The S&P 500 has been in a trading range for the past month, and the price of the September futures contract is currently near the top of the range at about 1,120. Whether or not the market can break out of this range depends largely on confidence—will businesses start hiring, and will consumers start investing and spending again? I remain optimistic though that once we get through the dog days of summer, the market will end the year on a more upbeat note.

The stock market is caught in some cross currents right now, and we have diverging views. Which is the bigger threat ahead: inflation, or deflation? Will the economy fall into a double-dip recession, or sustain moderate growth? Will investors take risks by pouring money into stocks and commodities, or pursue the safety of cash and Treasuries? Your trading strategy depends on how you feel these factors will play out. Investors who believe inflation is not a threat and the double-dip is more likely would likely buy bonds and sell stocks. Investors who believe inflation is a threat and feel the economy is on a recovery track would likely buy stocks and sell Treasuries.

There has been a lot of talk about deflation, and on the surface, falling prices seem like a good thing. However, deflation erodes profits and asset values. Lower profits cause companies to cut costs, and that includes employees. Consumers curtail spending today, thinking prices might be lower tomorrow. One of the largest institutional participants in the bond market, PIMCO, seems to be taking the threat of deflation seriously enough to adjust positions. You can read more about that in recent Wall Street Journal articles and decide whether or not you agree—not all analysts and fund managers do.

Before you worry too much about deflation, keep this in mind. We have some very strong rallies going on in many commodities right now. In recent days, wheat hit a 22-month high above $7.80 a bushel, crude oil rose to above $82 a barrel, coffee hit a 12-year high above $1.85 per pound, and gold moved back above $1,200 an ounce. When you manipulate the data and remove food and energy prices from the mix, perhaps we do have signs of deflation. But the longer we have expanded money creation through fiscal and monetary stimulus measures, super-low interest rates and other quantitative easing measures, I don’t foresee deflation in any sustainable long-term fashion.

I am bullish the stock market long-term. I believe by year-end, the S&P 500 will be above 1,200. In the meantime, the market will struggle a bit with these conflicting concepts.  For S&P futures traders, look for a close two days in a row (or on a weekly basis) above 1,130, which would be a strong technical sign. The market’s peak during the third week in June was at 1,129, so that’s an important threshold to cross.

The outlook for the U.S. market will depend largely on jobs. Corporate earnings season has just wrapped up, and overall, reports were decent. Recent economic reports have been lackluster. Manufacturing has taken a step back, home sales remain anemic, and retail sales were just so-so. U.S economic growth is disappointing. The European debt crisis hasn’t been completely resolved, but the worst-case scenarios don’t seem likely.

One thing traders and investors should keep in mind is that we are entering what is historically a weak period for stocks. According to the Stock Traders’ Almanac, September has been the worst-performing month for both the S&P 500 and Dow Jones Industrial Average since 1987, and August is the second-worst. Even though you can’t rely on seasonal trends to repeat as fundamentals may be different this year, the fact that many market participants know about these historical tendencies and fear them can create a self-fulfilling prophesy.

If fear takes over and we get negative news in the coming weeks, I would recommend buying S&P futures on a pullback to 1,083 or 1,060. However, I don’t think the odds are great for a move under 1,000. On the chart, I see a possible head-and-shoulders reversal with the head at 1,010, the shoulder peak on June 8 near 1,037, and the neckline near 1,051. This projects a move from the breakout to 1,200 if this pattern holds.

We could see a correction in the next month, so if you buy on a meaningful dip, make sure to use an appropriate stop-loss, depending on your time horizon and risk tolerance. A break of 1,047 could see a severe move to 1,006 or even lower. But unless there’s a shoe ready to drop that I don’t see, I think the market’s prospects look better in the fourth quarter for the bulls.  In terms of near-term support, the 200-day moving average in the September S&P 500 futures comes in at 1,105. The 20-day is at 1,088. Elliott Wave analysis to me looks like we are in the “b” phase of the pattern, which is slightly bullish, and could see a minor “c” rally before any meaningful break.

Right now, corporate America is on the sidelines, and consumers are hoarding cash. They aren’t spending, because confidence is weak. According to the Commerce Department, the U.S consumer savings rate hit 6.4 percent in June, the highest in a year. Government data also showed that orders for manufactured goods unexpectedly fell 1.2 percent in June, following a 1.8 percent decrease in May.

We need confidence to improve to really get the market going. If investors continue to sit on the sidelines and consumers don’t pick up spending, the summer is likely to see a fairly stagnant range for stocks. A sustained improvement in the labor market would go a long way to improve confidence. So far, the news has been disappointing. The Labor Department reported non-farm payrolls dipped a greater-than expected 131,000 in July. The unemployment rate held steady at 9.5 percent. However, most all the jobs lost were temporary Census workers, and private-sector payrolls added 71,000.

Jeffrey Friedman is a Senior Market Strategist with Lind-Waldock based in Chicago. He can be reached via phone at 866-231-7811 or email at jfriedman@lind-waldock.com.

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