Bull and Bear Stand-Off

For a time today, it seemed that investors had collectively decided the market waters were once again safe and a major upside rally would develop. Such hopes faded into the close, though the day still ended with solid gains in most benchmarks and sectors. Some technical indicators are turning more positive. The S&P 500 and Dow Jones Industrial Average both closed just above their 50-day moving averages and the Russell 2000 is not far behind. We will have to wait and see whether this level becomes a barrier to further progress.

A few points of concern remain. The recovery of the last two weeks has yet to attract trading volume comparable to the preceding declines. Economic indicators continue to point toward a significant slowdown at best, and possibly a recession. The housing sector is still in serious trouble. Most important, it is an open question how the Federal Reserve intends to proceed in adjusting monetary policy. Many people are assuming that a Federal Funds rate cut is all but guaranteed at the next Fed meeting on September 18th, if not before. If that assumption proves wrong, or even if it proves right, the second half of September is likely to bring further volatility. A re-test of the August lows would actually be a positive event if it is successful, but we suspect few people will think that way if it happens.

Energy stocks surged higher today, though we are not quite sure why. Economic weakness would seem to be bearish for oil prices, but the market appears to have reached a different conclusion, at least for today. Utilities, REITs, and technology all picked up some positive momentum day. A slightly longer perspective reveals that energy and technology are, by a significant margin, the strongest sectors right now. Financials are still struggling to recover lost ground.

The overall picture is of a narrow rally on average volume. Bull markets are said to climb a wall of worry, of course, and all the problems we have mentioned can be overcome. The question is how long it will take.