Stocks flirt with records despite disappointing reports

It was another day of dichotomies on Monday as stocks surged, pushing the S&P 500 to new record highs (before giving a little back into the close), despite growing evidence that U.S. economic growth is stalling.

Two dynamics appeared to be in play.

The first was the classic "bad-news-is-good-news" relationship in the face of poor economic data. Today, it was two soft regional Federal Reserve manufacturing surveys and a low reading on Markit's flash services activity index. These downers reinforced the hope that the Federal Reserve will be forced to respond at its March policy meeting.

The expectation is that policymakers will hold off on additional cuts to its ongoing $65 billion "QE3" bond purchase program (down from $85 billion a few months ago) and/or extend their promise to hold short-term interest rates near zero percent (where they've been since late 2008).

The second relates to movements in the currency market. As I've discussed before, a major drive of the stock market lately has been gains in what's known as the yen carry trade -- a pairs trade that sees hedge fund types sell the Japanese yen short against currencies such as the euro, the U.S. dollar or the Australian dollar. That raises capital that is then used to buy stocks and bonds.

Today, the Aussie dollar/yen pair surged 0.6 percent, boosting carry trades in those currencies.

In the process, a number of stocks posted impressive breakouts particularly in the energy sector. Examples include ConocoPhilips (COP), which enjoyed an upside break out of a downtrend pattern going back to October. I recommended a call option position in COP to clients in response.

Precious metals also continue to push higher as the bad-news-is-good-news dynamic brings forward the day we have to worry about inflation again. Both gold and silver pushed higher.

A few blemishes are worth noting, however. Breadth was unimpressive, with just 741 net advancing issues on the NYSE, well off of the peaks of 1,750 seen earlier this month. That suggests the rally out of the January low may be nearing its end as buyers find fewer issues attractive at these levels.

Also, the relationship between new highs and news lows on the NYSE has returned to a peak that was associated with medium-term market tops in January, September and July.

So, while new highs are exciting, consider using this as an opportunity to trim weaker positions and book profits.

Disclosure: Anthony has recommended COP call options to his clients.

Anthony Mirhaydari is founder of the Edge and Edge Pro investment advisory newsletters, as well as Mirhaydari Capital Management, a registered investment advisory firm.

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