The Delta Market Sentiment Indicator is solidly bullish at 70.4%. The stock market has grown technically stronger over the past three weeks yet is showing few signs of being overbought. Hedge fund net long exposure is near 50%. The major equity indices saw new highs again this week. Since April 19, the longest sell-off has lasted just one day. Losing days have only occurred four times in the past twenty trading sessions.
Leading indicators, Michigan consumer sentiment, building permits and retail sales were all better than expected. Corporate earnings and profit margins are near all-time highs, interest rates and borrowing costs are near all-time lows, and the government’s measurement of inflation is negligible. Furthermore, the Federal Reserve has assured investors that short-term interest rates will remain near zero well into 2014, and that it will continue to purchase $85 billion of mortgage-backed and Treasury securities indefinitely. From this perspective, the investment landscape appears bullish.
We just returned from the MoneyShow in Las Vegas. Several professional investors we met with expressed concern that it appears there is a decoupling between Main Street and Wall Street. While the stock market is booming, the real economy continues to struggle with high underemployment, less-than-expected corporate growth forecasts and little real business investment.
Bloomberg reports a U.S. Macro Economic Surprise index which measures actual reports relative to expectations. The Bloomberg index shows significant deterioration (increasing pace of negative economic surprises) while the S&P 500 is accelerating to new all-time highs. This appears to be an important disconnect.
There are always reasons to believe the stock market is on the cusp of a major pull-back. While valuations and sentiment are not extended, it is quite possible stocks have priced in a better economic climate than what may actually be occurring in the real economy. Stocks do not go up in a straight line forever.
We are in the 23rd week of the current bullish cycle which began on December 14, 2012. The average bullish cycle over the past forty years has been 22 weeks. Given the extended duration of this cycle, we have been harvesting profits rather than establishing new positions.
Earlier today, we closed our September 18 Charles Schwab (SCHW) calls for $1.80. We opened this position on March 7 at $1.05. Last week, we closed Healthcare Trust of America (HTA) and Liberty Interactive (LINTA) call options with significant gains. We now have no open positions. We will look to increase exposure on a market pullback.
Review of Positions
Charles Schwab (SCHW) – On March 7, we recommended to buy to open the SCHW Sep 18 Calls (SCHW130921C000018000) for $1.05 or less. We closed this position today for $1.80.
Parting Shot: Market Sentiment Indicator
Shown below is our MSI (blue line) superimposed on the equal weighted S&P 500 measured by the ETF (RSP). We are bullish on the stock market when the MSI is above the 50% mark and bearish when it is below.
The scale for the MSI is on the left hand y-axis. The MSI has increased from 64.2% to 70.4% last week. With the MSI bullish in the intermediate term, we will look to increase long exposure on pullbacks.
Have a great week trading,
Nick Atkeson and Andrew Houghton
Big Money Options