Technicals Suggest Positive Market Environment - Butler Financial, LTD
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Technicals Suggest Positive Market Environment

Mike Gibbs, Managing Director of Equity Portfolio & Technical Strategy, comments on the recent equity rally and market conditions moving into 2017.

November 23, 2016

The S&P 500 has rallied to a new all‐time high as it gained 5.5% from the pre‐election low on February 4, 2016. The general tone of the equity market should remain positive due to seasonal factors and investor perception that fiscal stimulus (tax cuts and infrastructure spending) will enhance economic growth in 2017 and 2018. Despite the expected positive tone, we are reluctant to pencil in substantially higher equity prices in the near term with technical internals currently in overbought areas. For this reason, we suggest investors buy pullbacks or consolidation periods for the extended sectors (financials, industrials, and materials) or choose from sectors left behind in the recent move (technology).

As 2017 progresses, we expect a generally higher equity market but not one without periods of weakness. There are simply too many unknowns. Fiscal stimulus is likely, but to what degree and how soon it will be implemented will be left to debate. The impact on the budget deficit and debt levels may result in a lesser package than investors currently expect. Infrastructure spending will take time to implement, meaning the impact will not be realized until late 2017 or into 2018. Most are comfortable that candidate Trump and President Trump are likely to be two very different people, but such an outcome is not 100% certain. Any rise in protectionism could undo some of the positive impacts of fiscal policy. Additionally, at this point of the economic cycle, infrastructure spending has the potential to be inflationary, which in turn may cause a more aggressive tightening stance on the part of the Fed. Such action on the part of the Fed could in itself undermine growth. In sum, we are constructive on the market and that enough positive steps will be taken, but believe adopting an unbridled bullish position is unwarranted.

Technical backdrop suggests a positive environment. The rally off the 200 day moving average (reached on November 4, 2016) has been impressive, and in the process, key levels of overhead resistance were overcome. During the rally, all the major indexes managed to reach new highs. The small caps led the rally in a sign of a risk‐on appetite. Even the lagging transportation sector posted an impressive breakout. The sector remains just 4.6% below an all‐time high. When the S&P 500 last posted a new high in July, the transports remained 21% below their all‐time high. After such a broad based move for the overall market, the odds are elevated for a positive environment in the coming weeks and beyond.

Technical internals have reached overbought areas in recent days. For this reason, the market may stall in the near term. But due to the broadbased strength during the rally, we would not bet on the internals moving down to oversold areas anytime soon. In strong technical moves, it is not unusual for the indicator to remain in overbought areas for an extended period of time. In such an environment, rolling pullbacks at the sector level or with individual stocks are likely. We suggest investors take advantage of any dislocation that develops.

Opinions expressed are those of the author and are subject to change. Past performance may not be indicative of future results. There is no assurance any of the trends mentioned will continue or any forecasts will occur. Investing involves risks including the possible loss of capital. Information provided is general in nature and is not a complete statement of all information necessary for making an investment decision. Asset allocation and diversification do not guarantee a profit nor protect against a loss. The S&P 500 is an unmanaged index of 500 widely held stocks.

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