The market benchmark S&P 500 index may be nearing record highs, but one strategist sees two threats to the rally.
Stephen Suttmeier, Chief Equity Technical Strategist at Bank of America Merrill Lynch, says two charts show how market momentum and the relative weakness of one important sector may possibly undo the market's recent gains
Suttmeier's first chart shows the past four months of price movements in the S&P 500 index against its "Relative Strength Index" (RSI), a momentum indicator that is the function of the average number of up days versus the average number of down days. The recent market highs aren't backed up by momentum, according to Suttmeier.
"As the market ticks to new highs here, for the rally that's occurred off the early February low, [the] momentum indicator has not confirmed those highs," says Suttmeier. "That means that the near-term highs are on less momentum."
Suttmeier sees the possibility of the S&P 500 index testing a range between 1,800 and 1,825. However, he believes market breadth works in the index's long-term favor; the ratio of advances versus declines means any potential test would be short-lived.
"I think the threat might be temporary and pullbacks are probably supported by market breadth," says Suttmeier. "It wouldn't surprise me one bit to see some backing and filling towards 1,825 – 1,800 or so and then see the S&P  pushed to new highs."
As well, Suttmeier also notes that the ratio of the S&P 500's financial sector relative to the index as a whole has dropped, also a potential problem for the market benchmark.
"It's important [from a] sentiment standpoint for the market to have the financials doing better," says Suttmeier. "That said, last year, there were a few rallies where financials weren't really leading. But, I think that is a risk factor for the market."
For the market to go higher, financials will have to follow; they comprise 16% of the index but are important to it nonetheless, according to Suttmeier.
"If financial perform better, than perhaps the market can go up into the lower 1,900s," says Suttmeier. "I think the financials right now are a drag given that it is the second-biggest sector in the S&P 500."
To see the full interview with Suttmeier as well as his explanation of his two charts, watch the video above.
- Personal Investing Ideas & Strategies