5 Signs That the Stock Market May Melt Up

— -- The historic market decline of 2008–09 has since been ruefully referred to as the “market meltdown.” The decline scared money out of stocks and into cash for one, two and even three years after the market started ascending in 2009. Fears of a repeat prompted many to sell low, only to buy high when getting back in.

The ensuing bull market has run hard — so hard that many, citing historical patterns and doubtless stung by the meltdown, talk about an approaching correction or a more severe decline. While many other market observers aren’t pessimistic, few are highly optimistic about the next several years. Maybe they don’t want to be accused of irrational exuberance.

While exuberance, irrational or otherwise, isn’t my style, I believe the market will probably continue to ascend for the next few years. And rather than another meltdown, I believe we could very well have a rapid rise — what I call a melt-up — amid sustained growth.

Many investors are concerned that we’ve had more than 750 trading days without a substantial pullback. But this isn’t unprecedented. In the period from 1928 through 1973, the average bull market lasted 1,140 trading days, and from 1974 through 2007 (the end of the last bull market), the average bull run lasted 2,600 days. If history is any guide, the current bull market is probably less than halfway through its life span.

Some say (arbitrarily, I believe) that after exceeding 17,000 in recent weeks, the Dow Jones Industrial Average isn’t likely to go much higher. But, stung by the meltdown, many doubted the growth that has brought us where we are today from 2008, when the Dow was at 10,000. At this rate, given current factors, the Dow may hit 20,000 by the end of next year.

Driving this growth will be the continued increasing flow of money into the stock market, driving up values. One reason for this is the lack of viable alternatives. People have to put their money somewhere. Bond yields are low, commodities have been hurting, and real estate gains are lackluster. So the demand for stocks will continue to rise.

And there are fewer stocks around these days because of mergers and acquisitions, companies like Dell going private and other factors. In 1997, the number of stocks listed on exchanges in the U.S. peaked at 8,800. Now, there are about 4,900. In the late 1990s, the Wilshire 5000 had more than 7800 stocks included in the index. Today, the number has dwindled to about 3,700 stocks. So, with the twin scenarios of increasing demand and decreasing supply, the existing supply of stocks will, on average, rise in value as money pours into the market.

Also, demand is increasing from investment trends among huge institutional investors, including large endowments and pension funds. The percentage of assets that these big investors had been putting into non-stock investments had been increasing, but that trend has begun to reverse. If that continues, it could mean the eventual rotation of about $3 trillion back into the stock market — a 17 percent gain in the S&P 500. Notable among early adopters of this trend is CalPERS (California Public Employees Retirement System), one of the biggest institutional investors on the planet. CalPERS has announced it will be pulling money out of alternative investments and derivative investments such as hedge funds and putting it into plain old stocks.

The typical doubting Thomas contends that this infusion of new capital won’t last in a market that has gone so long without a correction (a decline of 10 percent or more). Chicken Littles talk about how we’ve gone 37 months without a correction or a more severe pullback, and point out with trepidation that corrections on average have occurred every 24 months. But mathematical averages can be misleading. A close look at the data shows that it really hasn’t been long in terms of market history. Since 1950, there have been at least five market periods when the market has gone 64 months or more without a severe one- or several-month downdraft. From 1950 to 1957, this period was 90 months; from 1990 to 1998, 93 months and from 2002 to 2008, 70 months.

What’s more, in some large chunks of the market, we’ve actually had corrections in recent years. Seven of the 10 groups that make up the S&P 500 suffered a 10 percent correction, as have the Russell 2000 (index of small-company stocks) and the NASDAQ composite index. Jim Paulsen, CIO of Wells Capital Management, calls this a series of “rolling corrections.” So a good bit of the air that people fear is building in the overall market has already escaped.

The meltdown/correction crowd also likes to talk about rising interest rates. Yet, the notion of significant increases in rates is beginning to take on apocalyptic status, always imminent but never arriving. The rising-rate crowd is a bit cowed now that Fed chairman Janet Yellen has assuaged Wall Street fears by indicating that the Fed isn’t going to increase short-term rates anytime soon, and the Fed is generally sanguine about inflation, at least through 2015. Though there has been inflation in some consumer items like food, mortgage rates are holding steady at historically low levels.

Moreover, the belief that an increase in interest rates would necessarily drive the market down is an assumption not supported by history. Since the mid-’90s, rising rates have been accompanied by rising markets about as often as not. For example, when short-term rates doubled in the 1990s, the S&P 500 increased fourfold, and when rates increased five-fold from 2002 to 2007, stocks doubled. So there may be nothing to fear from rising rates except rising rates themselves.

A melt-up is more likely than a meltdown, based on various other economic factors:

The Dow Theory Forecasts state that bull markets have three distinct phases. In the first phase, stocks start to rise from low levels because confidence in business revives. In phase two, stock values increase with rising earnings and dividends. In the third phase, rampant optimism and speculation pushes stocks higher. Historically, some of the market’s best gains occur in the third phase. Some would say we’re in that last phase now, but optimism is hardly rampant, as evidenced by so many doubters. There’s room for expectations and hopes to rise and with them, the overall market.

So if you’re waiting for a big nasty correction to invest, you could be waiting a long time — and missing out on gains.

Dave Sheaff Gilreath is a founding principal of Sheaff Brock Investment Advisors LLC. He has more than 30 years of experience in the financial services industry, beginning with Bache Halsey Stuart Shields and later Morgan Stanley/Dean Witter. At Sheaff Brock, he shares responsibility for setting investment policy, asset allocation and security selection for the company's managed accounts. He also consults with the clients on portfolio construction. Gilreath received his Certified Financial Planner® (CFP) designation in 1984. He attended Miami University in Oxford, Ohio, where he earned a B.S. degree.

Any opinions expressed are solely those of the author and not of ABC News.