The S&P 500 Is Breaking Out, Now What?

With the S&P 500 breaking out to new all-time highs, the big question is: How high can it go? For starters, the S&P 500 has made seven new all-time highs this month, the most for any one month since November 2014 had 12 new all-time highs. Here’s where things get interesting: The previous two years before this breakout represent one of the tightest two-year ranges ever for the S&P 500. What does that mean?

Think about it—all we hear about is how volatile equities have been recently. From the surprise China yuan devaluation that induced a 14% pullback starting last August, to the more than 10% dive to start 2016 due to global growth concerns—volatility has been everywhere in the past year. Not to mention how quickly stocks bounced back after both of those sudden drops. Of course, these shocks came on the heels of more than three-and-a-half years without so much as a 10% correction, so maybe the volatility of the past year is normal and everyone just forgot what volatility is?

Last week, we noted the S&P 500 was more than 20% above the February lows and one could argue it is starting a new bull market. In reality, this should probably be considered a continuation of the bull market that has been alive for the past seven years. Building on this, in the two years ending in June 2016, the S&P 500 traded in a range of less than 18%—one of the tightest two-year ranges for the S&P 500 ever. Again, we’ve had some big drops and bounces recently, but looking at the big picture shows there is a good reason to think that the S&P 500 has simply consolidated in a sideways pattern for the past two years—in essence, catching its breath after the huge gains during the previous years.

Going back to 1980, three other times saw tight two-year ranges like we are in now, and all three took place ahead of multi-year bull markets. The two-year range before early 1985 kicked off a +80% rise in the S&P 500 over the next two-and-a-half years before the crash of 1987. Then, the tight range of the mid-1990s led to the late 1990s bull market, which saw the S&P 500 soar more than 200% during the next five-plus years. Lastly, a tight two-year range in 2004 and 2005 occurred before a 24% rally in the next 20 months.


In conclusion, breaking out of this tight range after two years of consolidation could potentially be a good sign for continued equity gains. For more on the subject of breakouts—and also what worries us about equities—be sure to read our Weekly Market Commentary, due out later today.


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