = 0.55 on 11/20/08. Value at end of dot-com bear market = 0.78 in 10/02, which kicked off a 5-year bull market. Most recent low of 0.62 coincides with market’s March 9 low. All-time high = 1.14 at the end of 2004.) Neutral. +5

--S&P 500 Short Term Technical Trend: The recent sell-off has pulled the index below both its 20-day and 50-day simple moving averages (SMA), dropping this short-term indicator to ambiguous from positive: 20-day SMA > 50-day SMA > Index. +5

--S&P 500 Medium Term Technical Trend: This indicator, which uses the two longer SMAs (50-day and 200-day) is also rendered ambiguous by the index falling below the 50-day SMA. We have: 50-day SMA > Index > 200-day SMA. +5

--DJIA Short Term Technical Trend: The DJIA shows a little different pattern, as the index is still above the 50-day SMA, although it has dropped below the 20-day SMA. Nevertheless, that makes this chart ambiguous. +5

--DJIA Medium Term Technical Trend: This indicator stays positive, as the index has not fallen below its 50-day SMA. +10

--NASDAQ Short Term Technical Trend: The NASDAQ displays a similar pattern to the S&P 500 chart: The index has fallen below both its 20-day and 50-day SMAs. +5

--NASDAQ Medium Term Technical Trend: Same as S&P 500, ambiguous. +5

TOTAL POINTS: 60 NEW READING: 60 / 10 = 6.0 = POSITIVE