The Heron Capital Management investment methodology studies trends in other markets and certain technical indicators to gain insight into the primary stock market trend.

Technical indicators can be used in conjunction with fundamental and quantitative information to improve stock market analysis. There is more risk in stock market investing when overall valuations (e.g. S&P 500 Price/Earnings ratio, S&P 500 Price/Book ratio) are high. If money is flowing into the market, through mutual fund sales, share repurchases or mergers for cash, stock market prices tend to rise. If money is flowing out of the market through mutual fund redemptions or initial public offerings, stock market prices tend to fall. If participation in a stock market advance is broadbased (as seen by more new highs than lows, more advancing stocks than declining) risk in stock market investing is reduced. Price action on days of heavy volume indicates the strength of the primary trend (e.g. rising prices on heavy volume is bullish, rising prices on low volume is neutral or bearish.)

Trends in the Bond Market have a direct impact on stock prices because higher bond yields lead to higher corporate borrowing costs which lead to lower earnings and therefore lower stock prices. Changes in bond yields are driven by perceptions of inflation and by perceptions of Federal Reserve Bank policy.

Inflationary expectations are driven by trailing indicators of inflations such as the Producer Price and Consumer Price Indices, and the GDP deflator, and forward indicators of inflation such as rising commodity prices, high rates of capacity utilization or rising wage rates. Long term rates fluctuate around investors perceptions of inflation.

The Federal Reserve studies these same reports and increases short term rates to cool an overheating (and therefore inflationary) economy or reduces short term rates to stimulate a lagging economy. Short term rates in the bond market are tied closely to the Fed Funds rates which is targeted by the Federal Reserve in implementing monetary policy.

Falling currency rates signal fears by holders of US currency that their dollars are being devalued through inflation, which has an impact on Federal Reserve policy and the Bond Market. Falling rates may also cause international investors to avoid US dollar denominated assets including US stocks.

Rising commodity prices signal that the economy is running at full steam and that demand for inputs is high. If price increases filter through to the PPI and CPI reports, inflation trends higher, bond yields rise and the Fed has reason to tighten short term rates. Under these circumstances, there is more risk in investing in stocks.

In our monthly reports, we rate each of these markets Bullish, Neutral or Bearish for their impact on the Stock Market and through this analysis derive an overall Bullish/Bearish rating. Depending on the rating, we will be more or less aggressive in putting money to work in the stock market.