False sense of security

By Jani Ziedins | End of Day Analysis

May 05
S&P500 daily at end of day

S&P500 daily at end of day

End of Day Update

MARKET BEHAVIOR
Stocks gapped lower at the open, but recovered those losses before midday.  Early weakness bounced off the 50dma, holding this widely followed technical level.  Volume was one of the lightest of the year and shows few were participating in today’s move.

MARKET SENTIMENT
Early weakness was driven by escalating conflict in Ukraine, but so few people sold the news that we bounced back in little more than an hour.  But at the same time, just as few people bought the dip, showing there isn’t much engagement in this market on either side.

Most who own this market are content holding and those sitting in cash are uninterested in buying in.  While the reluctance of owners to sell kept supply tight and propped up prices, we are starting to see signs demand is falling off.  This market has stalled multiple times in the upper 1,800s and has been able to break through the 1,900 barrier since early March.  Normally consolidation is constructive and suggests higher prices, but Friday’s lethargy following one of the strongest employment reports in multiple years shows few are willing to pile into this market near record highs.  While many claimed the headline beating employment numbers were undermined by the fine print, that was just the excuse people used to avoid buying this market.  While the market recently maintained a half-full outlook, the way it responded to this employment report was definitely half-empty.

Contrary to popular opinion, complacency is bullish because it means few owners are interested in selling no matter what headlines come across the wire.  The resulting tight supply is a big tailwind for prices.  But supply is only half the equation.  Weak demand trumps tight supply and there are signs we are approaching this tipping point.  If no one wants to buy, prices fall no matter how confident and optimistic owners are.

TRADING OPPORTUNITIES
Expected Outcome:  Momentum is stalling near old highs.
We are slipping into the frequently listless summer trading season and those with cash seem uninterested in initiating new positions near these record highs.  Without new money, prices will invariably weaken and we will slip back into the heart of the 1,800/1,900 trading range.

Alternate Outcome:
Four months of sideways chop is refreshing the market and building a base for the next move higher.  While flat bases typically take longer to form than more dramatic selloffs, we’re largely unchanged since the start of the year and four months is a decent consolidation, especially one that includes two one-hundred point selloffs.  While it seems likely this market will continue resting through the summer doldrums, there is no reason we couldn’t get an early start to a fall rally.

Trading Plan:
The complete lack of excitement surrounding Friday’s blowout employment headlines is a clear signal this market is not poised to explode higher.  For bulls that means this is a better place to take profits than add new positions.  Swing-traders could use this lack of strength as shorting opportunity if the market stumbles back into the heart of the trading range.  But any short trade here is simply exploiting the natural ups and downs, not getting ahead  of a market crash.  We are in a range bound market and both sides should take profits early and often.

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.