The test is over. And the stock market rally has passed.
On November 16, the Standard & Poor’s 500 and the NASDAQ 100 both joined the Dow Jones Industrials in setting new recovery highs.
In other words all three indexes have busted out of the trading range of 1025 to 1098 on the S&P 500 that had threatened to keep stocks locked up in a narrow band for more than a month after that October low.
On November 16, the Standard & Poor’s 500 closed at 1109, well above the 1098 high set on October 19. The Dow Jones Industrials closed at 10407. The Dow Industrial Average hasn’t been that high since October 2008. The NASDAQ 100 closed at 2198, a level that index hasn’t seen since November 2007.
On November 12 I wrote that the market would either break above 1098 on the S&P, signaling that we were headed for a new recovery high and that the rally was alive and well or fail the test and sink back toward the lows at 1025. When the market is in a rally each high will be higher than the one before and each low will be at a higher level too.
So the action of the last few days says that this rally still has a way to run. How far?
As far as I’ve written repeatedly lately as the flood of global liquidity, borrowed dollars flowing into commodities, and a falling U.S. dollar can take it.
Through the end of the year certainly and probably deep into the first half of 2010.
The only things that could derail the rally at this point are an interest rate increase from the Federal Reserve that drove up the price of the U.S. dollar, believable promises from developed economy central banks that they are going to remove stimulus funds from the economy, or convincing evidence that the global economy—or at least a handful of the economies that count such as China, the United States, India and Germany—were growing much, much more slowly than anyone had projected.
Any of those three events is possible. But each of them would take time to develop into a convincing argument for selling.
One thing to note about this stage of the rally: It’s being led by large cap stocks. Indexes that represent smaller companies than the Dow, the S&P, or the NASDAQ 100 such as the Russell 2000 or the NASDAQ Composite have lagged in this latest stage of the rally after leading the market upwards earlier in the year.
I’m not exactly sure what that means. Since big company stocks lagged earlier in the rally they are relatively cheaper now than small cap stocks. Maybe the recent outperformance of big company stocks is just an example of investors seeking relative value.
Or maybe it’s a precursor of end of the year window dressing. If a lot of big institutional investors have finally decided that they have to be more fully invested by the end of the year, big caps are a likely beneficiary. If you need to put billions to work you buy ExxonMobil (XOM) or McDonald’s (MCD) rather than 25 smaller stocks that can’t absorb more than a few tens of millions without soaring out of buying range.
I think this rally continues to have legs. It is worth investing in or staying invested in.
But don’t forget that this rally hangs on two assumptions. First, that the global economic recovery has gained enough momentum that it will be sustainable in 2010. No back sliding into a double-dip recession. And second, that none of the world’s significant central banks is going to start tightening money supply until way into 2010 at the earliest.
Neither of those is guaranteed.