Over the course of the last 6 weeks we have been rather intrigued by the level of commentary on how bearish US equity markets are looking. In addition there have been a number of commentators suggesting that market internals have already broken down. Apart from a break-down in the Dow from a “head and shoulders” formation…..we can see little evidence of broad based weakness in equity markets. Why is everyone so hung up on the Dow? Has the Dow now become the leading indicator for what happens to equity markets in general and has it become a leading indicator for currency markets……commodity markets…..and even bond markets? If it is then it would be a first!
We think that the most significant equity index in the US is the Value Line Arithmetic (and considering that US equity markets represent approx 40% of the value of world equity markets it is probably the most important equity index in the world). Considering that it is an equally weighted index of 1650 stocks it gives a representation of the performance of the “average listed stock” in the US. In so doing it is a respectable proxy for the broad market and gives a very good representation of market internals. Accordingly, if the Value Line starts to breakdown then one should get concerned because it suggests the broad US equity market is in trouble.
From the charts below we can see that the Value Line remains above support and, given its construction, it should come as no surprise that market internal indicators also remain above “support” (namely the Advance Decline Line, New Highs New Lows Index and Moving Average Ratio).
The Value Line’s performance since mid March has been rather impressive, being up some 75% from March 8 to June 1. Overbought? Well of course that depends on your time frame. From a medium term perspective it is only up 18% since the start of the year. As far as we are concerned this is not excessive at all. There is nothing stopping this index from advancing another 20% by year end, it is not unreasonable if the behavior of stock indices in bear markets is anything to go by.
Will the latest bought of weakness in the Value Line extend further? We don’t know but we hope that it does because that will certainly shake all the weak hands out of the market! However, given the level of bearish commentary and “disbelief” in the current rally in equities, the majority of weak hands have probably already been shaken out of the long side and joined the dark side of the force (shorting).
We believe things when we see them, right now (for whatever reason) equity markets remain in a bull trend.
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