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Market Rally Faces Key Test: Healthy Digestion or Imminent Correction?
“It is one of the great paradoxes of the stock market that what seems too high usually goes higher and what seems too low usually goes lower.” – William O’Neil
The market surge last week was really one for the history books. It marked the best performance for stocks ever on a post-election day as all three major US indexes hit record highs.
This week has been a different story. We’re certainly seeing some selling pressure as markets cool off, with the latest rally taking a breather amid signs of profit-taking.
It’s important to embrace negative days and weeks in the context of bullish uptrends as part of the process. This week’s slight downward move looks to be a form of healthy digestion, ultimately paving the way for stocks to move higher. There are plenty of reasons to suspect that the market will continue to grind upward into 2025.
Small-Cap Rally Takes Shape
Small-caps are one area that appear to be breaking out post-election, as the Russell 2000 is surpassing its former all-time highs from late 2021. The small-cap index jumped more than 5% on the day after the election, indicating an impressive bounce in a nod to favorable policies tied to another Trump administration.
Small-caps soared after Trump was first elected back in late 2016 as markets responded favorably to the idea of deregulation. Under the Biden/Harris administration, small-caps have really struggled, but it looks like that is changing course and realigning with history. Small-cap companies also tend to have a greater sensitivity to interest rates, so the rate path from here is beginning to favor this pocket of the market.
The iShares Russell 2000 ETF (IWM - Free Report) has just broken above its former all-time high from late 2021. By eclipsing former resistance levels, this pocket of the market is flashing green and telling us that it’s likely ready for its next leg higher.
Image Source: StockCharts
The small-cap breakout may be just getting underway; for those that have been waiting to pull the trigger, these levels represent a decent entry point to add additional exposure.
There’s something about buying at record highs that just doesn’t sit well with most investors. Behavioral biases normally lead them to believe that they can likely buy at cheaper prices in the future.
But history has repeatedly shown us that buying at all-time highs can be very lucrative. The ability of stocks to surpass former resistance levels and break out to all-time highs is a key signal. Remember, stocks are a leading indicator when it comes to the economy.
Economic Data Keeps Fed’s Path Clear
The rise in consumer prices last month met forecasts as headline CPI came in at 0.2% month-over-month and 2.6% on an annual basis. The advance in “core” inflation, which strips out volatile food and energy components, was also in line at 3.3% year-over-year.
The FOMC cut rates by 25 basis points last week in a widely-anticipated move. This followed a larger 50-bps cut in September, which was the first of its kind in many years. From a broader perspective, Fed Chair Powell said the data is indicating that “we really have made significant progress.”
The latest inflation figures looked to keep the Fed on pace for another cut next month. Markets are now pricing in a roughly 60% chance of a rate cut at the December meeting.
A preliminary estimate of third-quarter GDP recently showed that the economy grew at an annualized pace of 2.8% during the period, propelled higher by strong consumer spending. While the figure came in slightly below expectations, it’s another data point that suggests consumers remain financially healthy.
Additionally, initial jobless claims for the week ended November 9th came in at 217,000, a drop of 4,000 from the prior week and the lowest level since May. The number also came in well below the 223k median forecast. New claims remain historically low which speaks to the resilience of the labor market.
Bull Markets Last Longer Than Bear Markets
It took more than two years for the S&P 500 to break its former highs from early 2022. With stocks ultimately completing a multi-year breakout, we should be viewing the bullish pattern with open arms as this normally ushers in additional buying pressure.
Dating back to the 1950s, once those former highs were put in the rearview mirror, bull markets have lasted an average of another 4.5 years. This overlooked fact suggests the potential for more gains ahead that could be substantial. Investors normally underestimate the length and magnitude of bull markets.
Furthermore, volume in the historically bullish month of November has been above average thus far, a good sign that the momentum can be sustained. As a general rule, volume flow usually precedes price movement.
And in election years, November is the top-performing month for both the S&P 500 and Dow Jones Industrial Average from a historical perspective:
Image Source: Zacks Investment Research
Bottom Line
Investors would do well to fight the natural wariness of buying new highs, as history shows this is an excellent time to purchase stocks. Backed by a resilient economy and positive seasonality, a new bull market remains intact with the potential for significant advancement in the coming months and years.
The Q3 earnings season continues to wind down as we now have received results from more than 460 S&P 500 members, or 92% of the index’s total membership. Make sure you’re taking advantage of all that Zacks has to offer as markets look to close out the banner year on a positive note.
