Research.LeutholdGroup

Much of what we think “we know” about the bond market says yields should be headed higher.

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So what do we make of July’s “low-risk” VLT BUY signal on the DJIA—the index on which the indicator’s creator (Sedge Coppock) did his original work? Sadly, not much.

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Our VLT Momentum algorithm was driven into oversold territory for at least a few months in all prior postwar bears. It didn’t happen yet this spring, which implies that the “grieving process” was neither deep enough nor long-lasting enough to set the stage for anything like a repeat of last decade’s bull. Most of our valuation work says exactly the same thing.

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Valuations aside, the absence of any sustained market pain over the last ten years argues for challenging times for stocks in the new decade.

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We were fooled on Small Caps, and it’s been a “multi-factor” catastrophe.

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Leuthold’s research team has recently flagged a number of items that suggest it may be time to consider small cap stocks. This asset class has been showing signs of life and the decision to overweight small caps is starting to seem relevant – and perhaps nicely profitable - again.

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Our call for improved relative performance in Small Caps received another boost in November, when VLT Momentum for the S&P SmallCap 600 confirmed the prior month’s “low-risk” BUY signal on the Russell 2000.

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Over the nearly two years since the stock market’s “momentum” peak in January 2018, the S&P 500 has gained less than 9%, while the Value Line Arithmetic Composite is unchanged. Mid Caps and Small Caps have made no upside progress during this period and most foreign markets are down.

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Emerging Market stocks have been swept up in the last month’s rally in all things cyclical and high beta. Nonetheless, the MSCI Emerging Markets Index is still down marginally from its level coinciding with its April 30th VLT BUY signal.

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At October’s close, a long-term BUY signal was triggered on the Russell 2000. The fact that some market segments are triggering “oversold BUYS” when blue chips are at record highs speaks volumes about the internal disparities that have developed during the last few years. The Russell BUY signal is not inconsistent with our belief that the action since the January 2018 peak remains part of a lengthy cyclical topping process.

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At last night’s close, the Russell 2000 generated a “low-risk” BUY signal on our Very Long Term (VLT) Momentum algorithm, a possibility we’d alluded to in the September and October Green Books.

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Small Caps came tantalizingly close to activating a major VLT BUY signal in September, with the Russell 2000 closing less than a half percent below the trigger level. A new bull signal from this indicator wouldn’t “fit” into our market and economic narrative, but we won’t sweep it under the rug if it occurs.

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A general rule of thumb for thematic equity investors is that the dominant leadership sectors and groups in a given bull market normally don’t repeat as leaders in the subsequent bull.

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The Russell 2000 is the most important major index on the cusp of a new BUY signal. Our best guess is that Small Caps will still trend lower for now, creating a buying opportunity in the months ahead.

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While investors in Value, Small Caps, and especially foreign stocks might beg to disagree, a key MTI technical measure suggests this decade’s stock-market ride has been almost entirely “pain free.”

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The 10-year-old bull grabs most of the headlines, but its younger sibling has begun to command more respect.

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We suggested many years ago that the final top to this historic bull market would be a long and complicated process rather than a clean and singular event.

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The Major Trend Index has remained in neutral territory during the last several weeks of upside action, suggesting there remain significant fundamental and technical shortcomings beneath it all. But this precarious MTI stance didn’t preclude us from acting on a new bullish reading for Emerging Market equities at the end of April.
 

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Emerging Market equities have been modest underperformers during the current rally, but they’ve marshaled enough strength to trigger a new low-risk BUY signal on our VLT Momentum algorithm at the end of April.

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For much of this decade, we had an allocation preference for Large Caps over Small Caps because of the considerable P/E premium commanded by the latter.

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