2015 Change in S&P 500 Just About Zero

Finally, the S&P 500 enjoyed a reasonable bounce—last week it closed higher by almost 2.8%. But in the holiday shortened week, volume was very light, and the index moved higher on the back of even fewer market leaders; in other words, market breadth was very thin and this makes the large rise in price look not so impressive. Volatility, as would be expected in a week when prices jumped, dropped back down; that said, the VIX index is nowhere near the super low levels seen during the complacent summer months. The upcoming week, the final week in December and in 2015, will tell us if last week’s “Santa Claus Rally” will continue.

While the US stock markets rallied, there was no “Santa Claus Rally” in the US economic data last week. The Chicago Fed National Activity Index got the week started on at down note: instead of rising as expected, it fell. Existing home sales disappointed badly. New home sales also missed. Headline durable goods orders beat expectations slightly, but that was all due to airplane orders; when those volatile orders were removed, durable goods ex-transportation showed a disappointing drop. And finally, personal income only met expectations.

The technical picture for the S&P is one of a continuing distribution and therefore topping pattern. This pattern began early in the year, and has gotten even more strong as the months ticked by. The last two times we saw something similar was in 2007 and in 2011.  In 2007, the intra-year 20% drop was reversed by the end of the year and, with the help of huge QE programs from the Fed, the S&P went on to climb strongly in 2012, 2013 and 2014. But as we all remember, in 2007 there was no reversal. The topping pattern formed by the end of that year set the stage for a huge loss, approximately 55%, that took more than a year to achieve (March 2009).

The problem with hoping for a repeat of the 2012-2014 performance is that valuations this time around are far higher than they were in 2012. In fact, they’re stretched to levels last seen in 2007. Also, unlike in 2012-2104, corporate sales and profits are falling…..also last seen around the end of 2007. And finally, unlike 2012-2014, the Fed is not injecting monetary easing into the financial markets; on the contrary, the Fed has commenced a process of removing monetary easing, with the first of several rate hikes just completed.

So as 2015 winds down, not only is the S&P 500 looking like it could suffer its first loss in about eight years (it just about broke even in 2011), but more importantly, it could be entering a phase in which it could easily—and finally—retreat by a very meaningful percentage.

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