MARKET IS DAMAGED – YEAR END RALLY HAS TURNED INTO YEAR END BOUNCE
Posted by Pete Stolcers on October 25
Posted 9:30 AM ET – Yesterday stocks plunged again and the longer-term technical picture is changing. Trade deals with China and the EU are unlikely, the Fed has been steadfast in raising rates, credit concerns are bubbling up and the November election polls suggest that Democrats will win the House. These storm clouds have been looming for many months and investors have reached their breaking point. I still believe we will see a nice bounce off of this level, but my target is much more passive.
China and the US are in a heavyweight battle and neither side is anxious for a deal. First they want to inflict as much damage on the other is possible to demonstrate that they have the upper hand. The EU is completely dysfunctional and they can’t find a Brexit solution after three years. A trade deal with the US won’t happen until Trump puts their feet to the fire (deadline).
Mexico needs to stop the immigrant caravans crossing their country or the US trade deal might be off.
The Fed is likely to tone down its rhetoric after a 10% market correction. They say they are not influenced by the market, but they are.
Credit concerns have been popping up and global interest rates are rising. Borrowing costs are escalating and we are seeing currency devaluations in emerging markets. This is an ongoing threat and it has NOT reached an extreme level. Most of the countries have relatively small GDP’s. Italy plans to run a 2.4% deficit and their budget was rejected by the EU. No one knows what will come next, but the fate of the EU will hinge on what happens.
The November election polls suggest that Republicans will retain control over the Senate and Democrats will control the House. Republicans are gaining momentum in key regions and the market will rally if House races tighten. Trump’s agenda has been great for the economy and the market wants it to continue. It does not want more investigations and impeachment hearings.
Domestic economic activity has been fantastic. Unfortunately, the rest of the world is struggling. Flash PMI’s in Europe, Japan and South Korea were light. The French flash PMI hit its lowest level in three years. China will also feel the pinch as companies shift supply chains to Vietnam, Indonesia and Bangladesh (Bloomberg).
Earnings season has been decent and the overnight earnings releases were good. Amazon and Google post after the close today. At a forward PE of 15, stocks have room to bounce. Investors are afraid that earnings will suffer in future quarters. Last year companies benefited from tax cuts. Those favorable “comps” will disappear after this quarter.
In 30 years I’ve learned not to short nine year bull markets until severe technical damage suggests a top. I’ve also learned not short the market into year-end. These two rules have made me a lot of money and they have saved me a lot of money. The next two weeks are the most bullish weeks of the year and I believe we will see a bounce at least to the 100-day moving average. At that level I will re-evaluate. By then the election results will be known and the Fed will have a chance to soften its tone.
If we finish the year well off of the highs it will be a bearish sign for 2019 and I will start considering bearish swing trades.
Swing traders should have an intraday stop at SPY $264. If we are shaken out of the position you should also have a buy stop at $268 to get back in (buy if the SPY gets above that level). I don’t want to be flushed out and then to have the market snapback and run higher.
Day traders should be cautious on the open. Opening gaps higher have been faded the last month. Long red body candles denote higher opens and lower closes. That is a bearish pattern. I don’t believe the market will be able to rally until it tests the downside again. If we do test the downside, the reversal needs to happen very early in the day. A gradual drift lower is lethal. I would not carry overnight shorts.
Good fundamentals on a micro basis (individual companies) mean nothing during a market bloodbath. The baby gets thrown out with the bathwater and that sets up great opportunities. Search for stocks that have strong top and bottom line growth and wait for market support.
I felt that the reversal Tuesday was the hard bottom we’ve been looking for and I was wrong. I still believe that there will be a good bounce in the next two weeks. Let’s hope that we see an early low and a violent rally off of that level today.
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