There are times when the market's moves do not appear to have a clear-cut driving force behind them.
Monday's decline of about one-half percent was a decent example of this. Stocks fell for a third consecutive session and although the damage wasn't terribly significant, the fact of the matter is that there is some fear returning to the mix.
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Those Who Don't Know History...
Believe it or not, this is a good thing. Remember, trees don't grow to the sky - even in the most bullish environments. And history shows that when the game becomes too lopsided, when one team is totally dominant for an extended period of time, it usually ends badly (think 1999). Therefore, the pattern witnessed this year where the market takes three steps forward and then pulls back for a bit is really quite healthy.
Card-carrying members of the glass-is-at-least-half-empty club contend that when stocks fall without any real reason, the indices are actually cracking under their own weight. The thinking is that if stocks decline just for the heck of it, it means that the buyers have been exhausted, momentum has waned, and the joyride to the upside is over. As such, investors are warned to look out below.
If A Bear Is Chasing You, Climb a Tree
It is right about this time that the long-frustrated bears, the folks that have missed out on the 19 percent gain in the S&P 500 so far this year, take to their soap boxes. From bully pulpits, the Debbie downers tell us that the gains seen in the market will be fleeting, that things will turn ugly when the Fed pulls the punch bowl, that the economy has yet to reach escape velocity and that we'd all best be prepared for the day of reckoning. In short, our furry friends opine that the sky will indeed fall this time, just you wait.
To be sure, this uber-negative position has not been a good stance to take for the past two years. But instead of poking fun at the bear camp, we should probably be thanking them for their service. For without the occasional bout of fear, the runs in the market would always be one-way affairs.
Playing the Game, Washington-Style
We should thank all the traders that are concerned about headline risk relating to the goings-on in Washington these days. Honestly, does anyone REALLY believe that the boys and girls playing politics in our nation's capital will cause the government to default on its debts? Haven't we seen this movie before? Doesn't everybody know that the two sides will play the blame game and then fight, scratch and claw until the very last second before caving and extending the debt ceiling?
And yet, the fact that there have been government shut-downs before keeps the fear of what might happen alive. This causes some traders to take profits after a strong year of gains. This fear causes the dip-buyers to take a knee on the sidelines for a while. And it emboldens the perma-bears to put on some short positions as they dream of 2008 revisited.
In short, this is what makes a market. This is what keeps things from getting completely out of hand, and this is what ultimately sets up the next rally.
Frankly, the odds don't seem to be with the bears at this time. Even if one embraces the idea that the politicians could have a brain cramp and screw things up, history suggests that a deal will get done at the eleventh, twelfth, or even thirteenth hour (remember the "sequester" deadlines that weren't really deadlines?) Then when the fear of the big, bad events passes, buyers return, shorts cover, and the algorithms have a field day.
But the bottom line is that the worry about the debt debate, and what the Fed may or may not do, and who will be the next Fed Chairman, and what the earnings will look like next quarter, etc., all are adding some fear to the mix right now. And the key point here is that adding a little fear once and awhile is a good thing.
Current Market Drivers
We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).
T1. The State of Fed Policy T1. Fun and Games in Washington (I.E. the Debt Ceiling) 3. The Outlook for the U.S./Global Economy
The State of the Trend
We believe it is important to analyze the market using multiple time-frames. We define short-term as 3 days to 3 weeks, intermediate-term as 3 weeks to 3 months, and long-term as 3 months or more. Below are our current ratings of the three primary trends:
Short-Term Trend: Moderately Positive (Chart below is S&P 500 daily over past 1 month)
Intermediate-Term Trend: Positive (Chart below is S&P 500 daily over past 6 months)
Long-Term Trend: Positive (Chart below is S&P 500 daily over past 12 months)
Key Technical Areas:
Traders as well as computerized algorithms are generally keenly aware of the important technical levels on the charts from a short-term basis. Below are the levels we deem important to watch today:
- Near-Term Support Zone(s) for S&P 500: 1700, 1685
- Near-Term Resistance Zone(s): 1730
The State of the Tape
Momentum indicators are designed to tell us about the technical health of a trend - I.E. if there is any "oomph" behind the move. Below are a handful of our favorite indicators relating to the market's "mo"...
- Trend and Breadth Confirmation Indicator: Neutral
- Price Thrust Indicator: Positive
- Volume Thrust Indicator: Positive
- Breadth Thrust Indicator: Positive
- Bull/Bear Volume Relationship: Moderately Positive
- Technical Health of 100 Industry Groups: Moderately Positive
The Early Warning Indicators
Markets travel in cycles. Thus we must constantly be on the lookout for changes in the direction of the trend. Looking at market sentiment and the overbought/sold conditions can provide "early warning signs" that a trend change may be near.
- Overbought/Oversold Condition: The S&P 500 is modestly overbought from a short-term perspective and is neutral from an intermediate-term point of view.
- Market Sentiment: Our primary sentiment model is negative .
The State of the Market Environment
One of the keys to long-term success in the stock market is stay in tune with the market's "big picture" environment in terms of risk versus reward because different market environments require different investing strategies. To help us identify the current environment, we look to our longer-term State of the Markets Model. This model is designed to tell us when risk factors are high, low, or uncertain. In short, this longer-term oriented, weekly model tells us whether the odds favor the bulls, bears, or neither team.
Weekly State of the Market Model Reading: neutral
If you are looking for a disciplined, rules-based system to help guide your market exposure, check out The Daily Decision System.
Turning To This Morning...
With the focus still on the question of when the Fed will begin tapering asset purchases and the ongoing debt debate in Washington, traders are continuing to curb their enthusiasm about stocks around the globe. Asian markets were lower overnight while European bourses are modestly higher. U.S. futures are currently pointing to a mixed-to slightly lower open.
Here are the Pre-Market indicators we review each morning before the opening bell...
Major Foreign Markets: - Japan: -0.06% - Hong Kong: -0.82% - Shanghai: -0.59% - London: +0.12% - Germany: +0.19% - France: +0.62% - Italy: +0.76% - Spain: +0.40%
Crude Oil Futures: -$0.1 to $103.43
Gold: -$12.90 to $1314.10
Dollar: higher against the yen, euro, and pound.
10-Year Bond Yield: Currently trading at 2.695%
Stock Futures Ahead of Open in U.S. (relative to fair value): - S&P 500: -3.44 - Dow Jones Industrial Average: +1 - NASDAQ Composite: +1.30
Thought For The Day...
Sooner or later, those who win are those who think they can. -Richard Bach
Looking for Guidance in the Markets?
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Wishing you green screens and all the best for a great day,
David D. Moenning Founder and Chief Investment Strategist StateoftheMarkets.com
For up to the minute updates on the market's driving forces, Follow Me on Twitter: @StateDave (Twitter is the new Ticker Tape)
Positions in stocks mentioned: none
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