Don’t fight the tape

Markets are down modestly, but support is holding up.  Continue holding for the time being, but if you are not in the market, don’t come rushing in now because we are closer to the end of this rally than the start.  The media and many traders are debating the upcoming election, but how the market reacts might surprise you.

S&P500 daily @ 2:47 EDT

MARKET BEHAVIOR

Another red day in the markets, but we are still holding above 1450.  This level has provided solid support and remains an encouraging sign.  Most often buying dries up quickly following unsustainable rallies.  Holding this level for more than a week shows real support and a continuation from here is more likely than a reversal.  The pattern of modest and controlled pullbacks is continuing and time will tell if this consolidation is building yet another launching pad for the next surge higher.

MARKET SENTIMENT

To date the market is largely ignoring bad news and giddy over modestly good news.  Don’t fight the tape when the market is clearly inclined to go higher.  Now this rally can’t go on forever and we are in the later innings, but so far the sellers are impotent to drive the market lower, meaning the high probability trade remains to the upside.  Only after all the bears and cynics have given up do we need to start worrying about a pullback.

A couple of key psychological mile markers on the horizon are the end of the third quarter on Friday and the election in just over a month.  I addressed Q3 in Friday’s post if you are interested.  The election is the next monumental thing after a few regular data points like the employment report in two weeks.

Conventional wisdom says a Republican win would be better for the economy and stock market, but the truth is the market is politically agnostic.  We’ve had phenomenal rallies under Democrats and crushing bear markets under Republicans, so it isn’t as simple as claiming one side is better than another.  The truth is all the market really craves is a stable business environment where it knows what all the rules are.  Uncertainty is the real demon that kills rallies because investors fear the worst when presented with ambiguity.

The pre-election poling is competitive, as is the case for most presidential elections, but I have yet to see a single poll giving Romney the edge and everything so far shows this is Obama’s election to lose.  And no doubt the market is already pricing in an Obama win since the market is always looking ahead.

But what will surprise most people is how a market expecting a Democrat win is rallying.  While Obama’s taxes and regulation are anti-business, at least everyone knows what the rules of the game are.   Romney is promising to “repeal and replace” healthcare and financial regulation, meaning all those bitter, partisan debates from the last couple years will be coming back under a Romney win.  And to further muddy the waters, Romney is promising to fire Bernanke, making the future of US monetary policy another wildcard.

Many will try to argue with me on this, but the market’s attitude is indisputable.  Clearly the markets are rallying into what looks to be an Obama reelection.  And if you need more proof, look at the reaction to the Supreme Court upholding Obamacare.  What was a crushing blow for the small-government, low-regulation, low-taxes movement has been a boon for the stock market as we are up 10% since the June 28th ruling.  The stock market preferred the certainty of Obamacare over the uncertainty of reopening the health care debate.

The key to making money in the markets isn’t thinking about what it should do, but understanding what it does.  In this case, the market clearly favors status quo over “repeal and replace”.

TRADING OPPORTUNITIES

The rally is consolidating, but all good things must eventually come to an end.  We probably have more upside left, but are closer to the end than the beginning of this run.  Be ready and willing to take worthwhile profits and wait for the next buying opportunity.  This isn’t about making all the money, just the highest probability money.  It is a fool’s game to try to pick the top, so never regret selling early.  Take your profits and move on.  It is what the most successful traders do and is what we should do.  Bulls make money, bears make money, but pigs get slaughtered.

Stay safe