Stocktake: Have stocks come too far, too fast?

It's often said markets take the stairs up and the elevator down. However, the opposite has been true in the recent rapid market ascent: the S&P 500 fell 5 per cent over 21 trading days, notes Bespoke Investment, before hitting new highs over the following 13 days. Have stocks come too far, too fast?

Stocks are certainly overbought. Bespoke notes the 10-day advance/decline line, which measures the number of advancing stocks minus decliners over the previous 10 days, which recently hit its highest level since February. Indeed, last week’s reading is higher than 97 per cent of readings over the last three decades.

In control

It’s been “quite the run”, says Bespoke, which expects “some sort of cool-off period soon”.

However, bulls remain in control. Most stocks are rising, as evidenced by the S&P 500’s Cumulative Advance/Decline Line hitting new highs. According to Sundial Capital Research, the S&P 500 has historically been three times more likely to suffer a 10 per cent decline within the next three months if the advance/decline line was not at multi-year highs.

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When it did break out to new highs, there was only a 4.6 per cent probability of a double-digit percentage correction over the following three months.

Any pullback, it seems, is unlikely to be a bruising affair.