TSP Talk – 08/11/12

Stocks continue to move up

The S&P 500 (C-fund) closed up on Friday for a sixth consecutive positive day. Some of those days were very small gains, but the bears have not been able to put up a red number in the S&P since August 2. Now the stock market is facing some resistance and overbought conditions so next week could be a challenge.

Here are the TSP fund returns for the week of August 6 through August 10.

The S&P 500 has been hugging the upper resistance line of the rising wedge pattern. Many bears were expecting this chart to move down to the lower end of the wedge last week, following the up and down pattern within the rising trend, but as you can see it has remained buoyant.

Chart provided courtesy of www.decisionpoint.com, analysis by TSP Talk

Back to the chart, the S&P 500 has created an interesting formation. This could be a bull flag, which is bullish for stocks, but bull flags generally see the flag portion moving slightly lower before breaking out to the upside.

Instead of a flag, we may have a flat top, which is more bearish and tends to break down.

Chart provided courtesy of www.decisionpoint.com, analysis by TSP Talk

The market leader is, the economically sensitive Dow Transportation Index, is not moving in the same direction as the broader market. Instead it has struggled to move above resistance, and unlike the resistance on the S&P 500, this resistance is moving downward. It is a red flag for stocks when the market leader is moving down.

Chart provided courtesy of www.decisionpoint.com, analysis by TSP Talk

We do a weekly survey on TSP Talk to gauge the sentiment of investors and despite the stock indices reaching up near highs, sentiment has been surprisingly quite bearish (negative). 36% of those surveys said they were bullish, meaning they expect the market to go higher, while 52% said they thought the market was going to go lower. That is a very high ratio of bears and sentiment, at extreme levels, is a contrarian indicator. This is a pretty extreme bearish reading and I believe this is part of the reason why the stock market has been resilient.

Since this weekly wrap up goes out to a few other websites, not everyone reading may understand the concept of how sentiment works as a contrarian indicator, so let me give an extreme example to show why excessive bearishness could be bullish for stocks.

The stock market is a market where buyers and sellers come together and when they agree on a price, a buyer pays the seller for a stock, commodity, etc.

Let’s say we survey 100 people asking if they think that stock ABC, which is priced at $10, is going to go up (bullish) or down (bearish), and all 100 said they think it is going down. That couldn’t be any more bullish for the stock going forward. Why? Because if everyone is bearish they probably all already sold it. There is no one left to sell. If no one is selling, there’s no one left to push the price down, and there are now 100 potential buyers at $10.

The opposite is true as well. If all 100 believe the stock is going higher, they all probably already own the stock and there is no one left to buy and stocks can only go down if no one is buying. Value doesn’t mean anything in a market. It is only what someone is willing to pay.

I have to admit I am leaning with the majority that I believe the market is due for a pullback, but as we said, being on the side of the large majority in the stock market is not usually the correct analysis. We’ll have to see how this plays out.

Good luck, and thanks for reading. We will be back here next week with another TSP Wrap Up.

Tom Crowley
Weekly Wrap-Ups Archive
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