Market Breadth Is Dangerously Narrow

 | Aug 17, 2017 | 10:17 AM EDT
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The Russell 2000 Index was the only one to close lower in yesterday's trading, and the NYSE and Nasdaq both had positive internals with volumes rising on both exchanges from the prior session. However, no resistance levels were violated on the charts, leaving their near-term trends mixed. The data remains mixed, as well.

In spite of the bounce from last Thursday's declines, we still believe that risk outweighs potential reward -- valuation remains near historic highs, margin levels are excessive, investment advisor complacency persists and the charts show a weakening of internal breadth.

All the indexes closed near their intraday lows, as initial enthusiasm gave way to sellers near the close. The near-term trends of the indexes are mixed, with only the Dow Jones Industrials in an uptrend. The S&P 500, Nasdaq Composite Index and Dow Jones Transports are neutral and the S&P Midcap 400 Index, Russell 2000 Index and Value Line Arithmetic Index in downtrends.

The cumulative advance/decline lines for the All Exchange and Nasdaq remain negative and below their 50-day moving averages -- and the NYSE's line is neutral and above its 50 DMA. In our opinion, the mix of the chart trends and cumulative A/Ds describe a potentially dangerous narrowing of market breadth.

The data is mixed. All of the McClellan OB/OS Oscillators are back in neutral territory (All Exchange:-40.45/-24.43; NYSE:-46.5/-90.4; Nasdaq:-34.75/-37.93), as is the Equity Put/Call Ratio at 0.62. And while the Total P/C (contrary indicator) finds the crowd weighted in puts at 0.96, the OEX P/C is a very bearish 2.06 -- the pros are now heavily weighted in puts, and expect weakness.

Overall, SPX forward valuation is near historic highs, even with the recent lift in estimates, as is margin exposure (up 20.5% y/y) and investment advisor complacency via the Investors Intelligence Bear/Bull Ratio, at 17.0/57.5. When combined with what we perceive to be a notable narrowing of market breadth, we continue to view market risk as high versus potential reward.

Forward 12-month earnings estimates for the SPX from Bloomberg of $137.23 leave a 5.56% forward earnings yield on the 18x forward multiple, near a decade high.

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