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By: Chris Rowe — April 12, 2010

Here's Why We're Bullish...

Many people have a hard time identifying whether they are in a market that's overextended, and they sell too early.  When you're caught up in the moment, it can be difficult to know if you're caught up in some empty hype, as we've all learned so many times by reviewing past situations in hindsight.

So one of the first things we focus on when we want to "check" ourselves is the "market sentiment" situation. 

Asking Yourself:  'Am I CRAZY?'

There are many market sentiment indicators, but today let's just consider the "Advisors Sentiment Indicator" -- which you may already know about, but in case you don't -- it's a reading from a poll taken by Investors Intelligence where they ask over 200 investment advisors and/or newsletter writers whether they are "bullish", "bearish" or they are bullish but waiting on the sidelines so that they can buy on the cheap on the next market correction. 

 

This poll has a great track record that I've studied and wrote about in depth, and that I've used to make myself and others millions by following. 

When over 55% of those polled are bullish, it's considered excessive and it signals that we are likely at or near a market top.  However, I sometimes start to perk up and keep my eyes peeled when the reading is a bit over 50 -- depending on the type of market we are in. 

Last time this weekly poll was taken, 48.9% of those polled were bullish.  We are getting pretty close to 50, and that means we may be getting neat "overcrowded trade" territory.  For some extra context, at the January 2010 top, a high that the equity markets have since advanced well above, 53.4% of those polled were bullish.  Thus, we don't simply exit bullish positions like crazy here, but we should probably start making a few bearish trades to hedge in case of a decline.  At the same time we might reduce our bullish exposure.
 


Familiarity = Confidence

So far this year it's pretty much been a "run of the mill" market, and that, above all, is what gives traders and investors the confidence to keep on buying. 

For example, seasonal trends and patterns have been and currently are in play.  April, this month, has a record for typically being a very strong month for the Dow-30 (30 large-cap and mega-cap stocks).  But this year we are also seeing small-caps and mid-caps both outperforming the large and mega-caps, as all four sized groups advance, a trend that began at the beginning of December 2009. 

  • Mega-cap: Over $200 billion
  • Large-cap: $10 billion–$200 billion
  • Mid-cap: $2 billion–$10 billion
  • Small-cap: $300 million–$2 billion

All Sizes Keep Growing

That trend relates to a rule of thumb for traders, saying the internal market (breadth) tends to lead the market higher.  That means that the smaller stocks -- in terms of market-cap -- tend to reverse trends before larger market-cap stocks (which have the most influence on the major indices) reverse their trend.  The fact that the smaller stocks have led the way is a sign of normalcy and of a rally likely to stay in place for the time being.

When you see internals (the majority of stocks) moving in the same direction as the big stocks, it's a confirmation of the bull market's strength. 

Almost ALL Sectors Pushing Higher

Another way to gauge how strong a move is, is to look at how many different sectors are participating in the advance.  You also want to see some leadership from one or two sectors.

Most of the different sectors in the market today have been participating and continue moving higher, but not exactly one or two showing real leadership.  They are moving surprisingly in lockstep.  In fact, believe it or not, only 3 Sector Hunter sectors are showing supply being in control.   (Sector Hunter breaks down the general stock market into 42 groups.) 

So with the exception of "Oil & Coal", "Oil Service" and "Utility Gas", the most recent trend in every single sector is that a larger and larger number of stocks in the group are moving to buy signals (breaking key resistance levels -- a feat that proves demand is able to overcome supply).  
 

Bull Market Fuel

So the markets are comfortable right now, but approaching what's viewed as being "dangerously comfortable". 

Never lose sight of the fact that the most important thing to a bullish stock market is that investors have some sort of clarity, but to "feed the beast" the market should also have some sort of volatile situation (drama) to trade off of.  

You might remember the end of 2006 - early 2007 (green rectangle below) when analysts were sighting many records being broken regarding "overcomplacency".  The fact that the market hadn't traded without at least a 5% correction for such a long period of time in over 50 years was one stat being floated around that I can recall off of the top of my head. 

You can see below how the stock market's "Fear Gauge" -- the VIX -- moved to an extremely low level (breaking records) for an abnormally long time while the stock market advanced without interruption for the same length of time. 

What am I getting at?

At the time, investors felt they had that ever-important "market clarity", but the problem with that time frame was the market didn't have any kind of drama to trade off of.  That meant that there was no real reason for the "weak" investors to get shaken out of the market.  And that creates this sort of "pot hole" in the middle of the road.  That pothole was seen in the final trading days of February when the market tanked by over 4% in a single day!  (A move that -- at the time -- was considered massive volatility.)  

I know you're probably tired of hearing about Greece by now.  I know I am.  But you should be happy the story is there if you are playing the bull market in the U.S..  That's because it has been a big help to the strength of this market.  It's like finding a stock to trade that constantly trades up and down between $25 and $30 like clockwork.  In the case of the Greece situation, over and over again the story has been that the sky is falling and the financial world might end, and then back to everything being okay.  Over and over again the thunder roared, followed by the clouds parting and so on. 

That constant doom and gloom followed by champagne bottles popping reminded me of a 7 year relationship I had in my late teens - early 20s.  The drama and volatility keeps the fuel pumping into each situation in similar ways.

Does The Bull Have Legs?

The weak dollar had been one of the bullish influences on the U.S. stock market.  And if you recall, the dollar had, since November, been advancing -- even though the market continued to charge higher in the face of that.  I have been writing and saying to everyone that, given the strength of the market in the face of an advancing dollar, I wondered what would happen to the stock market's "weighted down advance" if the dollar strength finally reversed its advance again. 

And now that might just be what we are seeing here.  Now that the Greece situation is seeing more and more clarity and confidence (more detail on a eurozone/IMF aid/bailout) the advance in the euro has been having an inverse affect on the U.S. dollar index.  With the U.S. dollar strength stepping out of the stock market's way, as the euro advances and the global appetite for risk increases, the dollar just might decline, adding fuel to the bullish fire. 

Look at the chart below of the U.S. dollar.  You can see the 50-day moving average has been a key resistance line in down trends, and a key support level in up trends (green arrows).  So what you want to look for, in the case of spotting a dollar bearish reversal, is for the dollar index to start finding resistance at the 50-day EMA.  You can already see there is a 3-part negative divergence between the dollar (making higher highs) while the RSI at the bottom makes lower highs.

If the dollar finds resistance at the 50-day MA, you'll want to be bullish on commodities, but be cautious on many other segments of the market.  The specifics of what to trade will be made available to you if you're a member of one of our trading services.  But if you are a reader of our free daily newsletter, Tycoon U's: The Tycoon Report, then you probably get the general idea by now. 

Exercise caution ahead of earnings season and trade carefully. 

There are many dangerous cards still in the deck for the remainder of this year -- many of you are learning about them, and how to play them, in Teeka's free "Train Wreck" webinar series.  There's no telling when we will draw on these cards next, but if you're bullish today, one way or another, you have the wind at your sails.  Whether you agree with me or disagree, I would love to hear your feedback in the comment section below.

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