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.