Mar 01

A Common Sense Reminder

By Jani Ziedins | End of Day Analysis

End of Day Update:

The S&P500 surged to fresh highs in the biggest up-day since the election. Trump addressed Congress Tuesday night and clearly the stock market liked what it heard. Today’s move caps a 15% rally since the November lows. It’s been a great ride, but the pressing question is if it is time to get off, or if this thing has a lot further to run?

Let’s start with the basics, everyone knows the market moves in waves. Most traders acknowledge even the strongest markets move two-steps forward, one-step back. While we cognitively recognize this, we often forget it in the heat of battle. Human nature compels us to find patterns and extrapolate those patterns far into the future. This behavior worked well when it came to surviving in the wild, but many of these instincts are a liability in the financial markets.

Traders are excited, everyone is making money, and it is hard to resist the crowd’s enthusiasm. Everyone else is making money and we want to join the party. It is perfectly natural to feel nervous when everyone around us is nervous and relaxed when everyone else is relaxed. When a lion entered a camp, those that automatically ran when everyone else was running survived while those that waited to see what the fuss was about quickly became lunch. We’re pack animals by instinct. Rather than fight it, just recognize it and factor it into our trading decisions.

 

And this brings us back to the current market. We surged 15% in four-months with only the smallest dips along the way. Then today we experienced the largest single-day gain of the entire move. Let me ask the rational side of your brain, is today’s surge the start of a much steeper rally higher? Or is it more likely to be part of a near-term climax before a much needed pullback and consolidation?

Let’s just get this out of the way pullbacks are inevitable. It will happen because it always happens. The hard part is getting the timing right. Traders don’t get paid for knowing what will happen, they get paid for knowing when it will happen. And so the question isn’t if this breakout will stall and step-back, the question is when. Without a doubt this rate of gains is unsustainable. But the same thing could have been said yesterday, last week, or even last month. While I don’t know when we will peak, what I do know every day brings us one day closer.

While owners feel good and comfortable with their positions, we really should be asking ourselves if this is a better place to be adding new positions or taking profits. Risk is a function of height and by that measure this is the riskiest the market has been in quite some time. Momentum is clearly higher and will likely continue, but I feel much safer buying discounts than paying a premium. It is simply a matter of risk versus reward. This breakout carried us to record highs and has already moved us 15% above the November lows. While we can keep drifting higher, what are the odds we rally another five, ten, or fifteen percent? With history as our guide, a near-term dip is more likely than a continuation. As we started with, markets move in waves. You know it, I know it, everyone knows it. Unfortunately many in the crowd have temporarily forgotten it.

All of that said, we need a something to shake the confidence of stubborn owners. Something to get them to sell this market they are so excited about. Two bogies on the immediate horizon are the Fed’s interest rate decision and Republicans getting together to repeal Obamacare. If either of these don’t go the market’s way, that could be what gets traders to start looking down and realize how high they are and convince many to start taking profits.

Don’t get me wrong, I’m not a doom-and-gloom perma-bear. I’m simply being a realist. The biggest up-day in a nearly straight-up 15% move makes me nervous. Markets move in waves and it’s been some time since we took a step back. Be careful.

Jani

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Feb 16

Where we go from here

By Jani Ziedins | End of Day Analysis

End of Day Analysis:

The S&P500 snapped a seven-day win streak Thursday, but it is a stretch to call a 0.09% bump a meaningful loss, especially since we rebounded nicely off the intraday lows.

Looking at the chart it is obvious the recent rate of gains is unsustainable and today was finally the day we took a break. While there might be a little more upside left in this move, we are definitely closer to the end than the start. If a person is not already in the market, they are late to the party and should resist the urge to chase. Risk is a function of height and it is more dangerous to buy up here than it was before we broke out. Wait for the inevitable cooling off before rushing in. Institutional money hates chasing breakouts and we should follow their lead. If big money is holding back, in a bit of a self-fulfilling prophecy their lack of buying actually creates the dip they are waiting for. We should exercise the same restraint. As the saying goes, “It is better to miss the bus than get hit by the bus!”

It’s been a tough stretch for bears who were convinced the market was going to tumble from 2,300 resistance. Instead we broke through and surged 50-points. But that shouldn’t come as a surprise to regular readers of this blog.

I wrote on February 9th:

“the thing to remember is we tumble from unsustainable levels quickly. We have been hanging out near these record highs for two-months. If this market was fragile and vulnerable, we would have crashed a long time ago. There have been more than enough reasons for this market to selloff, yet every time it refuses the invitation and we run out of sellers. Say what you will about the fundamentals of this market, but when confident owners don’t sell bearish headlines and weak price-action, supply stays tight and prices remain resilient. If the sellers failed to materialize over the last eight-weeks, why would they show up now and sell far more benign headlines and price-action? That is the question every bear needs to answer. If it didn’t happen then, why is it going to happen now?”

Bears could have saved a lot of money if they used a little common sense, but that is that is a lesson to save for next time. Now that we are up here, the question is what happens next? As I already stated, the recent rate of gains is unsustainable, so at the very least expect the market to slow down. That doesn’t mean we are going to tumble, just that we need time to consolidate recent gains. As I wrote on February 9th, confident owners are ignoring all the reasons to distrust this market. Until we find something new and unexpected to shatter this calm, expect the bull market to remain resilient.

If we cool off, the nearest level of support is 2,320. That acted as resistance last Friday and we bounced off that level Monday and Tuesday. I would not expect a routine pullback to dip a lot further than that. Traders that missed the initial breakout can use this dip as a safer entry point.

Until something new and unexpected happens, expect this post-election drift higher to continue.

Jani

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