The market, as a whole, continues to look upward and constructive despite its beyond-overbought condition. We still see no indications of a major market top developing. Within the market, however, new favorite stocks continue to replace former winners. Stock picking will be more important than market timing for investment performance.
The majority of companies that have already reported their fourth quarter results early in this earnings season have done well. This bodes well for the rest of the season: we expect negative surprises to be limited in number. We also expect negative market reaction to be limited to specific companies and sectors rather than the market as a whole.
Given our stage of economic recovery, we expect companies will experience double digit bottom line earnings growth for 2011 with single digit top line revenue growth. We will transition out of this phase as sales growth becomes more reliable and companies begin to rehire and rebuild inventories.
Longer term — no change: no signs of significant market deterioration.
Intermediate term — no change: constructive, with stock selection more important than market timing.
Short term — The market is now beyond overbought. In terms of the technical strength, overbought is a sign of strength and not weakness. In order to indicate the market is ready for a trading pullback (i.e. a pullback that will create a buying opportunity): watch for the following levels:
- S&P 500 cash: a break below 1,275
- Dow Jones Industrials: a break below 11,673
- NASDAQ Composite: a break below 2,222
- Russell 2000: a break below 794
For a more meaningful correction to occur, watch for the following levels:
- S&P 500 cash: a close below 1,260
- Dow Jones Industrials: a close below 11,573
- NASDAQ Composite: a close below 2,660
- Russell 2000: a break below 777
These levels are basically the same as last week.
STRATEGY: Do a bit of “trimming” (profit-taking is not necessarily bad) in former outperforming stocks in former leading sectors such as Restaurants, Retail and Steel. Your amount of selling should depend on the amount of profit and size of position in your portfolio. At the same time, focus new buys in sectors that are recently leading the market such as Banks, Health Care, Homebuilders, Oil-related, and Technology (particularly Semiconductors).