Jan 07
S&P500 daily at end of day

S&P500 daily at end of day

End of Day Analysis

MARKET BEHAVIOR
Stocks showed healthy gains for the first time in 2014 and we finished up 0.6%.  We recovered the last two days of losses and are only a dozen points off the New Year’s Eve highs.  The market broke above recent resistance at 1,810 and is in the upper end of a trading channel that stretches back to the November 2012 lows.

MARKET SENTIMENT
2013 was a great year and many think we cannot produce a repeat performance in 2014.  A recent Yahoo Finance poll shows most people expect more modest gains this year.  As contrarians, if we discount what the crowd predicts, that leaves us with three other outcomes; up a lot, down a little, and down a lot.  While intuition tells us lightening doesn’t strike the same place twice, the market often strings together multiple years of eye-popping performances during powerful bull markets like the unstoppable 80’s and 90’s.  Modestly lower is always a possibility if the fragile recovery stalls for a few quarters.  Recent gains were predicated on the expected recovery and any hiccups in company earnings will pressure stocks.  Much lower requires dramatic new developments traders don’t see coming.  Since worries are few and far between, the market is vulnerable to a cascade of selling like we saw following the US debt downgrade in 2011.

If a person is bullish, then they can be really bullish.  If a person is bearish, they need to decide if that is modestly bearish because they think the market is a little ahead of itself, or if they are a lot bearish because they think the market is oblivious to major risk factors not currently priced in.

Today’s bounce following three days of modest selling shows owners are content owning and few are locking in recent profits.  While complacency is often seen as a bad word in markets, in reality it is often bullish because complacent owners hold through volatility and that keeps supply out of the market.  Only after we run out of buyers does complacency become a problem as traders continue holding while the market keeps sliding lower.

Source: Yahoo Finance 1/7/2014

Source: Yahoo Finance 1/7/2014

TRADING OPPORTUNITIES
Expected Outcome:
How do we tell the difference between bullish complacency and bearish complacency?  Easy, the market keeps going higher on bullish complacency and bearish complacency  forms a series of lower highs.  Since we are within 1% of all-time highs, it is premature to call this complacency bearish.  That doesn’t mean we cannot see normal gyrations as the market consolidates recent gains, but so far recent market trade points to bullish complacency.

Alternate Outcome:
Quarters often exhibit different personalities as the herd changes trading strategies.  Sometimes they chase the market higher, other times they all sell together, and most often they cannot make up their mind and we get stuck inside a trading range.  Q4 of 2013 was a chasing quarter.  If the market changes its mood, that leaves us with either a sideways consolidation or a reversal of trend.  Time will tell, but price will give us tradable clues.

Trading Plan:
It always comes down to timeframe.  Longer-term holders can continue holding for the eventual economic recovery.  Shorter-term traders can look for a trading range to develop following the strong Q4 performance and swing trade the consolidation.  Value investors are finding it increasingly difficult to identify good buys.  Some are digging to the bottom of the barrel and betting on laggards catching up, but patient managers are waiting for the inevitable five or ten percent dip that happens every year.

Plan your trade; trade your plan

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About the Author

Jani Ziedins (pronounced Ya-nee) is a full-time investor and writer who has successfully traded stocks and options for more than a decade. He earned a B.S. in Mechanical Engineering from the Colorado School of Mines and an MBA and M.S. Marketing from the University of Colorado Denver. His prior professional experience includes manufacturing engineering at Fortune 500 companies, structural engineering, small business consultant, collegiate instructor, and managing investment real estate. He is now fortunate enough to trade full-time from home, affording him the luxury of spending extra time with his wife and two young children.