Following eight consecutive weeks of stock market gains, we experienced a mild sell off this week with some recovery on Friday due to stronger than expected non-farm payrolls data in the US (203,000 versus 180,000 expected). It is difficult to fault this continued momentum move for stocks in the short-term as market participants continue to chase performance targets through year-end. The technical trend indicator remains in positive territory (chart below left) 27 points above its long-term moving average. One area of concern is that fewer stocks are participating in this equity market rally, as can be seen in Large Cap Breadth Index (chart below right).
Once the baton passes from Bernanke to Yellen next month and the Fed is forced to either begin tapering their monthly bond purchases or desist from talking about it, market volatility should pick up. In the meantime, with valuations (S&P 500 trades at 19.7x 2013 earnings) and confidence running high, risks of a downside break in markets continue to exist.
Economic: On the economic front, data releases were broadly positive. The ISM Manufacturing Index beat expectations (57.3 versus 55.0 est.); US November vehicles sales were strong (16.4M vs 15.7M est.); 3Q2013 GDP came in at 3.6% versus 3.0% est.; initial jobless claims were 298,000 versus 325,000 est. and non-farm payrolls were ahead at 203,000 versus 180,000 est., leading to a reduction in the overall US unemployment rate to 7.0% from 7.2%.. Only the ISM Services Index disappointed (53.9 versus 55.0 est.).
Technical: From a technical standpoint, the trend is still positive, though the Advance/Decline Line has stalled, unable to keep pace with the recent stock market rally. There remains little urge to sell as momentum investors continue to chase performance through year-end.
Strategy: The stock market remains overvalued, overbought in the near-term and investor sentiment has reached an optimistic extreme. We therefore maintain our cautious stance with an allocation in the model portfolio of 20% stocks, 50% bonds, 20% gold and 10% cash.
Next update: Friday 13th December 2013.