Market Update: Moving Forward
I hope all of you have been doing well! Now that first quarter earnings are over, let me do an update of how I see the markets moving forward.
US Markets – Trendless Consolidation Period
If you look at the big picture of the S&P 500, you can see that over the last 1 year, it has been in one big consolidation period ever since peaking in Mid 2015. During this consolidation, it has in fact, been making lower high points. This looks to me like a consolidation distribution period which may lead to a new bear market. On a technical level, I am rather bearish moving forward.
Fundamentally, although markets are not expensive on a PE valuation, earnings growth has been rather negative. The first quarter earnings decline was not as bad as expected. Still, it was not good either. Aggregate S&P 500 earnings per share (EPS) are estimated to be down 6.0% year-over-year in the first quarter.
This is the third straight quarter that S&P 500 EPS has declined on a year-over-year basis. Moreover, the 6.0% decline in first quarter EPS is the largest decline since the second quarter of 2009, according to S&P Capital IQ.
When the market is not in a clear trend, it can be pretty frustrating attempting to make money whether you ar buying and holding OR whether you are doing medium term trend following. If you have found yourself simply breaking even or not making any profits during this period, there is nothing wrong with you or the method you are using (if you are following the rules). This is simply a period in the market where there is no strong trend to generate high profits (be it long or short).
In other words, this is a neither here nor there market for investors. For value investors, prices are not cheap enough to warrant strong buying. They have to wait for a bigger price crash before things get more attractive to pick up. For momentum investors, there is not much momentum to speak of as well. So, be patient.
Markets go in cycles and eventually the market will trend strongly again (either uptrend or downtrend). So, it will be good to brush up on your short selling skills if this consolidation happens to be a prelude to big bear market (It has been 9 years since the last financial crisis, so I am not surprised that it will happen anytime).
Having said this, remember that we can never predict the market. Anything can happen. This is why I will continue to take long positions and short positions as the setups present themselves. Yes, there is still a lot of money to be made in this market. However, you have to employ very very short term swing trading or day trading techniques to ride the very short term trends within the consolidation.
Also, remember that while stocks are trend-less, there are other assets that are going through strong trends, which you can invest/ trade in using ETFs. This would be the Oil and Gold ETFs which have been rallying strongly and look set to continue.
Following the Leader
As you know, the majority of stocks (70%+) tend to follow the direction of the overall market (the respective index in question). When the index is on an uptrend, I tend to take on more long positions and fewer short positions. When the index is on a downtrend, I do the opposite (take on more short positions and less long positions).
As you know, there are three kinds of trends (long term trend, medium term trend, and short term trend). Which trend we look at depends on whether we are a short term trader, medium term investor or long term investor.
To keep it simple, you can use the 20EMA (for short term trend), 50MA (for medium term trend) and 200MA (for long term trend) to see the trends (If you are unfamiliar on how to see the market trends, do read my other article) . See the chart below.
Currently, the price is below the 20EMA and 20EMA is sloping down. As a short term swing trader, I will take more short trades than long trades as the market is short term bearish.
If you look at the 50MA, the price is below the 50MA but the 50MA is till sloping up. So, on a medium term, it is still on an uptrend, but not a clear one. Price must get back above the 50MA before I will commit to taking any medium term long trades.
Oil and Gold
Oil has been continuing its recovery (from $28 in January to close to $50 today). Based on the Oil ETF (USL), price is above the 200MA and 50MA looks like its going to cross above the 150MA. However, recall that for the new medium term uptrend to be confirmed, it is best that 50 and 150 MA both flatten or slope up (or 200MA slope up). Medium term trend followers can get in then.
Apple- The Battle of the Billionaires
Some of you may have read the big news that while billionaire investor Carl Ichan dumped Apple shares a month ago, it was revealed that Buffett’s company Berkshire Hathaway bought $1.1 billion worth of Apple shares at $110+.
What is Buffett doing????!!!! Many of you have heard me say that Buffett will never buy Apple, because it is not a predictable company. Why is he breaking his own rules and even buying more IBM shares (which he already lost 25%) which is also another technology company?
If you actually read carefully…Buffett did not actually make the decision to buy Apple. It was his proteges Todd Combs and Ted Weschler who made the decision and are now running the company. Since buying Apple at $110, Berkshire is so far down $200 million on its Apple investment, so I hope they know what they are doing.
If you do an intrinsic valuation of Apple, the shares are worth $130. So, at the current price of $94, it is very undervalued. So, it is a classic value investment for the long term. However, you must have the confidence that Apple will continue to deliver great products in the future and not become another Nokia (which we can never foresee). Having said that, Apple remains on a downtrend. I did take a position in Apple last night based on Capitulation Strategy.
Note: This post was first published to our Wealth Academy Graduates on 21st May. Do attend my free 3 hour financial and investment workshop to learn more!
Chart sources are from Thinkorswim platform, by TD Ameritrade.