Stocks begin new year higher, but is the stock market still a leading indicator?

The stock market started off the new year with a continuation of the overall uptrend that has been in place for the last several months. According to the Stock Trader’s Almanac the first five days of January are followed by full year gains with an accuracy of 86% and an average gain of over 13% over the past 36 years. But then they also say that in mid-term election years that accuracy rate is cut down to about the same as a coin flip. I don’t put much weight to any indicator that tries to predict the future. I would rather try to interpret what the market is trying to communicate during it’s process of trying to establish value. But these stats are interesting to watch, but they has as much relevance as the Super Bowl indicator or moon cycles.

It is interesting to see how volume has been generally declining on price advances. The last couple of weeks of the year usually do display contracting volume, but the first five trading days of the new year didn’t really cause much enthusiasm as viewed by volume. The above chart is of the S&P etf with its volume, but the other volume measures on all the indexes show about the same pattern. There was a bit of an uptick in volume today on a down market. It appears this market has been relentless on the upside for many months, and possible all the bullets have been used up for now.

There are times when price action and the political and fundamental backdrop are in sync, and there are times when the market just doesn’t seem to make sense. The current uptrend seems to me to be one of the times that doesn’t seem logical. It is a truism on Wall Street that markets discount the future. This makes sense. The market doesn’t care so much about the past. It is forward looking and tries to discount what it sees down the road. But does it really do such a good job at establishing logical value to events or conditions six or twelve months into the future?

First, it is important to view the market not as some sort of disconnected supreme being, but rather as a collection of real people, some not so smart, making many different trading decisions, with many different trading perspectives and goals and time frames. The market is very efficient at determining what is a fair price at any given moment. But that price is not always a fair assessment of value. In fact it is often way off the mark. Trends can start at the slightest hint of some bullish or bearish development, and those trends can take on a life of their own. Many large funds use trading models that look for these trends and will jump on board. Often these trends go far past any logical connection to the trigger that started them, and they often seem unstoppable as more and more traders pile on. I thought we were at that point in the gold market recently, and it appears the same condition might be happening in the stock market presently. One difference I see between gold and stocks is that the fundamentals in gold seem solid and long lasting. It was just sentiment and too much price movement too fast that turned me cautious. However, the stock market seems divorced from economic conditions.

So is the stock market seeing something down the road? In previous posts I presented one possible explanation. It seems that there is an inverse relationship of the stock market to the job approval of the current administration as well as congress. If the health care debate continues to lose public support, and if those politicians who vote for it will be voted out of office later this year, then the socialist policies of Obama will be much more difficult to inflict. But then again turning over control of either or both branches of congress to republicans may not help matters much. I would rather throw them all out and start over. But that won’t hapeen. But a change would at least render impotent the massive swing to the left, which left unchecked would be as difficult to undo as removing cancer. But then I do have a political bias against this administration and its policies which I realize influence my stock market views. So maybe the stock market isn’t really looking at the future direction of politics. Maybe it is really just dominated by those seeking trends and momentum. It might be that it is as simple as there being a pile of cash looking for a place to go in an environment with essentially zero short-term interest rates, and longer term rates not much better with much risk.

But the question remains as to whether the market is actually seeing conditions in the future that justify such a continued one-directional up market. Looking back at several previous price trends and their eventual demise, and then correlating those trends on a timeline with the fundamentals, I would say the markets have done quite a poor job of discounting the future. It is of course not sensible to expect the markets to be able to forecast a black swan event, but I would have thought the market would have been able to foresee the collapse of the real estate bubble and the inevitable credit problems to follow. The stock market seemed oblivious as trouble was brewing. There are numerous similar examples over the past several years. In studying many bubbles and busts in stocks as well as many commodity markets, it would seem that the perpetuation of a trend taking on a life of its own, is a more powerful force than impending changes in the fundamental, economic, and political backdrop. This seems to be the case more and more over that past 25 years or so. Maybe the more widespread use of technical analysis has enabled this phenomenon. It appears the markets are becoming more of a lagging indicator, and not really discounting anything.

One thought on “Stocks begin new year higher, but is the stock market still a leading indicator?

  1. Hi Mr. Tucker
    I love your blog…
    there is so much trueness in what you say…
    the funny thing for me is, as a full time trader, every time I read your blog is like hearing my talking…
    Keep going man…great job !

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