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Market Outlook

Caution with the Possibility of a Pullback

By Elliott H. Gue, on Mar. 26, 2017

Last week, the S&P 500 endured its worst one-day selloff since the immediate aftermath of Britain’s surprise vote to exit the EU last summer. Although the S&P 500 gave up only 1.25 percent of its value yesterday, the decline felt more serious because the market has exhibited low volatility and traded within a tight range over the past 12 months.

This swoon could mark the start of a 5 to 10 percent pullback in the S&P 500.

From a technical perspective, the S&P 500 has looked stretched in recent weeks, trading as high as 9.7 percent above its 200-day moving average. Over the past four decades, the market has only traded at these levels about 15 percent of the time.

Market breadth has also deteriorated, with the S&P 500’s performance increasingly depending on a handful of its largest constituents. The 50 smallest stocks in the S&P 500 have given up an average of 0.6 percent of their value in 2017; the largest have rallied 7.7 percent.

Fundamentals haven’t changed perceptibly in recent weeks. But the post-election rally priced in reduced regulation and significant tax cuts from the Trump administration. As we’ve warned previously, passing these policy initiatives could take longer than the market expects, especially after the President’s tough battle on health care reform. Concerns about the timing of tax cuts and other pro-business measures could explain the recent selloff.

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Incoming data points suggest that US economic growth has picked up steam. We also expect interest rates to increase at a faster pace than the market currently expects and wouldn’t be surprised if the bull market has at least another leg higher. That said, the S&P 500 appears overdue for a pullback to at least the its 200-day moving average by the summer.

Elliott H. Gue is founder and chief editor of Capitalist Times and Energy & Income Advisor.

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