Russell’s Cry: A Correction Is Coming!

by Richard Band | May 2, 2012 9:31 am

May blew in with a nice 66-point gain on the Dow, taking the blue-chip index up to its highest close since December 2007. The purchasing managers’ index for April ticks up to 54.8, suppressing — for now — investors’ concerns about a Q2 slowdown in the industrial sector of the economy.

Finally all is right with the world, no? Well, maybe not so much …

There was something strange and unseemly in yesterday’s stock market action. Not only did the Dow give up nearly half its intraday gains by the closing bell, but the market’s foot soldiers — represented by the Russell 2000 — abandoned all their gains[1] and closed slightly in the red.

That’s not a happy omen, because it extends a months-long divergence between the headline indices (Dow, S&P 500) and the Russell 2000. Unlike the senior indices, the RUT still hasn’t equaled its April 2011 highs. In fact, as of yesterday’s close, the Russell 2000 stands 5.7% below its April 29, 2011, all-time closing peak of 865.29. So there’s at least that to think about while you’re smiling through yesterday’s gains.

Of course, it’s possible the RUT will suddenly catch fire again and blast through to new highs. When a divergence like this persists for a full year, though, it usually carries a bearish message for the market. The blue chips might hold up a little while longer, but a “correction” is coming — probably greater than 10% on the Dow, and more on indices like the RUT or Nasdaq.

In short, this is not a time to get silly-bullish on stocks, even though we’ve had some great news lately from some companies we like. For example, Monday’s report that Energy Transfer Partners (NYSE:ETP[2]) is making a takeover bid[3] for Sunoco (NYSE:SUN[4]) warms our hearts, since ETP is up nearly 8% — a typical year’s move for a master limited partnership — in just a week!

If you can’t wait and need to buy something now, make it a dividend-rich defensive issue that has lagged the market in recent weeks, like Procter & Gamble (NYSE:PG[5]). CEO Bob McDonald has taken a scorching — and rightly so — for PG’s lackluster March-quarter results. But the company’s board OK’d an overly generous 7% dividend hike in early April to preserve PG’s record of 56 annual dividend hikes — to me, that implies PG management expects a stronger finish to 2012 than Wall Street expects.

Otherwise, lay low.

Endnotes:
  1. abandoned all their gains: http://investorplace.com/2012/05/daily-stock-market-news-tread-lightly-in-this-fragile-market/
  2. ETP: http://profitableinvesting.investorplace.com/getaquote/?STOCK_VAR=ETP
  3. a takeover bid: http://investorplace.com/2012/04/energy-transfer-to-purchase-sunoco-sun-etp-sug-sxl/
  4. SUN: http://profitableinvesting.investorplace.com/getaquote/?STOCK_VAR=SUN
  5. PG: http://profitableinvesting.investorplace.com/getaquote/?STOCK_VAR=PG

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