Nasdaq-100 futures are currently approximately 3% below their all-time highs, while the S&P 500 is down by less than 2% from its highs. However, fear has been driving stock markets for over a month now, according to a widely recognised sentiment index. This divergence suggests further potential upside for stocks rather than indications of a problem.
In the latter half of December, the sentiment index entered fear territory, reaching extreme levels. Despite this, equity indices have been on an upward trajectory, although the sentiment index continues to lag behind.
We attribute much of the pressure in equities to the accumulated need to release pressure after a substantial run-up through 2024. The stated reason was the hawkish shift from the Federal Reserve, which began to soften somewhat last week.
Strong heavyweights led the charge as the S&P 500 and Nasdaq-100 added 4.3% and 5% from the lows at the start of last week, respectively. Meanwhile, the ‘breadth’ and ‘strength’ components of stock gains remain in ‘extreme fear’ territory. This is a common theme at turning points, where robust companies are the first to rebound from the bottom.
With the latest momentum, the market is demonstrating that the growth drivers—AI stocks and high-value stocks—from the previous year remain in place. Simultaneously, the Nasdaq-100, currently above the 21500 level, is close to breaking the recent downtrend and has already made a solid recovery above its 50-day moving average as of Friday.
The full occupancy of the White House under Trump’s administration promises numerous sudden surprises and frequent shifts in trends based on his comments. However, we believe that upside and downside risks are well balanced, and it is an opportune moment for the term ‘risk’ not to carry exclusively negative connotations.
Stronger stocks typically precede broader market movement, and the low values of the breadth and strength components, which have been rising steadily over the past week, indicate a high potential for such a scenario.
Evidence that the market is in a bullish phase and not significantly impacted by Trump is shown by the strong rally in European indices. For instance, the German DAX40 and British FTSE100 both increased by over 4.5% over the week, confidently entering historical high territories. Their growth on Monday was also unaffected by the dollar’s decline of more than 1% against the euro and the pound.
In summary, the growth of key US indices may continue in the coming days due to increasing risk appetite across a wider range of stocks. Under these conditions, the Russell 2000 index and the Dow Jones may exhibit outperformance as they attempt to catch up.
Read the full article here