The U.S. and Canadian stock market continues to work through a consolidation. Here are the signs to watch for the purpose of guiding decisions related to stocks and mutual funds.
Consolidations are a normal part of any uptrend. What matters is how severe the consolidation and whether it gets worse. By definition a consolidation is relatively shallow and healthy while a correction is deeper. When a leading market average such as the Nasdaq, S&P 500 or TSX falls by at least 10% it is considered to be a correction. Here are the characteristics of the current consolidation.
U.S. Stock Market
The Nasdaq is the most indicative market average as it tends to outperform, magnifying underlying conditions. This is a six month view, in the chart below, providing a snapshot of the uptrend. An orange box defines the consolidation which is approx. two weeks long. Notice how tight the consolidation is to the high. That's a bullish feature indicating big investors continue to hold rather than sell positions, generally.
The Stock Market's Crystal Ball
Leading stocks are historically a much better indicator of underlying conditions in the stock market. Our market metrics indicate the behaviour of leading stocks as a group is the highest ranked indicator for forecasting. Rather than look for a crystal ball into the market, investors can manage systematically by using leading stocks as the crystal ball. This unique group is the product of extensive screens or filters, designed to target the best performing stocks and their key identifiers for timing.
Not surprisingly, most leading stocks are in consolidations mirroring the market averages. Two of the highest ranked stocks pushed higher this week clearing their respective consolidations. Leaders not only lead by outperformance, they also tend to move, up and down, before other stocks. Otherwise, leading stocks are in constructive consolidations consistent with an uptrend.
Averages Look Good, Most Stocks Don't!
However, the rest of the herd in the stock market remains a concern. Since 2011, there has been a significant divergence in the performance of leading stocks versus laggards. Portfolios that have concentrated capital in anything but the top 20% of the market may be lower while leading stocks have pushed higher. Canadian investors who continue to hold resource stocks will be painfully aware of this. Furthermore, the situation is getting worse.
The chart below provides an overview of the condition of stocks in the Canadian stock market (the TSX). What is noteworthy from this indicator is the significant break down in September. While it may not be overwhelming, yet, our observation of stocks in both the Cdn. and U.S. market is as follows. The heavy selling in a large number of high quality stocks is disturbing. The market averages have been strangely strong while stocks generally perform poorly.
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