What a Week: The Bull Still Grazes

Cautious comments by the Federal Reserve, the dollar's weakness, and lackluster same-store sales took some air out of the stock market's rally this week. But in the end, the market's latest trial balloon of bullishness stayed afloat.

Thanks largely to Friday's gains, major averages secured modest weekly gains, with the Dow Jones Industrial Average up 0.3%, the S&P 500 higher by 0.4% and the Nasdaq Composite up 1.2%.

The final tallies notwithstanding, this week saw major averages face the first real obstacles to the rally that began in mid-March. Most prominently, the Federal Open Market Committee said Tuesday that the economy's risks are weighted toward weakness and warned about an "unwelcome substantial fall in inflation." Minutes of the FOMC's March 18 meeting, released Thursday, showed more overt concerns at the central bank about "disinflation in core prices."

Those comments were quickly interpreted by Wall Street as a reason to resume worrying about deflationary pressures, which weighed on shares midweek.

"The Fed is playing the expectations game," said Gerald Cohen, senior economist at Merrill Lynch. "They changed the [risk-assessment statement] but are not saying 'it's a growth issue' but that 'we're as vigilant about deflation as inflation.'"

Renewed concerns about deflation dominated financial markets this week (more below). Coincidentally, or not, those fundamental challenges arose just as stock proxies reached the upper end of trading ranges bracketed by the December highs and October lows.

The S&P 500 traded as high as 939.49 and closed at 934.39 Tuesday vs. its Dec. 2 intraday high of 954.32 and closing best of 934.53. The Dow surpassed its March high of 8522 on Monday, triggering a buy signal for devotees of Dow Theory, and closed above 8600 Friday for the first time since mid-January.

From a technical point of view, it's logical that major averages would stall after reaching the upper end of trading ranges, especially after such a sharp rally. That they didn't fall further, and that declines tended to occur on lower volume, suggests the rising trend from the March lows remains intact, at least for now.

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