U.S. Stock Market is Forming a Major Top

Although I think it’s safe to buy U.S.stocks from now until mid-2015 (i.e. May) and that the the S&P 500 will rise to 2200-2300 before a big 20% correction, several things are forcing me to reconsider my market outlook. What if the S&P 500’s peak is already in? This outcome is a real possibility. Although I still think the S&P will reach 2200, the risk:reward profile right now does not favor bullish interests. The S&P can rise 10% at most, while there’s a 20% downside. The only certainty is that the U.S. stock market is forming a major topping pattern right now. Here’s why.

A massive consolidation followed by more weakness

The S&P 500 was in a long 2.5 month consolidation phase from early December 2014 to mid-February 2015. This consolidation was one of the reasons that I thought 2015’s chart looked like 1999’s chart. Long consolidation phases are typically followed by the market making steady new highs. This has not happened. Whereas March 1999 witnessed the S&P 500 making steady new all time highs, the S&P 500 is making marginal new highs: 2079, 2093, 2119. Each of these marginal new highs have been interrupted by long and drawn out 3-5% pullbacks, which was not the case in 1999.

December 2014 – February 2015 consolidation.

January – February 2015 consolidation.

Since the S&P hasn’t been rising steadily after such a long consolidation, this consolidation is looking more and more like a topping pattern. Stock market tops tend to be flat with massive volatility, which is what we’re seeing right now.

With such tiny new all time highs, the S&P is looking more and more like a flat top.


Massive stock market volatility

Volatility in the U.S. stock market has been insane as of late. A strong, healthy bull market should have:

  1. Infrequent pullbacks. When pullbacks do occur, the pullback does not last a long time because permabulls are eagerly “buying the dip” as they’ve been indoctrinated to do.
  2. Steady new all time highs with low volatility. 20-30 point days for the S&P should not occur.

Recent price action shows that the bull market is seriously weakening. The S&P has made 3 consecutive long and drawn out pullbacks in 3 months and 20-30 point days for the S&P are becoming the norm for 2015.

Consecutive pullbacks are an indication of massive distribution by large investors/traders. The fact that there’s a pullback every time the S&P makes a tiny new all time high, coupled with massive insider selling shows that a ton of smart investors are getting out while they still can. It’s pump and dump time.

Contracting U.S. economy

U.S. economic data has consistently missed expectations since Q4 2014. U.S. economic growth isn’t just slowing down anymore. Various sectors of the economy have actually been contracting since 2015 began. The only real brightspot is U.S. employment data, which continues to beat expectations. However, employment data is useless because it seriously lags the real time economy.

Retail is shrinking.

  1. February 2015 retail sales fell -0.6% versus +0.4% expectations.
  2. January 2015 retail sales fell -0.8% versus -0.4% expectations.
  3. December 2014 retail sales fell -0.9% versus 0.1% expectations.

U.S. manufacturing is shrinking.

  1. January 2015 factory orders fell -0.2% versus +0.6% expectations.
  2. December 2014 factory orders fell -3.4% versus -2% expectations.

U.S. construction spending

  1. January 2015 construction spending fell -1.1% versus +0.2% expectations.

Although there is no theme right now (e.g. economic crisis) for a major 20% U.S. stock market correction, it seems like a theme is slowly coming out of the woodworks: a contracting U.S. economy.

U.S. corporate earnings Q1 2015

Q4 2014 corporating earnings were terrible. Banks got crushed, retail was dismal, and the only semi-bright spot was tech. However, the S&P 500 held fairly steady in January 2015 despite the dismal earnings season. Right now it looks like Q1 2015 earnings (to be reported in April) will be miserable as well.

Last Thursday Intel cut forecasts due to “lower demand for computers” due to sluggish corporate demand. If companies aren’t even upgrading relatively inexpensive capital such as computers, the chances of them upgrading large capital equipment is slim-to-none. That’s why Caterpillar’s (CAT) earnings will be one of the most important releases in the Q1 2015 earnings season.

So the question really boils down to this: Can stocks go up in April if Q1 2015 earnings season disappoints again? Can stocks buck the trend of weakening earnings twice in a row?

Conclusion: Although I still think the S&P will rise to 2200, there are some serious cracks in this stock market outlook now. Is it really worth chasing a 10% return when you know that there are some serious risks?

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