Sunday, June 22, 2014

Week Ahead Magazine: June 22, 2014

Last week continued to see equity markets in the U.S. move higher. All major U.S indices were higher by greater than 1% on the week with the Russell 2000 (small cap) advancing 2.2%. This advance has continued in spite of the often cited complacency evident in the market, vis-à-vis the low level of the VIX, and the lack of a meaningful correction over the past few years. As we noted in a post earlier this week, we do believe the market has entered the "denial stage" from a sentiment perspective.

As our clients know, we eliminated small cap exposure in November of last year due to valuation concerns. And in spite of the strong advance for small company stocks this week, and it has occurred on lower volume, we continue to believe the recent small cap strength is more of a technical bounce than a longer term move higher. As the below chart of the Russell 2000 ETF (IWM) shows, the index is approaching resistance around the 120 level. Additionally, a number of technical indicators like the MACD and stochastic indicators suggest small caps are over bought and may be due for a further move to the downside. Similar technical comments could be made for the S&P 500 Index; however, large cap valuations are not at the stretched level as are small caps.

From The Blog of HORAN Capital Advisors

From an economic data perspective this week, focus will be placed on the final GDP reading on Wednesday. The second reading last month saw GDP for the first quarter revised lower to a negative 1.0%. The consensus estimate for the final reading on Wednesday is -1.8% with a low estimate of -2.4%. Much of the first quarter weakness has been blamed on the severe weather across the U.S this winter.

One article we link to in our week ahead magazine contains a discussion on S&P 500 earnings for the balance of the year. The summary of the article is earnings are improving and accelerating for S&P 500 companies. The article references Factset and Thomson Reuters data relative to S&P 500 earnings estimates, which we follow as well, and the article notes,
  • The year-over-year growth rate of the forward estimate is now 8.60%, once again at a new multi-year high, after dipping slightly last week. The forward growth rate hasn’t been this high since January 13, 2012 when it was 9.4%.
  • ...just looking at the revisions and forward estimates around SP 500 earnings. The fact is, despite the negativity, S&P 500 earnings are growing at mid to high single digits, and starting to improve.
  • For all practical purposes, with the SP 500 at 16(x) forward earnings, and with it becoming increasingly likely that SP 500 earnings growth could hit 10% (easily) this year, p.e expansion to 20(x) that forward estimate wouldn’t be a stretch.
  • John Butters of Factset and now Gregg Harrison of ThomsonReuters have started to write about the lack of downward pressure on the q2 ’14 expected earnings growth rate of 6.6%. That same q2 ’14 estimated growth rate was +8.5% on April 1, 2014.
Certainly, if "feels" as though the market is overdue for some type of correction. However, we know corrections do not occur because they are overdue. A trigger is needed. Ryan Detrick wrote an article on See It Market today, Is Market Sentiment Signaling A Major Peak In Equities?, that provides good insight into market sentiment at this point in the market cycle. Additionally, we do believe company fundamentals are supportive of further stock gains through the balance of the year; however, a pullback would not be a surprise. Below is the link to this week's Week Ahead Magazine that contains articles we hope you find of interest this week.

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