Overextended?

The stock market benchmarks reached yet higher on Friday, and not surprisingly pulled back slightly today. Short-term momentum has remained surprisingly strong and we fear it may be resolved with a sharp downturn rather than a sideways consolidation. Such a break would probably be short-lived, however, as intermediate-term indicators are quickly turning bullish. More merger activity and very positive 1Q corporate earnings news are giving parts of the market even more strength than the benchmarks reveal.

The health-care sector has been climbing the ranks recently and may soon be vying with energy and utilities for market leadership. Pharmaceuticals are behind much of this action, but medical device makers and health care providers are also showing renewed strength. Energy service is off its highs but seems to have found short-term support. Crude oil prices moved above $65 again today, mainly because of more violence in Nigeria.

For the moment there are several candidates for sector leadership, and we think it is prudent to remain broadly diversified while energy, health care, utilities and possibly others fight it out for the top of the rankings. Any one of these sectors is vulnerable to a sudden reversal.