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Market Outlook: There's a 90% Chance the Market Will Post Another Double-Digit Gain in the Next 10 Months
The S&P 500 ended the first quarter with a double-digit gain, as it did in 2012. Testing shows that a gain like this might be followed by a short-term pullback, but a strong quarter is bullish for the next year.
Stocks Deliver a Full Year's Worth of Gains in Three Months
SPDR S&P 500 (NYSE: SPY) gained 0.69% last week and ended the first quarter up just over 10%. Most long-term investors would probably be happy with a gain of 10% in a year. This is in line with the average annual return over a 200-year period cited by University of Pennsylvania professor Jeremy Siegel in Stocks for the Long Run.
We can test what happened in the past after the stock market delivered a 10% gain in only three months. The results are shown in two charts below.
In the first chart, the red line shows the percentage of time stocks moved up assuming you bought after the big gain and held for time frames ranging from one month to one year. The blue line shows the percentage of the time SPY moved up during those holding periods, assuming you bought at any time.
The second chart shows the average gain in SPY at time periods from one month to one year after the surge in stocks (red line) and at any other time (blue line).
We see in the first chart that there is a tendency for a pullback in the month after a strong quarter. At time frames from two months to 11 months, there is a greater-than-average chance of stock market gains.
The second chart shows that gains should be above average and the momentum from this quarter seems to fade after 10 months, on average.
The two charts together show a 90% chance that stocks will gain about 12% between now and the end of January 2014. We will not enjoy uninterrupted gains, and there is a strong possibility of a loss of 10% or more during that time. But, this big 10% gain should be followed by more gains.
Last year, the last time we saw a double-digit gain in the first quarter, stocks pulled back in the second quarter. The next chart shows the past five years worth of data with the first quarter highlighted by a blue oval. You could argue that a reversal occurred in the second quarter in four out of the past five years.
That visual pattern is not enough of a reason to sell stocks, although I would expect to hear more analysts compare this year to last year as they warn of a possible decline. For now, it looks best to ignore the bears and remain long.
Recommended Trade Setup:
-- Maintain a long position in SPY
-- Maintain stop-loss at $149
-- A long-term price target for the end of 2013 is $167, but there will be declines along the way to that price
Gold Continues to Disappoint
Last week, it became official that Cyprus would confiscate some of the wealth in savings accounts, and SPDR Gold Trust (NYSE: GLD) lost 0.71% in the holiday-shortened trading week. When news is bullish and prices fail to react bullishly, expect more downside. That summarizes what we see in the charts of GLD.
The charts below show that GLD remains in a long-term downtrend. On the left, the monthly chart shows that GLD is stuck in a trading range. The first pullback objective, 38.2% of the 2005 to 2011 run-up, is near $130.
On the right, the weekly chart shows GLD is oversold and could rally, but the price action seen on the weekly chart is a clear downtrend with lower highs and lower lows. If gold moves above $160, that trend will be broken, but until then, there is no rush to buy GLD.
PowerShares DB Gold Short ETN (NYSE: DGZ), an inverse fund that goes up when gold prices fall, gained 1.31% last week and is still a buy.
Recommended Trade Setup:
-- Buy DGZ on dips below $12.25
-- Maintain stop-loss at $11.75
-- Maintain price target at $14
This Week's News
Earnings season kicks off on April 8, when Alcoa (NYSE: AA) reports. Until then, we have two significant pieces of economic data to focus on.