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Market Rally Faces Key Test: Healthy Digestion or Imminent Correction?
“It is one of the great paradoxes of the stock market that what seems too high usually goes higher and what seems too low usually goes lower.” – William O’Neil
The market surge last week was really one for the history books. It marked the best performance for stocks ever on a post-election day as all three major US indexes hit record highs.
This week has been a different story. We’re certainly seeing some selling pressure as markets cool off, with the latest rally taking a breather amid signs of profit-taking.
It’s important to embrace negative days and weeks in the context of bullish uptrends as part of the process. This week’s slight downward move looks to be a form of healthy digestion, ultimately paving the way for stocks to move higher. There are plenty of reasons to suspect that the market will continue to grind upward into 2025.
Small-Cap Rally Takes Shape
Small-caps are one area that appear to be breaking out post-election, as the Russell 2000 is surpassing its former all-time highs from late 2021. The small-cap index jumped more than 5% on the day after the election, indicating an impressive bounce in a nod to favorable policies tied to another Trump administration.
Small-caps soared after Trump was first elected back in late 2016 as markets responded favorably to the idea of deregulation. Under the Biden/Harris administration, small-caps have really struggled, but it looks like that is changing course and realigning with history. Small-cap companies also tend to have a greater sensitivity to interest rates, so the rate path from here is beginning to favor this pocket of the market.
The iShares Russell 2000 ETF (IWM - Free Report) has just broken above its former all-time high from late 2021. By eclipsing former resistance levels, this pocket of the market is flashing green and telling us that it’s likely ready for its next leg higher.
Image Source: StockCharts
The small-cap breakout may be just getting underway; for those that have been waiting to pull the trigger, these levels represent a decent entry point to add additional exposure.
There’s something about buying at record highs that just doesn’t sit well with most investors. Behavioral biases normally lead them to believe that they can likely buy at cheaper prices in the future.
But history has repeatedly shown us that buying at all-time highs can be very lucrative. The ability of stocks to surpass former resistance levels and break out to all-time highs is a key signal. Remember, stocks are a leading indicator when it comes to the economy.
Economic Data Keeps Fed’s Path Clear
The rise in consumer prices last month met forecasts as headline CPI came in at 0.2% month-over-month and 2.6% on an annual basis. The advance in “core” inflation, which strips out volatile food and energy components, was also in line at 3.3% year-over-year.
The FOMC cut rates by 25 basis points last week in a widely-anticipated move. This followed a larger 50-bps cut in September, which was the first of its kind in many years. From a broader perspective, Fed Chair Powell said the data is indicating that “we really have made significant progress.”
The latest inflation figures looked to keep the Fed on pace for another cut next month. Markets are now pricing in a roughly 60% chance of a rate cut at the December meeting.
A preliminary estimate of third-quarter GDP recently showed that the economy grew at an annualized pace of 2.8% during the period, propelled higher by strong consumer spending. While the figure came in slightly below expectations, it’s another data point that suggests consumers remain financially healthy.
Additionally, initial jobless claims for the week ended November 9th came in at 217,000, a drop of 4,000 from the prior week and the lowest level since May. The number also came in well below the 223k median forecast. New claims remain historically low which speaks to the resilience of the labor market.
Bull Markets Last Longer Than Bear Markets
It took more than two years for the S&P 500 to break its former highs from early 2022. With stocks ultimately completing a multi-year breakout, we should be viewing the bullish pattern with open arms as this normally ushers in additional buying pressure.
Dating back to the 1950s, once those former highs were put in the rearview mirror, bull markets have lasted an average of another 4.5 years. This overlooked fact suggests the potential for more gains ahead that could be substantial. Investors normally underestimate the length and magnitude of bull markets.
Furthermore, volume in the historically bullish month of November has been above average thus far, a good sign that the momentum can be sustained. As a general rule, volume flow usually precedes price movement.
And in election years, November is the top-performing month for both the S&P 500 and Dow Jones Industrial Average from a historical perspective:
Image Source: Zacks Investment Research
Bottom Line
Investors would do well to fight the natural wariness of buying new highs, as history shows this is an excellent time to purchase stocks. Backed by a resilient economy and positive seasonality, a new bull market remains intact with the potential for significant advancement in the coming months and years.
The Q3 earnings season continues to wind down as we now have received results from more than 460 S&P 500 members, or 92% of the index’s total membership. Make sure you’re taking advantage of all that Zacks has to offer as markets look to close out the banner year on a positive note.