It makes sense to be a little worried about the market today…
Investor euphoria keeps pushing the market higher, and valuations keep hitting new peaks.
Eventually, the market will take a breather. Stocks will fall 5%, 10%, or even 15%… That’s just normal market behavior. Corrections happen all the time, even in bull markets.
One basic sign of a healthy bull market is whether more stocks are going up than down. The “advance/decline” line shows us this.
The advance/decline line takes the number of stocks that went up in a given day and subtracts the number that went down.
If more went up that day, the line goes up. If more went down, the line goes down. The advance/decline line is also cumulative over time.
In a typical bull market, as the market goes up, the advance/decline line goes up, too. But when the advance/decline line moves lower while the market continues to move higher, then it’s time to worry. It means the gains are concentrated in only a few companies.
That’s exactly what happened in the late 1990s. And as longtime DailyWealth readers know, the dot-com bubble burst shortly after.
Today’s advance/decline line looks nothing like the late 1990s. The market is up, and so is the advance/decline line. This metric tells us this bull market is still healthy.
This is a bullish sign for the market over the next few months. But again, that doesn’t mean stocks won’t fall from here.
Even in raging bull markets, you can still see volatility.
In mid-December, I told subscribers of my option selling service Retirement Trader that they should expect plenty of volatility in 2021. Here was our “market outlook” for 2021…
We’ll call ourselves “cautiously optimistic” because there are still plenty of reasons to worry. The market won’t move in a straight line up.
First, we’ll have to get through the next few months as positive COVID-19 cases continue to remain high. More states might shut down their economies. And that will lead to more people out of work and more businesses closing for good.
You also have to consider how rich today’s market is. The S&P 500 Index trades for 28 times earnings. Over the past four decades, the index has had an average price-to-earnings ratio of only 18.
Just on valuation fears alone, we could see some profit-taking sending the market lower.
The point is that we expect the market to finish higher over the next 12 months… but we expect plenty of price swings along the way. It wouldn’t surprise us if there were a few corrections of 10% or greater in 2021.
Today, the S&P 500 trades at more than 30 times earnings. Prices have kept rising, too…
Over the past three months, the index is up more than 10%. In a normal year, that’s a whole 12-months’ worth of gains. And that has just been the past 90 days.
It may feel like the market is going to keep climbing forever, but that’s not going to be the case. Expect volatility.
Here’s to our health, wealth, and a great retirement,
— Dr. David Eifrig
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Source: Daily Wealth