Dow tags 18,000. Now what?
What a difference a week makes.
Last Tuesday, a gloom had come over Wall Street as an intense bout of selling threatened to undermine the typical December Santa Claus rally that makes investors cheer nearly every year. Today, the Dow Jones industrial average crossed the 18,000 level for the first time ever and is in the midst of a five-day winning streak, up nearly 1,000 points over this time. The blue-chip index closed on Tuesday at 18,024, another record high.
December is, historically, the single best month for large-cap stocks. But the collapse in crude oil prices was raising concerns about the health of U.S. energy companies -- many of which are heavily indebted and rely on high oil prices -- and what impact tumbling oil would have on things like corporate profits and investment spending.
But all that was washed away last Wednesday when the Federal Reserve pledged to be "patient" with the pace and timing of its interest rate hikes in 2015. That sounded the all clear, forced shorts to cover and pushed stocks into one of the best rebounds in market history. The Dow is up 5.6 percent over the past five days. Such a run hasn't been seen since late 2011.
Moreover, this comes hot on the heels of an impressive rally out of the October low, which featured 29 days straight by the S&P 500 closing above its five-day moving average -- something that has never happened before. Tuesday saw another record-high close for the S&P as well, ending at 2,082. It's been all about consistency lately.
While the halving of energy prices since the summer could, eventually, have negative consequences for the corporate sector and maybe even the high-yield bond market, for now the narrative is focusing on the positives. Such as the tailwind to consumers from lower gas prices (with Credit Suisse estimating the average family will enjoy an extra $1,000 in purchasing power on an annual basis) and some blowout economic data, including the November jobs report (321,000 jobs created, most since January 2012) and the third-quarter GDP report (5 percent annualized growth, the best performance since 2003).
Technically, while the Dow is pushing into unexplored territory, the majority of the stock market remains within the confines of a large trading range going back to the surge seen ahead of the Independence Day holiday break, as shown in the chart above of the broad NYSE Composite Index.
The question is: What comes next?
From a technical perspective, market internals suggest insiders are more apprehensive than the Dow's rise suggests. The bulls are taking advantage of very quiet pre-holiday trading to move the market via a relatively narrow group of stocks. Just 74 percent of the stocks in the S&P 500 are in uptrends vs. nearly 85 percent back in July.
What's more, the positive seasonality is about to end. According to the folks at SentimenTrader, the CBOE Volatility Index (VIX) -- known as Wall Street's "fear gauge" -- has increased only four times in 28 years in the two days ahead of the Christmas break. But from the close on the day before Christmas to the end of the year, the VIX jumped 24 out of 28 times for an average gain of nearly 9 percent.
And from a fundamental perspective, stocks are a nearing levels that many brokerage analysts had penciled in for their year-end 2015 targets amid expectations of a tougher profit environment and full price-to-earnings valuations. Jonathan Glionna at Barclays Capital is looking for 2,100 on the S&P 500 -- just 0.7 percent above current levels on expectations of modest earnings growth next year.
At the same time, overall S&P 500 forward earnings revisions are being marked down at a pace that, historically, has been associated with recessions.
Watch for a return of the downside pressure starting on Friday as the market starts to realize that a number of difficult headwinds await in 2015, from the hit to energy sector earnings from lower crude oil to the realization that, for the first time since 2006, the Fed is about to start raising interest rates.
Spooked by the sell-off in early December, retail investors pulled money out of equity mutual funds on a scale not seen since the late 2011 market correction. You have to go back to the bear market terror of 2008 to see another example of selling intensity on this scale. Moreover, the VIX remains above its early December lows in a clear signal that professional options traders feel the need to pay up for portfolio "insurance" against renewed weakness.
After Santa exits the stage on Wall Street it could be time to trade your party hat for a hard hat.
