After a strong bear market rally since March 9, world markets are looking pretty overbought. Not that they cannot continue overbought a while longer, but the probability of the next downside test is growing daily. Much of the recent fervour has been optimism about carefully dressed bank earnings which seem better than had been expected for Q1. But credit issues still loom and lasting health has not yet been restored to our financial institutions.
Lest anyone forget, so far we are still in a cyclical bear market, within a long secular bear market, and so defensive action is still key. Peeling off profits from big rallies is always prudent action in this type of market cycle. When markets are able to punch through the overhead of their 200 day moving averages with sufficient force, it will be a bullish sign for the next leg up. But in the meantime, we can't go broke taking profits and after an incredibly volatile first quarter 2009, we are grateful to take them.
As far as the next downside test goes, it is possible that markets could bounce somewhere around the November lows and not have to fall all the way back to the March 9 lows; only time will tell.
In the meantime, two charts offer ominous clouds to passionate bulls here. First is the fact that as of April 89% of stocks in the S&P 500 are trading above their 50-day moving average. This type of overbought reading has a historical precedent of setting up corrective pull backs.
And although sell in May is generally too trite to use as an effective timing rule in general, during other secular bear periods like the one we are in, negative returns in the May to November period have more historical weight.
Cory’s Chart Corner
“An explosive critique about the investment industry: provocative and well worth reading.”
“Juggling Dynamite, #1 pick for best new books about money and markets.”
“Park manages to not only explain finances well for the average person, she also manages to entertain and educate, while cutting through the clutter of information she knows every investor faces.”