All Things Bullish

“Bull markets are born on pessimism, grow on skepticism, mature on optimism, and die on euphoria.”

– Sir John Templeton

Dogs bark, birds sing, stock markets (and stocks themselves) fluctuate. Bonds, commodities, currencies, and all else that moves in the economic world will fluctuate. Only the economic market, however, transforms into a new beast when it changes direction to become a bull or a bear. Oddly, though, it’s not easy to objectively define either one: Observers see whichever they prefer to see.

Academic research has consistently pointed out that perma-bulls and perma-bears make far less profit than those who are cautiously optimistic. It’s key to remember that a wide world of economic opportunities lurks out there – you’re not forced to choose just your home-country stocks. Indeed, a home-country bias can be problematic.

Today we’ll look at reasons to be bullish on the equity markets, but I’ll also teach you a thing or two about trading. In my managed Mauldin Smart Core Portfolio, we are still basically long equities, but we have more and more exposure outside the US. And while for regulatory reasons I can’t discuss the details of my system in this letter, I can give you some simple guidelines that will at least help you to be in the market when you should be and to get out before disaster strikes.

As we noted last week in “All Things Bearish,” bearishly oriented investors see many reasons to be cautious now and little grounds for optimism. Others are stalwartly bullish. Naturally, I have friends on both sides of this debate, people with deep knowledge and experience. Problem is, they can’t all be right. The stock market will move up or down (or possibly sideways), and some of us will be wrong.

Now, let’s see what the bulls have to say.

Dow Theory Still Bullish

Longtime readers know how much I admired the late Richard Russell, editor of Dow Theory Letters. Richard stuck to his methodology despite his own misgivings. By its nature, Russell’s version of the Dow Theory gives very long-term buy and sell signals. Richard left us in 2015, but other analysts follow strategies similar to his. According to newsletter tracker Mark Hulbert, these analysts are now uniformly bullish. Benchmarks confirmed the bull market by reaching new highs this summer.

One question remains. Dow Theory looks at the relationship between the Dow industrials and transports averages, and the transports have pulled back since mid-July. That shift might mark the beginning of a bigger downturn, or it might not. Here’s how Hulbert explains it:

Ominous though this sounds, however, Moroney and the other Dow Theorists I track are still bullish. That’s because the stock market must jump over three successive hurdles to generate a bear-market signal, and it hasn’t even cleared the first.

Those three steps are:

1. Both the Dow Jones Industrial Average and the Dow Jones Transportation Average must undergo a “significant” decline after hitting new highs – “significant” both in terms of time and magnitude.

2. In their subsequent “significant” rally following the decline referred to in step No. 1, either one or both of these Dow averages must [fail] to surpass their highs.

3. Both averages must then fall below their lows registered at the bottom of the decline referred to in step No. 1.

Notice that I put “significant” in quotes. That’s because there isn’t universal agreement on what magnitude of market moves is necessary to satisfy. Some Dow Theorists argue that, per Hamilton’s original indications, a move under the first step isn’t “significant” unless it lasts at least three weeks and corrects at least one-third of its previous move. On this interpretation, the market hasn’t come close to that first step.

Depending how you look at it, then, the Dow Theory signal is either in full-on bull market mode or might be taking a small step back. In either case, it is nowhere near bearish, and Dow Theory followers see no reason to sell. If anything, by their lights they should be buying more.

Elliott Wave Hangs On, Too

The Elliott Wave Principle, all the rage in the 1980s, is less influential now but is still watched by the technical analysis team at Goldman Sachs. The Elliott Wave comprises sequential upward and downward market moves – “waves” – that form repeating cycles. A full cycle has eight waves. Waves 1–5 are bullish, with only minor pullbacks between. Waves 6–8 are corrective, or bearish, and you do not want to be long when they happen.

The market is presently in wave 4, according to Goldman market technician Sheba Jafari. That means the next downturn will be limited and followed by another bullish wave. Then we would see a bigger correction.

Jafari explains this analysis with the following chart, published in Business Insider last week.