Don’t Worry, Be Happy

S&P500 daily at end of day

End of Day Analysis

MARKET BEHAVIOR
Stocks continued Friday’s strength and climbed three-points to finish at 1,808, setting a new closing high.  So far the market remains at the upper end of the recent trading range between 1,780 to 1,810 as it consolidates gains.  Are we about to hit our head on the upper end of this range, or breakout?  The market will let us know as early as Tuesday.

MARKET SENTIMENT
Friday’s stronger than expected employment report continues the “no worries” theme.  Traders no longer fret over impending doom and gloom the way they did through the first 10-months of the year.  We gradually eliminated all the major risk factors, including Fiscal Cliff, Sequester, Default, European Contagion, Shutdown, and Taper.  The market rallied strongly as these terrifying headlines turned into non-issues.  More evidence that buying when other people are fearful is a very profitable strategy.

But what happens to a rally that thrives on fear, runs out of fear?  So far momentum is continuing our ascent higher, but we must always ask ourselves who is the next  buyer?  Earlier in the year we had a plethora of money sitting on the sidelines in anticipation of the widely expected correction that never came.  As we conquered every risk thrown our way, reluctant money’s fear of a correction was replaced with a fear of being left behind.

It took a while, but the crowd finally embraced this market.  This is in stark contrast to this time last year when everyone was convinced the Fiscal Cliff was going to annihilate our fragile economy.  With hindsight as our guide, it is painfully obvious what a fantastic buying opportunity that was, but what about now?  Is it too easy to buy here?  Should that alone make us fearful?

TRADING OPPORTUNITIES
Expected Outcome:
When in doubt, stick with the trend.  That has been the right call all year and more recently we keep bouncing back from even the most benign dips.  Last week we were down an almost trivial two-percent from the highs before the employment rebound pushed us right back to record highs.  The question is if there are enough chasers left to continue buying these highs, or if last week’s five-day slide is a material sign of flagging demand.    While the economy is chugging along, markets rarely respond to fundamentals in obvious ways.  That would be too easy and we all know the market is anything but easy.

Alternate Outcome:
If I had a dollar for every time I heard someone say this market’s gone too far.  Those guys were forced to eat their words, so what makes this time any different?  If picking tops were easy, we’d all be hanging out on the beach in some tropical destination drinking ice-cold beverages instead of huddling around space heaters trying to survive this cold spell.

Trading Plan:
With so little fear remaining in the market, the probability of an explosive move higher is greatly diminished.  That leaves two options, a sideways grind higher, or the selloff everyone’s been waiting for.  We are quickly establishing a trading range between 1780 and 1810.  Since we are at the upper end of this range, look for recent strength to stall.  Depending on how dip-buyers respond, we could bounce at 1800, or slip to 1780.  Recent weakness set a floor at 1780 and many traders will use this level as a stop-loss.  Breaking through will trigger a wave of selling and we will quickly test the 50dma.  If we bounce, it becomes another routine dip-buying opportunity.

Plan your trade; trade your plan