The S&P closed only 1 point below a historic high on Friday and S&P futures are positive on Sunday night. While it is only +3 points and could easily be erased in an instant overnight, I am encouraged nobody is running for the exits overnight. This suggests the bulls are confident we are going to see a continued gain in the markets.

A move to a new high on the S&P could energize buyers of the Dow stocks enough to lift it another 200+ points to test its old highs at 18,312. The Dow closed at 18,146 on Friday.

The motivation for the current market rally is a surplus of cash coming from Europe where $13 trillion in bond yields are negative. With the U.S. ten-year at 1.3% the only real option is either risky high yield bonds or equities. Apparently, the foreign money is choosing equities. U.S. equity funds have had cash outflows for the last 17 consecutive weeks so our portfolio managers are not pushing stocks higher.

This is a risky bet since we are entering the Q2 earnings cycle and companies are expected to report a decline for the fifth consecutive quarter. If guidance was to turn severely negative as a result of Brexit and the devaluation of the European currencies, an equity rally could be short lived.

Last year the S&P high of 2,130.82 was on May 21st. On July 20th as earnings started, the S&P hit 2,128 but could not set a new high. The low for the year was -267 points lower at 1,867 on August 24th only 22 trading days later. While I would not expect a repeat, the market does have a memory. If the S&P did begin to weaken with earnings we could see a downside acceleration as that memory kicks in again.

The Friday gains were caused by significant short covering after the blowout jobs numbers. This was not a sudden influx of investors thinking, "Gee, I really want to buy stocks before the two weakest months of the year in Aug/Sep." What goes up on short covering can come down just as quickly.

The Dow spiked to 18,146 and just below the high from April at 18,167.

The calendar for next week is filled by Fed speakers and there will be many competing views of when they should hike rates again. The market is expecting December or maybe February. Investors are not expecting July, September or November. If the Fed heads have put their bear hats back on, it could weigh on the market.

The biggest problem for the market is the start of the Republican convention the following Monday. The democrats are spending more than $1 million to stage protests and demonstrations. The majority of low information voters will not know the demonstrators are paid and will think this is an uprising against the republican ticket. Uncertainty would be extreme anyway because of the presumptive nominee but adding the demonstrations will only make it worse. In the AAII Investor Sentiment poll last week the worry over the elections/conventions was the top concern.

We have entered the summer doldrums and volume is likely to be very low for the next three weeks despite the start of the earnings cycle. Smart investors typically wait for the end of summer to do their bargain shopping. After this week we may follow their lead depending on the market direction.

Jim Brown

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