A Few Reasons to Doubt the Rally!

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After being down for three straight weeks, the market was up for four straight days last week, was down 107 points on Tuesday of this week, but then bounced back 46 points yesterday. So it's now been up five of the last six days.

The catalyst for the rally has been a few economic reports that were a bit better than Wall Street's forecasts, mixed in with other reports indicating that economic growth, which slowed to just 1.6% in the second quarter, is slowing further in the 3rd quarter.

For instance, the ISM Mfg Index rose fractionally, from 55.5 in July to 56.3 in August. Good news and taken as a positive. However, the ISM Non-Mfg Index, which measures activity in the service sector (which accounts for 80% of the jobs in the private sector), fell from 54.3 in July to 51.5 in August, and was ignored. Consumer confidence improved slowly, rising to 53.5 in August from a five-month low of 51 in July. But auto sales plunged dramatically in August. On the jobs front 54,000 jobs were lost in August and the unemployment rate ticked up from 9.5% to 9.6%. But it was taken as a positive because it was not as bad as forecasts.

With the most important economic reports, from the housing, auto, and service sectors still trending down significantly, even the Fed saying in its beige book report yesterday that there are "widespread signs that economic growth continues to slow, is not it still too Early for the stock market to be anticipating good times ahead?

There are a few other reasons to doubt the sustainability of the rally of the last seven days.
For instance, there is seasonality. We remain in the market's unfavorable season. Historically, the unfavorable season tends to continue into the October / November time-frame. For instance, the earliest re-entry date for the Street Smart Report Seasonal Timing Strategy is October 16. The 'Sell in May and Go Away' pattern calls for re-entering on November 1.

Shorter-term seasonal patterns include that September tend to be the worst month of the year, and has a history of being more negative in years when August was already down, and when the market was down for the year-to-date as of the End of August, which were the conditions at the end of August this year.

Then there is investor sentiment. Investor sentiment is known as a 'contrast' indicator. That is, sentiment is almost always at high levels of optimism and confidence at market tops, and at extreme levels of bearishness and fear and correction lows.

My preferred ways of measuring investor sentiment are the poll of its members by the American Association of Individual Investors (AAII), and the VIX Index.

I consider the AAII poll to be signaling a bottom may be near when bearishness becomes excessive by reaching a reading of 55% or higher, and bullishness drops to 20% or lower.

Both were approaching those levels three weeks ago, which had my attention.

But bullishness was back up to 30.8% last week, and bearishness back down to 42.2%. And this week's poll, released last night, shown bullishness at 43.9% and bearishness only 31.6%, far from readings typically seen at market lows.

Meanwhile, the VIX Index, also known as the Fear Index, measures the bullishness or bearishness (fear) of options players. It is also in a neutral area, not near the level of bearishness usually seen at correction lows. In fact it is closer to the low readings of fear (high level of confidence and complacency) usually seen at market and rally tops.

So there are reasons, in the economic outlook, in the market's seasonal patterns, and in investor sentiment, to doubt the sustainability of the rally that began last week.

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Source by Sy Harding