David Schwartz: Expect short-term strain

Last week marked the first anniversary of this bull market. The FTSE All-Share index has risen 53 per cent since shares bottomed out last March. It is the third-best start to a bull market (out of 17) since the second world war.

For how much longer will this rally run? A scroll through the record books provides an interesting perspective. The average bull market runs for 34 months. But those that kick off in an explosive fashion end sooner.

Four other bull runs since the second world war enjoyed powerful first year rallies.

The biggest gain began in December 1974. Shares shot up by an eye-watering 146 per cent in the first year, the greatest start to a bull market. It was clearly too much, too soon. The advance ended one month later, the shortest rally in the record books.

Three other big gains were in the 50-90 per cent range. Each of them eventually ended after a run of 22 to 29 months.

Given just three comparable first year kick-offs to draw upon, my data provide no iron-clad answers. Even so, this admittedly “soft” indicator suggests we could have another year or so to go before the next serious down-leg occurs. Other trends, reported in earlier columns, reinforce my view that today’s bull market has further to run.

But in spite of this longer-term optimism, I worry about the possibility of a temporary dip in the immediate future. One concern is Budget day on March 24. Shares often fall near Budget day when taxes have been rising, as the market expects further increases.

Another worry is the upcoming election. History shows that the three-week run-up to election day typically produces either losses or tiny gains of less than a half of 1 per cent. Since 1964, only two out of 12 elections produced significant profits in the run-up to an election.

Fears about a hung parliament plus the inability of government to deal firmly with our economic and financial woes add to my election-linked worries.

The value of sterling is also worth considering. It has fallen sharply in recent weeks. Analysts say the decline boosts profits of UK multinationals once foreign earnings are converted into sterling. This helps to explain why the powerful February rally occurred. But once sterling stabilises, if it has not done so already, the stock market will lose a key growth trigger.

On balance, I see little upside potential for UK shares in the next few months. I expect the FTSE 100 to fluctuate in a trading range of roughly 5,000 to 5,700 during this period.

Trading ranges can be good for traders. But they require a different mindset from what is required in “trending” markets – when markets are moving either up or down.

Buy and hold was the best strategy to follow at this time last year, when many shares began to spurt. But buying and holding is rarely fruitful in flat markets. Hoping that a rising tide will lift all boats is often wishful thinking if the tide is not rising.

My preferred approach to trading when markets hit a plateau is to select companies that are not closely monitored by the City and are likely to offer an upside earnings surprise in the near future.

A good example is my recent purchase of shares in 600 Group (SIXH), a manufacturer and distributor of precision engineering products. Shares in the company are not actively traded. Fewer than £6,000 worth of shares change hands on an average day. The company is clearly off City radar screens.

Our chart illustrates that the shares were badly beaten down in the recent recession and now show signs of bottoming out. They are well-supported just below current prices, so there is limited downside risk for me if the expected recovery unfolds at a slower rate than I anticipate.

The 600 Group’s interim statement of January 26 reported positive recovery signs in its two main markets: machine tools and lasers. Order intake rose by 20 per cent in recent months. Overhead costs have been slashed. But City investors took little notice.

The company says the final steps in a massive cost reduction programme will be completed in the current financial year. Given the possibility of rising sales and reduced restructuring charges in the year ahead, I expect to see a return to profitability soon. I shall be a holder of these shares when City institutions eventually wake up.

Stock market historian David Schwartz is an active short-term trader writing about his own trades. Send any comments or suggestions to tradersdiary@ft.com