Are We Underestiminating Upside Potential for Stocks?

“Markets change minute by minute – Human nature barely changes millennium-by-millennium. There’s your edge.”  – – Jim O’Shaughnessy


Bottom Line: It increasingly seems that this bull market in stocks could surprise many with respect to how far it goes and for how long. It seems unlikely to me that it will be seriously derailed until the US Federal Reserve actually tightens by raising interest rates. It is unlikely that this is a near term scenario.



Summary:  Stocks were mixed on the week, with most of the broad market averages finishing within 0.5% from where they started. Once again there was a slight ‘defensive’ tilt to the tape, with REITs & health care the two strongest sectors.

Stepping back, our PTI (market internals) has clearly confirmed the new highs in the averages. While it can be argued that stocks are extended here, pullbacks are still much more likely to be an opportunity, than the start of a major top.

We have been noting for months the strength in commodities, which suggests strong economic growth globally. Corn was exceptionally strong last week, up a full 12% – a potential harbinger of not just reflation, but outright inflation. I think agricultural commodities might be one of the best investment opportunities available.

Finally, the Chinese stock market again held support last week. This is good ‘canary’ for equity markets globally and further strength would be great news for the bulls.




Economy: While our Primary Trend Indicator remains bullish, it’s hard to reduce equity exposure too much when Leading Economic Indicators and other risk metrics are still improving. Macro fundamentals still support remaining in equities.



While we are coming out of a 2020 recession, are we still in one? Job opening as % of employment + openings is at all-time highs and rising. Labor markets are not clearing and we are seeing an excess demand for labor, not supply.



Vaccinations and “stimulus” are boosting consumer sentiment, light vehicle sales jumped in March, household net worth in the US has hit a record and debt service remains low.

There is broad strength in the labor market in March and Job opening rates have hit record highs.

Simply put, while the long term is cloudy, the second half of 2021 looks strong for the US economy.

The US economy is continuing to recover from the draconian lockdowns that began in 2020. The American Institute of Economic Research Leading Indicators index hit its highest level since June 2018, and coincident indicators are also trending higher. This suggests continued expansion in coming months.

Risks always exist but for now, declining US government restrictions are boosting current economic activity and the outlook for future growth.


Big Picture Technicals:

A big picture review of our indicators, supporting market data since the lows in November 2020, and an ongoing review of financial history increasingly suggest to me that this market could surprise all of us with its upside.

There are always some yellow flags, and we do see one or two in our indicators and models. However, yellow flags argue for some caution and are not outright bearish. Also, as mentioned in our summary, the weight of evidence suggests pullbacks are still much more likely to be an opportunity, than the start of a major top.

Below is one of my favorite ways to monitor some key components of our Primary Trend Indicator which measures market “breadth” or, participation.

Breadth indicators are also referred to as market internals. As the “vital signs” for an index or sector, breadth indicators reflect aggregate performance for the individual components. As such, breadth indicators can provide leading signals by strengthening before a bottom or weakening ahead of a top. After all, the whole is only as good as the sum of the parts.

In the top pane, you see the S&P500 and a black and red line overlaid on it. That black line is a measurement of the net new highs registered for the New York Stock Exchange. If that line is rising, more stocks hitting new highs than new lows, and is above its own 20 Day Moving Average, odds remain extremely high the market for stocks remains bullish.

The next pane is the number of Advancing stocks vs. declining stocks. This did not help in the 2020 experience but when it does diverge negatively it is important.

Both the percent of stocks above their own 200 Day Moving Average and the Volume flowing into Advancing/Declining stocks gave a strong signal going into that quarter, as well as did the Net New Highs line overlaid on the S&P500.

When three out of four of these are bullish, odds are on our side and corrections should be bought.




Inflation Update

I’ve been spending a lot of time reviewing the writings of some of the best minds in the investment world, and the beautiful thing, as always, is they often disagree. Because no one can predict an unknown future on inflation or anything else, the best ones are adaptable investors, who change course with unfolding market action.

Most of the deflationists, those who believe the world’s gross debt load will cause a deflationary overhang, are now saying that we will probably experience an “inflation scare” first. The “scare” part is their way of admitting what is right in front of our face, while clinging to the deflationary argument.

They are arriving at this concession because the evidence that we are living inflation is becoming impossible to ignore, so they say it’s temporary. Temporary or not, these are the trends in play and even ‘temporary’ can last for a year or three.

I’m of the belief that we may be underestimating the impact that the current gov’t (and central bank) influence will have on the stock market and just how high things could go.

In a serious inflationary environment (e.g. Zimbabwe (‘06) and post WW1 Weimer Germany) the stock market can go higher than many believe possible.

Last week the Bloomberg Agriculture Index had the biggest jump in almost 9 yrs. “Overall, global food costs have surged for 10 straight months, the longest rally in more than a decade” “Corn prices have doubled in the past year, while soybeans are up about 80% & wheat 30%.”

Also last week Procter & Gamble announced they will start charging more for household staples from diapers to toilet paper, the latest and biggest consumer-products company to do so

“Generally people see this inflation continuing,” said Tosin Jack, an analyst at Mintec, which monitors commodity prices. “The trend will continue for some time & it will translate into consumer goods.

Good thing the Bureau of Labor Statistics strips food and energy out of what they call “core” CPI or we might have inflation.


Taxes, Headlines and Markets

Last week, the Biden Administration announced a plan to raise capital gains tax in the US for high income earners to a record high number of 43.4%. Without debating the merits of this move, the fact is that taxing capital destroys incentives, business building and job creation. Estimates are that this could reduce S&P500 earnings by 9%.

I think this is a moot point as far as the market is concerned despite the headline volatility we saw last week.

Here is my opinion on why I’m ignoring it, and why it could actually be bullish. Because markets often, if not mostly, do the flip opposite of what you’d expect. There are many recent examples, and old ones as well.

  • The Spanish Flu
  • Trump winning the election
  • Covid pandemic
  • Biden winning the election

Markets are complex systems, and often they will go up the most when conditions move from ‘terrible’ to ‘less bad’. Bill O’Neil covered this in his writings.


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I want to focus more on the big picture in the Market Watch and focus less on the machinations happening under the hood. There are always things to talk about with respect to potential for corrections or short term market behaviour, but I’m not sure if focusing on that is helpful for you, our client.

Mr. Market is manic after all, and the best way to deal with manic behaviour is to understand that behaviour, monitor the inputs that are driving the behaviour and respond accordingly.

If we manage risk appropriately, the gains will take care of themselves by sticking with Blue Chip Leaders and Emerging Leaders as well as diversifying properly into other asset classes.

As I’ve been saying, I think there will be more opportunity to create wealth in the next ten years than in the last fifty years combined, as we transition from an economy based on access to limited resources to one enhanced by mastering informational technology.

We also know that some clients do not care about ten years from now and we’ve built your portfolios for you accordingly.

The bottom line is that we are continually working on your behalf, in an effort to make sure your portfolios benefit from change, rather than fall victim to it. We believe our systems for doing that are among the best available and that our strategies, tactics and tools will help us to successfully navigate whatever happens as we focus on monitoring supply and demand signals that the market provides us.

If you have any questions about this update, or anything else please do not hesitate to reach out.

I hope you all had a good weekend.


Peter Schenk, CMT, CIM | Portfolio Manager


Words we operate by:

“Deliver to the world what you would buy if you were on the other end. There is huge pleasure in life to be obtained from getting deserved trust. The way to get it is to deliver what you would want to see if you were on the other end.”   -Charlie Munger


 “Strive not to be a success, but rather to be of value.”  Albert Einstein



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