Inflation Headlines Rattle Stocks
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The following is an excerpt from this week’s ‘Weekly Market Letter’ from Market Edge (www.marketedge.com).
The major averages snapped a five-week win streak as a +6.2% spike in the October CPI, the highest YoY read in 31-years, tripped traders sending rates higher, and stocks lower. Despite the passing of a $1 trillion bipartisan infrastructure deal over the weekend, equities struggled to start the week as persistent inflation threatened to slow economic growth. Hints from Federal Reserve officials that interest rates may uptick sooner than thought if inflation isn’t reigned in, also weighed on equities. Continued better-than-expected earnings and buying in material stocks limited selling pressure as shares of Freeport-McMoRan (FCX), Nucor (NUE), Vulcan Materials (VMC), D.R. Horton (DHI) and Affirm Holdings (AFRM) traded sharply higher. Offsetting those gains however, were drops in Walt Disney (DIS), PayPal (PYPL), Beyond Meat (BYND) and others, after disappointing reports. Back and forth trading left the market sectors mixed with Materials (XLB) and Healthcare (XLV) outperforming, while losses in Consumer Discretionary (XLY) and Energy (XLE) were the biggest drag. The different indexes were able to bounce back towards the end of the week as yields surprised by staying somewhat contained. The rate on the 30-year Treasury closed at 1.95% and the 10-year T-Bill floated near 1.57%. However, the 2-year Treasury rose to 0.52% narrowing the yield curve and putting pressure on Financials (XLF). Finally, comments out of Toyota Motor Co (TM) on Friday that they could begin making up for production losses in December as supply chain issues eased kept the major averages on a two-day bounce going into the weekend. After the dust settled, only the Philadelphia Semiconductor Index (SOX) was able to push back into positive territory for the period.
For the period, the DJIA lost 227.64 points (-0.6%) and settled at 36100.31. The S&P 500 eased 14.68 points (-0.3%) and closed at 4682.85. The NASDAQ dropped 110.63 points (-0.7%) to close at 15860.96, while the small cap Russell 2000 fell 25.31 points (-1.0%), finishing at 2411.77.
Market Outlook: The technical condition of the market was mixed last week as the major averages struggled with traction. Despite back and forth trading, the technical indicators remain positive and Momentum, as measured by the 14-day RSI, is bullish. The different indexes had gone into Monday overbought by several measures and this week’s sideways trading helped to alleviate some of that condition. Although most of the major averages finished lower, the Philadelphia Semiconductor Index (SOX) was able to show positive divergence by posting a positive +1.1% gain and hitting a new record high this week, adding to its +8.8% surge the previous week. All of the 11 sectors followed are at, or near, all-time highs with Technology (XLK) and Materials (XLB) striking new highs this week. Communication Services (XLC) is the lone sector holding below its 50-day moving average (MA). Underlying breadth was mixed this week with both the NYSE and NASDAQ Advance/Decline lines showing stocks were in a distribution phase, while the NASDAQ turned in more new 52-week lows than highs on two sessions. Although it still looks like the stock market is setting up for a year-end rally, a negative for the market is rising bullish Investor Sentiment. When investors are overly bullish it raises a red flag and these indicators become contrarian alerts. As mentioned last week, institutional investors are at their highest exposure to equities since February, and this week retail investors also increased exposure. The American Association of Individual Investors (AAII) jumped to 48% in the bullish camp. That is up from only 39.8% two-weeks ago, and above the historical average of 38%.
Last week’s parabolic move higher needed to see some consolidation in prices for the major averages and this week’s inflation scare sparked a needed selloff. While the week before Thanksgiving is historically a positive period for the market, the holiday week is usually mixed. Expect inflation concerns to once again dictate market over the near-term, but I would look for dips to be bought. Underlying internal strength in the market still favors a year-end rally that could surprise market participants. Year end targets are 4820 for the S&P 500 and 37080 for the DJIA.
A chart of these indicators can be found by going to the Market Edge Home page and clicking on Market Recap, which is on the right-hand side of the page just below the Second Opinion Status numbers.
Cyclical Trend Index (CTI): The underlying premise of the CTI is that the market, as measured by the Dow Jones Industrial Average (DJIA), tends to move in cycles that often resemble sine waves. There are five identifiable cycles, each with different time durations at work in the market at all times.
Currently, the CTI is Positive at +1, unchanged from the previous week. Cycles C, D and E are bullish, while Cycles A and B are bearish. The CTI is projected to remain in a positive configuration into year-end.
Momentum Index (MI): The market’s momentum is measured by comparing the strength or weakness of several broad market indexes to the DJIA. Readings of -4 and lower are regarded as bearish since it is an indication that a majority of the broader based market indexes are weaker than the DJIA on a percentage basis. Conversely, readings of +4 or higher are regarded as bullish.
The Momentum Index is Positive at +6, up a notch from the previous week. Breadth was mixed at the NYSE as the Advance/Decline line lost 1043 units while the number of new 52-week highs exceeded the number of new lows on all five sessions. Breadth was also mixed at the NASDAQ as the A/D line declined 1138 units while the number of new highs out did the new lows on three days. Finally, the percentage of stocks above their 50-day moving average increased to 69.2% vs. 67.4% the previous week, while those above their 200-day moving average rose to 65.5% vs. 64.4%. Readings above 70.0% denote an overbought condition, while below 20% is bullish.
Sentiment Index (SI): Measuring the market’s Bullish or Bearish sentiment is important when attempting to determine the markets future direction. Market Edge tracks thirteen technical indicators listed below that measure excessive bullish or bearish sentiment conditions prevalent in the market. The Sentiment Index is Negative at -3, down a notch from the previous week. In addition, we track money flows into and out of Equity Funds and ETFs which as of 11/10/21 shows inflows of $8.3 billion.
Market Posture: Based on the status of the Market Edge, market timing models, the Market Posture is Bullish as of the week ending 7/30/2021 (DJIA – 34935.47).
Ask Mr. Seifert
Why is market psychology so important to success as a trader or investor?
Without a doubt the most important aspect of trading or investing isn’t numbers. Everyone has numbers. It is your emotional view of the market that is the key. For over 40 years I have taught scores of people how to trade and the one common trait that all successful traders and investors have is that they understand how the market works. It has never ceased to amaze me how little traders comprehend when I ask them how a trade takes place. How can you expect to beat the New England Patriots if you don’t know what defense they are in? It is incredible that most traders believe that when the market is rallying it is because there are more “buyers than sellers”. They listen to the media and that is what they tell them is going on during a rally. When the market is breaking, they are told there are more “sellers than buyers”. So here is my first lesson on market psychology. The market is an auction where buyers and sellers bid and offer for a security or option. For every buyer there must be a seller. When they agree to exchange wealth, it is called “price discovery”. The market is in equilibrium, even if it is only for a few seconds. So how does the market rally if the number of buyers and sellers are the same? The buyers are willing to pay more to get in. When they can’t find any sellers at the price they want, they must “bid the market higher”, until they find where the sellers will exchange wealth.
The second principal that a trader must learn after they understand that the market is an auction is that there is no silver bullet that prints money. Trading is a probability game and as such, wild things are going to happen. Let’s say that you follow Market Edge which has had a phenomenally accurate prediction record for the past 25 years. Even if it picks 70% winners, you are still going to have losing periods where nothing goes right. If you quit trading every time that it hits a slump, you will be around for the losers but will miss out on the winners. When you trade or invest you must be willing to accept the inevitable drawdowns that are part of the business. Even Warren Buffett takes beatings from time to time and if he quit every time things went sour, you wouldn’t know his name!
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