Written by Lance Roberts, Clarity Financial
It’s Spring Break
It’s that time of the year again as my family and I make our annual pilgrimage to Utah for a few days of snowboarding and skiing. This year should be especially interesting as my wife and daughters have decided to join us “boys” in snowboarding. (Hilarity will surely ensue)
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There are generally two events that happen every year – somebody forgets their coat, goggles or some other article of clothing needed for skiing, and someone visits the emergency clinic with a minor injury. Last year, it was my son who left his coat at the airport and then broke his collarbone showing off for some “cute” girls. (Yes, they are at that age – all hormones, no brain)
Nonetheless, it is always an adventure, but most importantly, given how busy our lives have become, it is a great time for all of us to reconnect as a family and build some terrific memories.
So, since we are packing to leave first thing in the morning, this week’s newsletter is going to be brief market review and positioning update. I will do a full review on my return.
Have a great Spring Break.
2018 Bear Market Is Over…For Now
by Lance Roberts
As I noted last Tuesday:
“Turning points in the market, if this is one, are extremely difficult to navigate. They are also the juncture where the most investing mistakes are made.
Over the last several weeks, I have been providing constant prodding to clean up portfolios and reduce risks. I also provided guidelines for that process – click here.
For now, it is important to note the ‘bullish trend’ remains solidly intact and, therefore, we must give the ‘benefit of the doubt’ to the bulls.”
I can not emphasize that last point enough.
- Yes, we had rebalanced portfolio risks and raised cash levels.
- Yes, we had added a short-hedge to our portfolios to protect against volatility risk.
- No, it does not mean we are “bearish” or “sitting all in cash.”
Portfolio management is never an “all in or out” process. It is about managing the potential risk for capital loss over time. In that regard, we have been tracking the consolidation process following the February correction.
“The market is currently in the process of building a consolidation pattern as shown by the ‘red’ triangle below. Whichever direction the market breaks out from this consolidation will dictate the direction of the next intermediate-term move.”
Well, on Friday, the market made its move.
This is the third attempt to move above the 50-dma and the second attempt since registering a short-term “buy” signal in late February. This bullish backdrop kept portfolios primarily invested in equities, although we did hedge some risk last week.
The breakout of this consolidation is nothing but “bullish” in the short-term and requires us to remove our hedge and allow portfolios to run unencumbered for the time being.
The great “bear market” of 2018 officially ended on Friday…for now.
As I have notated above, there are three possibilities for the market as we wrap up the “seasonally strong” time of the year.
- If the market can clear the previous high from mid-February then an advance to all-time highs is quite likely. (50%)
- The market fails to clear resistance, initially, at the mid-February highs, retraces back to the previous downtrend line (which will likely coincide with the 100-dma), completing a successful retest of the breakout and then moves to towards all-time highs. (30%)
- The market fails at mid-February resistance, tests support, and bounces, but fails at resistance a second time and begins a deeper correction. (20%)
As I have noted, I am giving the greatest odds right now to option (1) for the time being.
However, option (2) and (3) should not be dismissed either. On a longer-term basis, as I have noted previously, we still have fully registered sell signals. It will likely take a rally to old highs to reverse those “sell signals,” but with those signals at the highest level on record, there is likely a limit to a substantial upside advance.
While these “sell signals” do NOT mean a “bear market” is about to commence, when they have been previously triggered at “high levels,” they have been good indicators of a short to intermediate-term topping process.
The question we should ask is:
“Was the February correction the ‘Bear Stearns’ moment for the market?”
The chart below is what happened in 2007 after “Bear Stearns” collapsed in February of that year.
In 2007, the market was bullishly biased, we were in a “Goldilocks Economy,” and investors were giddy about future stock market prospects.
“It was different this time.”
The first crack in the market occurred in February as the market plunged 5% very quickly triggering a weekly “sell signal.” The market quickly recovered and set off to new highs reinforcing the “buy the dip” mentality. In July, the market cracked again, triggering a second “sell signal.” Once again, the market quickly recovered and surged to “new highs” further cementing the belief the bull markets were unstoppable.
It wasn’t. The “bear market” officially woke shortly thereafter.
Currently, as noted above, we have registered the first set of “sell signals” at historically high levels. Over the next few weeks, as we head into summer, it is quite possible we could set new highs. Even if that is the case, we will be watching for the following to determine if the current “bull market” is at risk:
- Current “sell signals” are reversed but then trigger again at lower levels.
- The “gap” between the long and short-term moving averages begins to narrow.
- Relative strength begins to have a negative divergence to the market.
Again, let me be VERY clear.
The “bullish trend” remains solidly intact. While ‘bearish signals’ are making an appearance, the market has done nothing in the short-term except complete a correction/consolidation process.
Such does not mean go jumping back into the market with reckless abandon. As I noted two weeks ago, when the market last made an attempt to head to new highs:
“There is a risk the market could reverse next week keeping prices confined within the bullish trend channel.”
We are once again going to test that overhead bullish trend line next week.
A failure at the trend line will lead to a retracement, and retest of the breakout, setting up options (2) and (3) above.
Just for the record, while the short-term outlook is bullish, the long-term market backdrop remains decidedly bearish for equity investors. As I have shown before, on a long-term historical basis, the overbought, extended and overvalued conditions that are currently present in the markets have only existed at peaks of bull market advances.
However, in the short-term, the markets can certainly seem to deny the “laws of gravity” which encourages investors to take on far more risk than they realize.
Just remember, for every “bull market” there must eventually be a “bear.”
