Louis Krauskopf
NEW YORK (Reuters) – The rally that propelled U.S. stock markets to record highs this week is likely to continue if history dictates.
New signs of a cooling economy eased inflation fears in May, with all three major U.S. stock indexes hitting record highs this week. The benchmark S&P 500 index, which fell more than 4% in April, is now up 11% since the beginning of the year.
Market strategists who track historical trends say stocks tend to gain momentum when they recover from similar-sized declines, often continuing to rise even after regaining lost ground.
If your current bounce matches that pattern, you could potentially earn even more profit. Keith Lerner, co-chief investment officer at Trust Advisory Services, said the rebound from the S&P 500's previous 5% decline has since resulted in a median gain of 17.4%. As of Friday, the index was up nearly 7% from its April low.
“Once you find a low, the market typically has to go further than what we've seen so far,” said Lerner, who examined data going back to 2009.
Broader historical comparisons also suggest there is further upside potential in the current bull market. According to Lerner's research, the S&P 500 index has risen nearly 50% since October 2022, compared to a median gain of 108% during the bull market since the 1950s.
At the same time, Lerner's data showed that the median duration of the bull market during this period was just over 4.5 years, compared to just over 1.5 years since the start of the current bull market.
Investors say renewed optimism that the economy is headed for a so-called soft landing and the outlook for strong earnings are factors that could push stocks higher.
Market momentum will be tested Wednesday when semiconductor giant Nvidia, whose stock has soared on enthusiasm for artificial intelligence, reports quarterly results.
Investors are also watching next week's data on durable goods and consumer sentiment for further signs of whether growth has cooled enough to warrant a rate cut this year.
“Let's ride the winner”
Sam Stovall, chief investment strategist at CFRA, said momentum could also be a factor in the performance of different areas of the market after a rebound.
Stovall, who studied 35 market rallies since 1990, found that S&P 500 sectors that led in rebounds from declines outperformed the broader market 68% of the time as stocks continued to rise. That's what it means.
The main takeaway: “After you recover from a pullback, you want to ride on winners,” Stovall said.
Technology, utilities and real estate have been the top sectors in the market's recent rebound, rising 11.3%, 10.1% and 7.9%, respectively.
Investors who study chart patterns to identify market trends are also seeing evidence that strong momentum can keep stock prices rising.
All 11 sectors of the S&P 500 are currently trading above their 200-day moving averages, said Willie Delwitch, an independent investment strategist and business professor at Wisconsin Lutheran University.
If at least nine of the sectors beat these trend lines, the S&P 500's average annual return from that point would be 13.5%, according to Dewish.
Of course, a variety of factors can throw stock prices off track. While recent statistics point to calming consumer prices and a modest slowdown in the labor market, there are signs that the cooling trend is not gaining momentum, as the Federal Reserve is pushing back against an economy that is too strong, forcing rates to remain high or to raise them again. That could reignite concerns.
Despite the encouraging data, Fed officials have yet to publicly change their mind about the timing of the rate cuts that many investors believe will begin this year.
Valuations for many stocks are also very high, with the S&P 500 index trading at a forward price-earnings ratio of 20.8 times, well above the historical average of 15.7 times, according to LSEG Datastream. Political uncertainty from the U.S. presidential election and risks from conflicts in the Middle East and Ukraine could also add to volatility this year, Deutsche Bank analysts said in a note Friday.
“The strategy assumes a sharp but short-term decline, with economic conditions ultimately prevailing,” the bank's strategists said, adding that the S&P 500 has risen about 4% this year to 5,500. I believe it has the potential to become a dollar.
(Reporting by Lewis Krauskopf; Editing by Ira Iosebashvili and Richard Chang)
