4 Reasons This Rally May Be More Durable
The following commentary comes from an independent investor or market observer as part of TheStreet's guest contributor program, which is separate from the company's news coverage.
NEW YORK (TheStreet) -- The stock market, as measured by the S&P 500 Index, has returned to the high end of the trading range of the past two months, as you can see in chart 1. This is the fourth time the Index has rebounded to around the 1220 level. Each of the prior three rebounds were reversed as the market was pulled lower again by fears of financial crisis and recession.
Rather than retreat back to the low end of the trading range over the next week or two, there are several reasons why this rally may be more durable than those that preceded it in recent months and may sustain much of the of the gains, as the S&P 500 Index takes a volatile path back toward a modest, single-digit gain for the year.
Positive developments in U.S. and Europe. The substantial positive policy developments in Europe are taking the fear of a repeat of the financial crisis of 2008 off the table. In addition, solid economic data in the United States are taking the fear of a double-dip recession off the table. These positive developments may allow the stock market to break out of the range to the upside, given support from still very low valuations.Global cyclical sector leadership. The global economically sensitive Energy and Materials sectors have led the rally while these sectors were in the middle of the pack during prior rallies. Declining European "TED Spread." The key gauge of stress in the financial sector during the financial crisis in 2008 was the widely watched TED Spread, which measured banks' willingness to lend to one another. The European equivalent of the TED Spread (EURIBOR less the EONIA rate) had been rising during the stock market rallies that failed to break out of the trading range over the past couple of months. However, over the past three weeks, the European TED Spread has been on the decline as financial risks recede in Europe, as illustrated in chart 2. Rising yield on 10-year Treasury note. The 10-year Treasury note yield had been steadily declining during the summer stock market rallies that failed to break out of the trading range. Stocks are unlikely to make a sustainable rebound when yields are low and falling. The fear of impending economic doom in the U.S. weighed on the yield, pulling it to levels last seen just prior to the U.S. entering WWII. However, economic data providing evidence that the U.S. was not in a recession nor likely to experience a return to recession anytime soon helped to change the direction of Treasury yields. Although the current stock market level has marked an attractive point to sell over the past couple of months as stocks returned to the lows of the year, we believe signs increasingly point to a market that is likely to retain much of the powerful 10% gain achieved over the past two weeks as it begins a volatile, upward-sloping path back to a gain for the year. Key drivers to watch this week regarding the prospects for a breakout are: the start of the flood of third-quarter corporate earnings reports and announcements surrounding the October 23 European summit.
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