Market Direction Mid Week Update©

Market Direction: BULLISH alert issued 11/10/2016

Stock take breather after 2 days of record highs... 

Some market veterans think stocks are at long last due for a meltup.

“We make the case that despite the Fed’s intent, we’re on the verge of being in a melt-up stage, fueled by excessive credit and a timid Fed,” wrote technical analyst Jeff deGraaf, chairman of Renaissance Macro Research, in a Wednesday note.

Longtime market bull Jeffrey Saut, chief investment strategist at Raymond James, on Tuesday argued that the S&P 500 SPX, +0.12% in the wake of a Sept. 25 reversal to the upside, “now appears to be involved in a melt-up.”

The S&P followed that turnaround with a series of fresh records and is up more than 13% so far this year. The Dow Jones Industrial DJIA, +0.09% is up 14.7%. The S&P notched its fifth straight record close Tuesday, albeit with a gain of just 0.1%, matching a streak that ended in February. If the index closes at a record Wednesday, it will mark its longest streak since June 1997.

‘Dramatic and unexpected’

Saut pointed to the Investopedia definition of a meltup as a “dramatic and unexpected” rise in the performance of an asset class driven in part by a stampede of investors who don’t want to miss out on the rise rather than by improvements in fundamentals. Melt-ups are often followed by market drops.

Saut, who noted that Raymond James’s short- and intermediate-term models had turned negative in early August, said the recent rally “was certainly unexpected by us.”

It isn’t so clear, however, whether the rally lacks improving fundamentals given stronger-than-expected economic data, including upgraded gross-domestic-product readings and the fastest manufacturing pace in 13 years, he said in a note.

How melt-ups begin

Others have also attributed recent gains in part to revived optimism over potential corporate tax cuts as the White House and congressional Republicans revive a push for a wide-ranging tax bill.

Whether the market continues to melt up “remains to be seen, but what has happened since a week ago sure resembles how such melt ups begin,” he wrote.

De Graaf, meanwhile, argued that it is the strong data, and what he sees as a behind-the-curve Fed, that is setting the stage for a potential meltup.

He fears that favorable credit conditions are driving asset inflation and points to the gap between the yield on the 2-year Treasury note TMUBMUSD02Y, +0.28% which is near a 10-year high at 1.479%, and the fed-funds rate, which stands at 1% to 1.25% (see chart below).

‘Wrong instrument for wrong device’

Employment data and purchasing managers index readings are at levels that both “generally imply overheating and a Fed aggressively pinching off the excesses with higher rates,” he said. RenMac’s Master Employment Index is now in the 90th to 100th percentile, which is historically negative for S&P 500 forward returns, he said, as it signals the economy is running too hot.

PMI readings are also in the top decile, which also points to a negative impact on S&P returns three and 12 months forward, he said.

But the Fed’s preferred thermostat, inflation, remains in the bottom quartile, he worries.

“That’s a little like judging the heat in a microwave by touching the door,” he said, calling it the “wrong instrument for the wrong device.”

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The all-time highs since our initial recommendation to go LONG this market. Here is how the markets have performed:

Stock Market Direction Recommendation (9/21/2017)
Dow	up 326.71 points a 1.46% gain	10/4/17
Nasdaq	up 123.77 points a 1.93% gain	10/4/17
S&P 500	up 39.93 points a 1.60% gain	10/4/17

Related Link: http://www.stockmarket-direction.com/