February Outlook: Bullish 2018 Forecast on Track, January Trifecta In Play – This Is Not 1987
By: Jeffrey A. Hirsch & Christopher Mistal
January 25, 2018
Incoming economic and corporate data readings along with the positive reception to the new tax law on Wall Street and in boardrooms across the country have conspired to keep our more bullish 2018 forecast scenarios from last month on track. Positive readings from the first two legs of our January Indicator Trifecta lend further support to our positive outlook for 2018. However, many have latched onto the notion that due to the fact that the market is off to its best start since 1987, something ominous is on the horizon – this is not 1987.
Since December 21 when our forecast best-case scenario put DJIA 29,000 in the cards, DJIA is up 6.6% in just five weeks and now just 9.0% away from 29K. But we are still a far cry from the 13+% gains we had at this time in 1987 and for the full month of January 1987. In fact, as we detailed in yesterday’s blog post, the vast majority of big January gains were followed by great years. So as we sit here in the midst of the Best Six Months following the positive vibrations of great Worst Six Months, improving fundamental data, upbeat corporate guidance, and technical market momentum gives us further conviction that our bullish outlook remains prudent for this year. 
Midterm Februarys are more bullish than then usual and March remains strong in midterm years as well. April, May and June are weaker in midterm years, so we suspect this rally to continue higher for a bit more before we run into any meaningful pullback. While we are always on the lookout for cracks in the market’s bullish veneer and prepared to make adjustments to our outlook should any breakdowns in the date suggest the party is over, we don’t expect anything unfavorable until the end of the Best Six Months.
Comments and actions from CEOs have been optimistic, constructive and bullish on how the new tax legislation will fall nicely to their bottom lines. They have already been putting more money in the pockets of their employees and upping earnings outlooks. Some of the praise from bigtime, mainstream business moguls has been unexpectedly lavish. 
Spending is up, earnings are forecasted to rise and the economy is gathering momentum. Most impressively the economy is growing more on its own two feet now, healthily digesting the interest rate tightening and the reduction in the Fed’s massive balance sheet. Workers are coming back to the labor force, yet unemployment remains in check and historically low. A bit of healthy inflation is starting to perk up as well. 
There has been some concern expressed about high price-earnings (PE) valuations and excessive bullish sentiment. PEs can come down in one of two ways. Stock prices can come down or earnings can rise. From what we have been hearing from CEOs it sounds like they are expecting an increase in earnings. As for contrary bullish sentiment indicators, history has taught us that high bullish sentiment can stay high for quite a while and longer than most bears can stay short and it’s only indicative when it takes a sharp turn lower.
There is also a great deal of cash on the sidelines. BlackRock CEO Larry Fink relates in his recent Davos interview (jump to the minute 4:30-5:30 mark), that as this large amount of cash comes back into this bull market it will provide more momentum. Finally, let’s not forget that the eighth year of decades boasts the second best record next to 5th years in the past thirteen decades with an average 14.5% gain for DJIA, 2008 notwithstanding. So, while we remain rather bullish for the near term and 2018 as a whole, we do expect some mild pullback in the Worst Six Months and remain prudent and ready to make our regular adjustments based on our calendar rules and tactical market signals.
Pulse of the Market
Although there are four more trading days remaining in the month, January 2018 has already solidified itself in history. DJIA has closed above 25000 and 26000 (1), was up 6.2% and gained 1532.90 points as of its January 24 close. Even if DJIA were to gain no further, January 2018 would rank as the best monthly point gain on record. Based upon percent gain, DJIA’s January performance is solid, but well short of the 14.4% it gained in January 1976.
Since issuing our Seasonal MACD Buy signal in November, DJIA’s faster and slower MACD indicators briefly turned negative in late December, but they are once again stretched (2). Should DJIA’s momentum falter for any extended period of time, MACD indicators would likely turn negative again. Any such weakness would likely be an opportunity to add to existing positions as half of the “Best Months” still remains.
DJIA (3) and S&P 500 (4) have had just one declining week since the last week of November. The single declining week was the last week of 2017 and the only reason the week was a loser was because of losses on the last trading day of the year. NASDAQ (5) was weaker over the same time period, recording three weekly losses. Tech was not spared from last-trading-day of 2017 bearishness nor did it avoid December’s first half weakness. Following three straight weeks of gains to start 2018, market momentum is beginning to wane. DJIA, S&P 500 and NASDAQ are currently on course for a flat finish this week.
NYSE Weekly Advancers and Decliners data has also softened (6). The robust advantage held by Advancers at the start of the year has faded to Decliners outnumbering Advancers last week. This suggests fewer and fewer stocks are participating in the rally and another brief period of consolidation will be the market’s next move. 
New Highs and New Lows (7) are also giving mixed signals. New Highs may have peaked during the second week of January while New Lows have been expanding the entire month. This could simply be traders and investors dumping lagging positions in interest rate and defensive sectors in favor of those most likely to benefit from accelerating growth and tax reform or confirmation that participation in the rally is fading. Most likely it is a little bit of both. Ideally, look for an increasing number of New Highs and a declining number of New Lows.
Short-term interest rates (8) continue to march higher in anticipation that the Fed will be raising rates again. Longer-term rates have begun to move modestly higher, but the 30-year Treasury bond remains under 3%. Interest rates may no longer be at record lows, but they still remain low based upon historical ranges.
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[Pulse of the Market Table]