Earnings are supporting higher stock prices and new records on the S&P 500 seem within reach.
S&P 500 2,000?
SPDR S&P 500 ETF Trust (NYSEARCA:SPY) ended the week virtually unchanged. Friday’s close of $169.11 was only $0.06 below the previous week’s close, a difference of 0.04%. It was a relatively dull week with the difference from the low to the high being only 1.38%. Since the bull market began in 2009, the average weekly range of SPY has been 3.38%.
Earnings continued to come in above expectations, and quarterly earnings for companies in the S&P 500 are on track to reach an all-time high. Analysts are optimistic that this trend in earnings should continue for at least the next year, expecting earnings per share (EPS) for the stocks that make up the S&P 500 index to grow 12%-15%.
If earnings continue to meet or exceed expectations, the S&P 500 should trade at about 1,740 with a P/E ratio of 16. This indicates that there is little upside left in the market unless the P/E ratio expands.
If the P/E ratio rises to 17, the index would trade at about 2,000, which is a reasonable target for the next year. This could be a conservative estimate. Over the long term, since 1989, the average P/E ratio has been close to 19.
Earnings present one reason to expect higher stock prices, and relative strength (RS) analysis also makes a bullish case. In a healthy bull market, small-cap stocks usually outperform large-cap stocks because investors target larger gains with more speculative investments in a strong market.
The chart below is a ratio chart that shows that the iShares Russell 2000 Index (ETF) (NYSEARCA:IWM) has been relatively stronger than SPDR S&P 500 ETF Trust (NYSEARCA:SPY) since the market bottom last year. A ratio chart combines the daily changes of the funds into a single line. When IWM is outperforming, the ratio rises, and it declines when SPY is outperforming.
For now, the trend remains up and traders should be participating in the stock market on the long side.
Gold Continues Recovering
SPDR Gold Trust (ETF) (NYSEARCA:GLD) gained 2.93% last week, finishing 12.3% above its June low.
Volatility in SPDR Gold Trust (ETF) (NYSEARCA:GLD) has reached a two-year high, and we should expect to see volatility fall. Volatility is shown with Bollinger Bands in the chart below. Bollinger Bandwidth measures the distance between the upper and lower Bands. It follows a general pattern of expansion and contraction.
As volatility contracts, prices should drift slightly higher. The upper Bollinger Band will serve as a price target, but that Band will likely be falling in the next few weeks, which will lower the potential upside of the trade. The upside of SPDR Gold Trust (ETF) (NYSEARCA:GLD) will be difficult to assess while volatility falls toward an average level, but the downside risk is still high although it should be limited to the June low.
This Week’s News
The first days of August could bring market-moving economic news. In general, the news is expected to confirm a slowly expanding economy. A growing economy could boost earnings more than expected and traders should be happy to see that type of news.
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