Looking past Dow 20,000 -- to trouble in 2017

U.S. equities continued their post-election, pre-holiday climb on Tuesday with the Dow inching ever closer to the 20,000 threshold. News flow was light, focused on terror attacks in Europe and the prospect of stimulative fiscal policy from the incoming Trump administration.

The Dow Jones industrials index gained 0.5 percent to close at 19,974 after intraday trading as high as 19,988. And it looks all but certain to cross the 20,000 threshold for the first time this week, given the market’s long history with nabbing new highs ahead of holiday closures. 

The blue-chip index crossed 18,000 for the first time around Christmas 2014. The Nasdaq 100 hit a new high ahead of Thanksgiving 2014 and Thanksgiving 2015. And large-caps broke out of their three-year trading range ahead of Independence Day 2016 thanks, in part, to the post-Brexit rebound.

Given a lack of a negative catalyst, plus upward momentum and a slight positive shift in seasonality, watch for a breakout ahead of the long holiday weekend (markets are closed on Monday).

Once the festivities end and 2017 begins, some disappointment is likely to set in. The Fed looks set to ramp up its rate hike path. President-elect Trump’s fiscal stimulus plans will need to go through the budget hawks in Congress and contend with rising interest expenses for the U.S. Treasury. Emerging market economies look vulnerable to the surge in the U.S. dollar, increasing the cost of dollar-denominated debts.

Market breadth remains tepid, with just 70 percent of the stocks in the S&P 500 in uptrends vs. near 80 percent seen back in April. That suggests buyers are narrowly focusing on a small group of stocks -- particularly financials (on rising net interest margins) and industrials (on hopes of major spending by President-elect Trump).

Jason Geopfert at SentimenTrader highlights two additional hurdles the market will face in the New Year.

For one, disappointing breadth measures have triggered a cluster of “Hindenburg Omens” in recent days. That’s the ominous name for a technical indicator that flashes red when the number of new highs and new lows expands as stocks are trading higher. It’s indicative of buying exhaustion. And it often precedes market pullbacks.

In fact, Goepfert noted that in a setup similar to what we’re seeing now -- stocks near a three-year high when an Omen is triggered -- this is the first warning signal for stocks since January 2015 and prior to that, July 2007. 

Overall, eight similar occurrences have happened since 1972. And one month later, stocks were on average down 1.6 percent vs. a 1 percent gain for any random day. Of the group, 2007 stands out: Stocks were down 6.1 percent a month later and went on to tumble 17.2 percent over the following year.

Geopfert also pointed out that in the last 10 years, stocks have tended to peak in the first few days of the New Year before sliding lower throughout January.

  • Anthony Mirhaydari

    Anthony Mirhaydari is founder of the Edge , an investment advisory newsletter, and Edge Pro, options newsletter. Previously, he was a markets columnist for MSN Money; a senior research analyst with Markman Capital Insight, a money management firm; and an analyst with Moss Adams focusing on the financial services industry.