Nasdaq’s recent weakness signifies an important change in market leadership that seldom happens without a strong reversal of overall market direction as the market seeks new leaders.  Nasdaq has now declined 7.3% since its peak on March 6^th while the S&P 500 is off 3.4% since its high on April 4^th.  Moreover, the key momentum stocks responsible for most of the previous strength in Nasdaq are down much more.  Since their respective peaks Three D Systems is down 51%; FireEye 49%; Splunk 45%; Yelp 37%; Tableau software 35%; Pandora 35%; and Workday 35%.  Others such as Tesla, Netflix, Facebook, Biogen and Gilead are also off significantly.  All of these stocks either have no earnings or are selling at extremely high price/earnings multiples.  This is reminiscent of March 2000 when the dot-com bubble started to burst amid widespread investor denial that the bull market could come to an end.

The probable change in leadership is also accompanied by other indications that the long cyclical bull market may have ended.  The number of new daily highs in the market has diminished on each successive rally.  Margin debt is at record highs, both on an absolute basis and relative to GDP.  According to the Investor’s Intelligence Survey, bearish sentiment is at the lowest level since 1987.  Adding to the malaise, this is happening at a time when the Fed has begun to pull back from its Quantitative Easing policy that has boosted stocks in the last few years although the economy is still staggering along at a tepid pace of growth.

Yesterday (Wednesday) the market overreacted on the upside to the release of the Fed minutes of the March meeting on the grounds that the FOMC appeared more dovish than originally thought. The ill-conceived rally failed to hold up and for good reason.  The Fed had already issued an explanatory statement after the meeting followed by a Janet Yellen press conference.  Nothing in the minutes changes the original statement or comments at the press conference.  The statement indicated that interest rates would be kept low for some time after QE ended.  When Yellen was pressed to state how long that might be she offhandedly said that it could be six months, but was subject to the incoming data as are all Fed decisions.

To be sure, there was some question about the so-called “dots” release, based on a survey of the Fed governors that indicated a very slight rise in the fed funds rate one-to-three years out.  The minutes show the FOMC discussing how to explain this and avoid confusion, and that it did not mean a change in the Fed’s policy.  Furthermore, at her press conference Yellen explained that the “dot” projections changed slightly from time to time without necessarily indicating a change.

In sum, we think there has been a distinct change in market leadership at a time when the Fed is tapering its QE program and economic growth is inadequate. In our view this is part of a topping process that is likely to result in a severe market decline.