As I wrote in my Cabot Wealth Advisory two weeks ago, I’m very bullish on the stock market. And I’m bullish not just because of one or two positive factors, but because so many pieces have fallen into place during the past six to 12 months. While there are never any guarantees, the evidence strongly favors higher prices in the months to come.
And that’s where my focus is: On the profits that can be gained by investing in leading stocks and sectors during the market’s new major uptrend.
When Is Overbought Not Really Overbought?
Overbought is a concept that means the stock indexes have risen too far, too fast. Historically, after such a move (which can be measured in a variety of ways), the odds favor a dip in the market … and sometimes a meaningful, intermediate-term top.
However, overbought means very different things in different environments. During the past two years of trading-range action, overbought indicators worked very well—the stock market rallied for three or four weeks, became overbought, and then keeled over.
Then the market usually fell for three or four weeks before bottoming out and rallying. Rinse and repeat.
But the question the pundits don’t address is whether we’re in a new environment altogether—whether the trading range of the past couple of years is over, replaced by a new uptrend.
If that’s the case, these overbought readings won’t tend to lead to pullbacks—most often, if the stock market needs to rest, it will chop sideways for a week or two. And that’s exactly what the major indexes are doing! Take a look at the daily chart of the S&P 500.
The reason for the lack of a dip is simply because sellers have already been worn out during the past year or two … which leads me to my next point.
Long-Term Sentiment vs. Short-Term Sentiment
The pundits frequently use short-term sentiment measures—things like the Volatility Index (VIX) and put-call ratios—claiming (correctly) that they look stretched. The past few times this has happened, the stock market pulled back a bunch.
But these measures have a spotty track record. Even in trading-range environments, they often give signals very early or simply miss the mark altogether.
To me, the big story when it comes to sentiment is the many long-term measures that show that investors are apathetic.
For instance, according to AAII, the number of bullish investors has been below its long-term average for 70 of the past 72 weeks. And the Merrill Lynch survey of asset managers (combined $600 billion of assets) says they are currently holding their largest cash positions since November 2001. These big-picture sentiment indications have far more bearing on the intermediate- to longer-term picture than what happened during the past five or 10 days.
None of this is to say you should be complacent—a dip of a couple percent in the major indexes is always possible, and I’m sure there will be some blowups among individual stocks during earnings season (there always are). But your focus should be on the big-picture evidence, which is generally bullish.
These days, I’m focused on stocks that have reacted well to earnings. One that recently popped following its quarterly report is Proofpoint (PFPT). I wrote about the stock in Cabot Top Ten Trader on Monday:
“It’s been many months since we’ve seen strength from cybersecurity stocks, but there are positive signs in the sector now and Proofpoint looks a leader in the group. The company offers a suite of cloud-based solutions that include many types of threat protection (via email, social media, apps or other avenues), information archiving and compliance systems (controlling who is able to see and send certain data). Demand has been very strong for Proofpoint’s products, partly because of some key partnerships—it works with Palo Alto Networks, integrating its social media and targeted attack prevention software with Palo Alto’s platform. It’s also tied in with Intel’s security arm (formerly McAfee). When combined with the general movement away from legacy security systems to cloud-based platforms, Proofpoint has been growing rapidly and consistently—the company has seen revenues grow sequentially for 52 quarters in a row, and growth is actually accelerating over the past couple of quarters.
“Last week’s report easily topped expectations, and management’s outlook for the rest of 2016 was hiked as well. (Interesting to us: Despite earnings being in the red, free cash flow should total around 85 cents per share this year.) Of course, the valuation is up there ($3 billion market cap, $313 million of revenue), but this is a great fundamental story.”
Proofpoint is a stock I think can be a new leader, though the chart is a bit tricky to handle. For my recommended buy range, loss limit and future guidance, give Cabot Top Ten Trader a try—you can follow along with not just PFPT but with all of the market’s strongest growth stocks as the bulls drive the stock market higher.
