Five months ago, the market took a -20% nose-dive between September 21st and December 24th. Since then, the bounce off the near-term bottom has started to chop sideways, which is completely normal behavior. If you look all the way back to July of last year, the market has gone absolutely nowhere. Today, investors want to know whether stocks are going to continue heading higher from here, or if we’ll see a resumption of the long-term downtrend that began in December.
I’ve been getting bored with the same old chart this past several weeks, so I decided to “decorate” it a little bit. Maybe this helps to solidify the concepts anyway. After all, who wants to learn when it’s never any fun?!
The red, shaded area below is the long-term trend, which I define in this chart as the 200-day moving average (the average movement of the S&P500 over the last 200 trading days).
The bottom pane is a momentum indicator called RSI (Relative Strength Index), which is calculated using the high, low, and close of each day, how big the up-days are, how big the down-days are, and it then treats the look-back period like a conveyor belt. I normally like to use 14-days for my timeframe and 5-days for short-term buying/selling decisions. Here are a few rules:
- Above 70 = near-term overbought / exhausted
- Below 30 = near-term oversold / depressed
- Between 30 – 100 = Bullish, positive, healthy range
- Between 0 – 70 = Bearish, negative, unhealthy range
Now, go ahead and be a stock analyst today. What do you see?
- Is the market above its 200-day moving average? YES
- Is it currently overbought or oversold? NO
- Has it been trading in a bullish range? NO
- Has it been trading in a bearish range? YES
What else do we see? I also see Mario, persistently trying (and failing) to break the brick ceiling above the highs from October, November, December, and March. Let me also point out the declining momentum in RSI (lower pane) after the inability to climb decisively above 70. Mario is frustrated, to say the very least.
For these reasons mentioned above, as well as the things you probably noticed yourself, I personally don’t see this being a long-term uptrend. On a more positive note, I also don’t see the market in a long-term downtrend any longer, either. What do I see is a flat, trendless market where one should be extremely cautious.
Why have we seen such a swift stock market rally this past 2 ½ months? Primarily, I think it’s more FOMO (Fear of Missing Out). Rising prices have continued to attract money from cash and other investments as investors worry that they’ll miss out on more speedy growth.
The Federal Reserve meets next week, and a lot of attention will be paid to every little word that comes out of Chairman Powell’s mouth. The market will be listening to whether he reiterates his comments in the prior meeting to leave rates alone through the remainder of the year and after such a fast bounce in stocks, there is some short-term risk here as the Mario continues to try and break through that brick ceiling of potential resistance.
Said another way, it would be completely normal for investors to hit the <sell> button and for the market to take a breather in the next couple weeks. I don’t think people should be chasing stocks at these levels, but I do feel that same “chasing” is what has caused the rally. Bottom line, the margin for error is larger than I’d like it to be right now, and the risk vs. reward landscape isn’t favorable to be going “all-in” just yet.
When might it make sense to go “all-in?” I have no idea. But here are some possible scenarios that could unfold, along with my game plan:
- Stocks break-out above the brick ceiling next week = “all-in.”
- Stocks “fake-out” instead of breaking-out and we sit tight with only a portion of our money invested until either #1 occurs – or ‘till #3 happens, below.
- Stocks break-down and we see a resumption of the long-term downtrend that started in December and as a result, we sell most, if not all of our current holdings.
Meanwhile, it’s a game of patience. In both 2000-01, as well as in 2007-08, the market chopped us up for full year before it really fell apart and stocks became a no-touch. That’s 12 full months of pure nothing – which means a LOT of patience must be exercised at times like this. Chasing returns and falling victim to FOMO can strip the armor from your retirement portfolio, rendering your hard-earned savings vulnerable to even bigger losses.
We can hope that the worst is behind us, and that this was a mere correction that will resolve to the upside, but “hope” is not a strategy. Until time passes and we know whether or not we’re in a correction or a crash, all we do know is where we stand today and how much risk is appropriate in our retirement portfolios as the trends work themselves out.
Till next time…