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A Legendary Analyst's Observation Speaks Volumes about This Market

Why Russell 2000 is likely at a critical point

by Bob Stokes
Updated: November 28, 2016

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[Editor's Note: The text version of the story is below.]

On Nov. 25, the Russell 2000 closed higher for its 15th straight trading session.

How should investors interpret such bullish action among small-cap stocks?

Let's turn to the observation of the late Paul Montgomery, who was an investment strategist for Legg Mason and a nationally recognized pioneer of market behavior.

On Nov. 23, our Short Term Update mentioned the renowned analyst when discussing the index's winning streak:

Legendary market analyst Paul Montgomery often noted that consecutive closing streaks, much like gaps, were not randomly distributed. They occur either at the start, direct mid-point or the end of a market move. The Russell 2000 has been rallying since February 11, so the consecutive-closing streak is not the start of a move. This means it is either the mid-point or the end of the upward push.

So, which is it?

Well, we are closely watching a host of indicators, such as the market's advance/decline line, the market's Elliott wave structure and sentiment measures.

Here's a chart and commentary from the same Short Term Update (entire wave labeling available to subscribers):

We have been monitoring sentiment closely. … Enthusiasm has emerged. As the above chart shows, the percentage of bulls in the weekly Investors Intelligence Advisors’ Survey (investorsintelligence.com) has increased to 55.9, which is the highest level since August 15 (56.7% the following week). The level of advisor optimism is similar also to the readings registered just prior to the high in May 2015. As shown by the pink ellipses, they are the opposite of the bullish percentage that attended the prior market lows in August-September 2015 and January-February 2016, when less than 25% of advisors thought the market was set up for a rally. This measure could go higher still.

As noted, the Russell 2000 closed higher the very next trading session.

Today's market optimism is also captured in this headline (CNBC, Nov. 23):

Strategist is bullish because, he says, Trump will be like Eisenhower and Reagan combined.

Wow, a combination of the 1950s and 1980s bull markets just ahead! That's what you call optimism on steroids.

But, beware.

The market's Elliott wave price pattern is sending an entirely different message. And the extremely bullish sentiment supports our Elliott wave count.

Most investors will be caught completely off guard.
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