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Are Stocks Climbing to Higher Highs?

29 October 2014 in Trading Ideas

Even the biggest selloff of 2014 may not derail what has been a multi-year pattern for the stock market.

Ever since stocks hit their post-financial crisis lows in 2009,the bull has been back – and any significant slide has eventually been overcome as the S&P 500 has tripled since its low of 666 more than five years ago.

In 2014, we’ve seen notable selloffs in late January, early April, early August – and a nearly four-week slide of more than 7% that ended on Oct. 15.

And now, lo and behold, here we sit within 3% of the highs of the year.

This long-term performance of stocks can certainly give investors the feeling of invincibility, but many seem to consider themselves just optimistic and realistic. In a recent Big Money poll of money managers by Barron’s, for example, two-thirds of the managers surveyed said they expected a correction, defined as a 10% drop in share prices, within the next 12 months.1

On the other hand, these pros expected decent growth in corporate earnings and moderate equity valuations to put a floor under the market. They believe the bull market that’s been charging for five years will resume – after an unpleasant but perhaps healthy timeout.

Joel Tillinghast, co-manager of the $46 billion Fidelity Low-Priced Stock fund, told Barron’s that the allure of stocks seems obvious: Money-market funds pay holders little to nothing, while stocks with decent dividends pay enough to compete with bonds—and offer the possibility of capital gains. The economics are particularly compelling, Tillinghast said, given five or 10 years of compounding. “People will gradually realize that equities are a superior alternative,” he added.

And for Tillnghast, US equities are especially attractive. “Numerical predictions will either be right or wrong,” he told Barron’s. “I’d urge people to consider that the greatest growth opportunities come from American-centric industries, and that interest rates aren’t going up. People are freaked out now, but fantastic opportunities have been created by the fact that America is less dependent on imported oil, and is a leader in biotechnology and social media. America has one of the strongest economies in the world.”

Of course, it logically follows that the broader market’s ability to continue to post higher highs is dependent on a significant amount of individual stocks to do the same.

Our Higher Highs motif is a portfolio of stocks that attempts to track stocks signaling a move to a higher price level via breakouts from their recent trading ranges.

Stocks are initially singled out when they register a new intraday high when compared to the prior quarter, while excluding stocks with unusual overnight price movements and volatility. The motif is rebalanced every week, and stocks that have begun to show negative weekly price action are removed. Investors need to keep a careful eye and be willing to tolerate the additional risks and volatility that come with portfolio changes in this motif.

Half of the motif’s weight is currently dedicated to technology and consumer stocks, but the component stocks are spread across many industries. Holdings in the motif this week include WageWorks, Splunk, Cracker Barrel, Isis Pharmaceuticals and DTE Energy Co.

The motif has gained 6% in the past month. In that same time, the S&P 500 has lost 0.7%.

In 2014, the Higher Highs motif is up 6.8%; the S&P 500 has risen 7.9%.

1Jack Willoughby, “Big Money Poll: The Bull Will Be Right Back,” barrons.com, Oct. 18, 2014.