The stock market has steadily rallied since early October. Overbought conditions have been worked off by sideways trading rather than dips. Over this period, the S&P 500 (NYSE: SPY) is 8% higher and has moved decisively to all-time highs.

One strange circumstance of this rally is that manufacturing data and the broader economy continue to slow and lose momentum. Based on recent data, Q4 GDP is expected to come in at 1% which would be close to a cycle-low. Manufacturing continues to be contractionary in the US and across the globe with almost nine months of sub 50 ISM readings.

Stocks dropped immediately dropped following the report, however, the weakness was quickly bought, and the S&P 500 finished almost 1% higher off the day's lows. This dynamic of sell-offs on bad news immediately being bought is a sign that markets have priced in the bad manufacturing news and art anticipating future improvements. If those improvements don't materialize, stocks will certainly give back these gains.

Stocks are behaving as if this is the nadir of the manufacturing slowdown, and growth is going to pick up in future quarters. In this context, the price action along with the newsflow makes sense. This is confirmed by the price action of leading cyclical stocks like Caterpillar (NYSE: CAT) which missed earnings and lowered guidance but saw its stock rally. This indicates capi...