May 7, 2019
The retail investors’ favorite index – the Dow Jones Industrial Average – looks like it’s going to 30,000. I have never been one to make an investing decision based on charts alone, but my line of work has given me the experience to know that charts are used very extensively by futures traders and, as such, are a major tool in short-term trading decisions.
The same way that charts on the major indexes were bearish in late 2018, they are bullish now.
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary
The question that begs to be asked is: If December was not a time to sell, does that mean now is not the time to buy? Here is my take: In December, a very interesting technical pattern on the major indexes – the Dow Jones Industrial Average, S&P 500, Nasdaq 100 – “broke.” It was a “head and shoulders top” with the head the previous all-time highs in late September and the shoulders being lower highs surrounding it.
This head-and-shoulders pattern indicated that the Dow was headed below 22,000 and the S&P 500 would fall below 2,400, which happened on Christmas Eve. Now we have a pattern called an “inverse head and shoulders,” which typically happens after protracted bear markets. The problem is: Despite the magnitude of the decline in the major indexes in the fourth quarter, I do not believe this was a real bear market. This was, as I maintained at the time, a sharp sell-off in a good economy, and most sharp sell-offs in a good economy tend to reverse themselves pretty quickly – as this one did.
Still, the present “inverse head and shoulders” pattern had its “head” at the Christmas Eve low and its shoulders at the December 2018 and March 2019 highs in the major averages that form “the neckline.” The breakout above that neckline happened in the last two weeks and the measured move now points to about 30,000 on the Dow and perhaps in the neighborhood of 3,250 on the S&P 500 – this year!
I know it sounds outlandish, but this is what the charts say. Now, we have to ask: Could the charts be wrong? Sure could, but in this case the charts are pointing higher and I think they are right. Here is why.
Why the Fundamentals Support the Technical View
Any chart is just the summary of all the buy and sell decisions of all investors in that market, where sellers are wrong at the bottom and buyers are wrong at the top. I prefer to understand what drives the charts, or the fundamental part of the investing equation, and not look at the charts alone. Looking at the charts alone is just looking at squiggly lines. One is bound to make a costly strategic mistake that way.
You can describe fundamentals as “strategy,” and the technicals as “tactics.” As the legendary Chinese general Sun Tzu has timelessly professed: “Strategy without tactics is the slowest route to victory. Tactics without strategy is the noise before defeat.” If we apply Sun Tzu’s wisdom to the stock market, he clearly means that the fundamentals are more important than the technicals, but one needs to use both.
In June 2019, the present economic expansion will become the longest in U.S. history. That does not mean it is about to end. The first few years of the recovery that began in June 2009 were weak and the economy did not feel normal until 2012. It is possible that because of the severity of the Great Recession and the abnormal nature of the recovery the present expansion may last much longer. How much longer is impossible to say, but right now it looks like there won’t be a recession in Trump’s first term in office.
The caveat is that Trump could still start a major trade war, or the Fed could overshoot, despite their stopping the pace of tightening. Absent a major policy mistake of this sort, there is no recession in sight.
Major deregulation and tax policy overhaul tend to have longer-term effects. The effects of President Reagan’s policies carried all the way to 1990, when George H.W. Bush ended up facing a recession. The effects of Donald Trump’s policies will likely carry him through the next election without a recession, which is (historically) an electoral edge. This is not a political statement, just an economic observation.
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.
Tax cuts have a major effect on economic activity, and they tend to have a “second leg” effect. The Bush tax cuts of 2003 had a major impact that year, a pause, and then a reacceleration of economic activity in late 2004. How many investors today are looking for the economy to accelerate in late 2019? Not many, but that is exactly what may happen.
I must say I like lower taxes, but I don’t like high budget deficits. The 2017 tax cut could have been done better with less impact on the exploding federal deficit! If tax cuts pay for themselves, we are still waiting on the 2003 Bush tax cuts to pay for themselves and it has been 16 years of waiting.
That’s a lot of waiting.