Even though the stock market had an impressive reversal last Friday, many stock investors and traders have avoided buying stocks ahead of January's CPI report, released yesterday. Fears that the CPI number would be higher than expected had some convinced that last week’s market selling could resume.
The January CPI came in at +0.5%, higher than the consensus estimate was +0.3%. In the first 30 minutes after the report, S&P futures dropped from 2675 to a low of 2627. By the time the market opened in New York, the S&P futures were back to 2645 and closed Wednesday at 2696.
Those who didn't buy before Wednesday’s CPI report may have missed an important market bottom. I have frequently cautioned investors that it is a mistake to stay out of the market or take any investment action based on a few economic reports, much less a single data point. Unfortunately, it has happened many times during this bull market. I would argue that one should instead follow the trend of the economic indicators.
During the market decline in early 2016, crashing crude oil prices and a slowdown in China had some concerned about the health of the global economy. A January 26, 2016 CNN headline, “U.S. recession cries get louder," expressed the sentiment of many economists and some Wall Street strategists. However, many economic indicators had been declining for several months, including one of my favorites, the Conference Board’s Leading Economic Index. The LEI has an excellent record of topping out before the start of a recession.
In an earlier Forbes article, “A Technical Look At Fundamentals,” I discussed the recent history of the Leading Economic Index. “The LEI plunged in late 2007 and early 2008 as the uptrend, line a, was broken. In the spring of 2009, both the LEI and CEI [Coincidence Economic Index] had started to improve. By later in the year, both were in clear uptrends. Both lines are still rising though the LEI is well below the highs from 2006.”
By 2015, the LEI made a new high all-time high, which was positive from a technical standpoint. The LEI declined in December 2015 into January 2016, but then rose slightly in February. The new high earlier in 2015 meant that the pullback in late 2015 and early 2016 was just a normal pause in the uptrend. My technical analysis of economic data relies on monitoring levels of support and resistance, as well as trend lines. Therefore, each monthly report should be viewed in context of the previous reports and overall trend, not as this week's reason to panic.
There are a number of economic indicators I find useful. The Consumer Confidence Index (CCI) from OECD.org “is based is based on households' plans for major purchases and their economic situation, both currently and their expectations for the immediate future.” In 2014, the CCI broke its downtrend from the peak in 2000 and the 2007 high.
The chart shows that it traced out a normal corrective pattern, also known as a flag formation, (lines a and b) from April 2015 until October 2016. The fact that it held well above the late-2014 low on this pullback was a positive sign that the rising trend was intact. The CCI has accelerated to the upside since completing its correction, which is consistent with the current strong economic growth.
In last week’s article, “Are The Wall Street Strategists Finally Right?”, I discussed the technical evidence that suggests the worst of the selling could be over. I raised the possibility that we could see a rare V-shaped stock market bottom. Specifically I thought that “If there is going to be a V-shaped bottom, we should see a rapid rebound early this week with a strong close on Friday.”
The strong global market action early Monday increased the likelihood of a V-shaped bottom, and warranted new ETF and stock buying on Monday's open. As of Wednesday’s close, the Spyder Trust (SPY) is up 3% for the week and even the beaten-down small cap iShares Russell 2000 (IWM) has gained 3%.
The PowerShares QQQ Trust (QQQ) was up 1.9% on Wednesday and closed on the highs as volume was 25% above the average. The fact that it closed last Friday back above its quarterly pivot level at $153.15 was a sign of strength.
The daily Nasdaq 100 A/D line has rallied sharply after testing the support (line a) last week and is now back above its WMA. This means that the correction is likely over. This makes it more likely that most of the major averages will close the week higher. I will be posting a full technical review of the key markets on Saturday.