We think it’s important to remind people from time to time that we always try to highlight issues from both sides of the bull/bear ledger each weekend. Therefore, some of our comments sometimes conflict with one another. However, we always let people know which side of the bull/bear ledger we stand on at any given time. We just think it is important to highlight both sides of the story...because we have been wrong about our conclusions before...and we will be again. Of course, our goal is to be correct 100% of the time, be we know that’s impossible. More importantly, another one of our goals is to help investors think about the markets in a way they wouldn’t otherwise think about them. Thank you.
THE WEEKLY TOP 10
Table of Contents:
1) Investors should raise cash now...so that they can take full advantage of the next strong rally.
2) Long-term rates will have to rise much further to signal a change in trend.
2a) Are colleges already planning to close back down in October?
3) Consumer staples look good in the charts (especially WMT, CL & CLX).
4) Industrials look good as well, but don’t chase UPS & FDX. HON looks better.
5) Gold...more downside follow-through before its bull market resumes.
5a) Natural gas broke-out last week.
6) The tech group is still key (duh).
7) The S&P 500 is forming a “broadening top”. That’s pretty scary.
8) The stock market almost always rallies at the end of election years.
9) The election is all about the Electoral College.
10) The biggest issue in the renewed tensions with China is Taiwan.
11) Summary of our current stance.
1) The stock market is ripe for a correction...and it could fall as much as 10%-15%, so investors should raise cash right now. However, the Fed will do whatever it takes to make sure that we do not fall into a bear market. That would cause too many problems in the credit markets...and with the massive levels of debt that have built up around the globe...the financial system is too fragile to withstand that scenario. Raise cash now...for a strong late-year rally.
2) One of the biggest developments from last week was the big jump in long-term yields (up to 0.71% on the 10yr note). It’s going to have to move above 0.9% before we even think about raising a yellow warning flag on this market...and it will take a move above 1.2% before it would become a red one. We have to remember that we saw a similar rise in rates in early June, but that one rolled-back over almost immediately.....Besides, we believe that some sort of renewed lock-down is likely this fall, so we would expect rates to roll back over. However, we will have change our thinking if the 1.2% level is pierced.
2a) The situation on college campuses is going to be very interesting as we move into October. From what we understand, many colleges will have been open long enough by then to collect on their insurance policies. If this is indeed the case...and they see any pick-up in Covid-19 cases on these campuses over the first two months of school (which is quite likely)...it will be interesting if these schools find it much easier to move to remote classes rather quickly.
3) Since there are so many uncertainties out there right now...and thus there are many reasons to think the market will see at least some sort of a pull-back before long...playing the market from a more defensive position could/should be a good idea. If the XLP consumer staples ETF can break above its February highs any time soon, it should give it a lot of upside momentum...and help nervous investors go along for the ride with a bit less risk. On top of the XLP, individual stocks like WMT, CL and CLX look good on the charts as well.
4) Another sector that looks quite good is the industrials. Of course, our view that we’ll see another lock-down of some sort this fall does not bode well for the group, but we have to admit that the XLI’s recent “higher-high” looks quite good on the charts. As for individual names, we’d actually avoid UPS & FDX right now...because they’ have become EXTREMELY overbought. Instead, we’d look at HON...which is trying to pull away from its 200 DMA.
5) Our call for a strong pull-back in gold last weekend worked out very well (as have most of our calls on the yellow metal this year). It did see a bounce later in the week, but since it had become EXTREMELY overbought and EXTREMELY over-loved in the previous week, we believe it will fall further before it works-off these conditions enough to see sustainable bounce......We remain bullish on an intermediate/long-term basis, but we’d like to see it drop to the $1,760-75 range again before we’d step back to the plate in an aggressive manner.
5a) We just wanted to give a quick update on natural gas from our comments last week. This commodity did see some nice upside follow-through, so this should bode VERY well for nat gas over the intermediate/long-term. It is getting quite overbought on a near-term basis, so it may need to take a “breather” soon, but we remain very bullish on it...and last week’s action gave us more confidence in this call.
6) We cannot go very long in any of our weekend pieces without touching on the tech stocks. We still worry that the mega-cap tech names (most of whom have actually been range-bound for over a month) will see a bout of profit taking to work-off their recent overbought conditions....However we’ll also be watching the chip stocks...to see if last week’s break-down in MU spreads to the rest of the group.
7) If the Fed had not provided such massive levels of liquidity in the spring...and promised to use a lot more if it is needed...we’d be A LOT more nervous about this stock market. We’d be worried that this week’s move in the S&P 500 was going to form an important “double top” (like it did in 2000 & 2007). We’d also be worrying about the fact the S&P 500 is also forming a “broadening top” (or “megaphone”) pattern. In that pattern, the S&P would still have a little bit more upside potential left in it, but the next decline would be a massive one if history was any guide.
8) Staying with the “if history is any guide” mantra, history tells us that the stock market should rally over the last 6-7 weeks of the year...no matter who wins the election in November. Of course, that doesn’t tell us what will happen between now and then, but since 1972 (the past 12 elections), the market has rallied from Election Day (or shortly thereafter) until the end of the year on ten of those occasions...with an average gain of 7.2%. Of the other two times, one saw a tiny decline. The only one that saw a big drop in the post-election time frame was 2000. (That was the only time the results were contested...so a late year rally is not a lock this year...even though it is highly likely.)
9) We believe that Kamala Harris will help Joe Biden’s chances of getting elected. She is very effective at attacking her opponents...and she will help the “get the vote out” for people of color. That is essential...because it was something that Hillary could not do in 2016...but it was something Mr. Trump was very successful at doing with the white vote......This could be very important if a lot of states are close (like they were in 2016). It’s all about the electoral college. Nothing else really matters.
10) The rising tensions with China...especially when it comes to the issue of Taiwan...is something that we will continue to be very focused on in the weeks and months ahead. Even if Taiwan does not become a major issue over the short-term, it WILL over the longer-term...and investors need to focus on this situation when mapping out their longer-term investment plans.
11) Summary of our current stance.....After a 50% rally in less than five months (+60% for the Nasdaq), the stock market has moved well ahead of its underlying fundamentals...even when you look at the fundamentals for 2021. (We’re sure it’s fine vs. 2022 expectations...but since nobody has a clue what things will really look like in 2022, that’s a worthless intellectual exercise.) However, the Fed has provided massive levels of stimulus...and has promised to provide endless amounts of it if it is needed at a later date. That said, we believe that Fed liquidity does not preclude meaningful corrections of 10% or so from taking place...and history bears this out. Therefore, we still believe that the uncertainties surrounding things like the next fiscal plan, the increase in Covid cases, the November election, the timing of an effective vaccine, the rise in long-term interest rates, the U.S./China relations and the slowing of the mega-cap tech rally...has made the U.S. stock market ripe for one of those corrections. If/when we do get a correction of 10% (or a bit more), the Fed will turn the spigots back open...which could lead the S&P to rally towards 3,600, but we also believe that will be very tough for the stock market to rally THAT strongly without experiencing a normal/healthy correction beforehand.
1) Let’s get our current stance out there right off the bat this weekend. We are quite cautious about the stock market at these levels. We believe the market has become ripe for a correction of 10%-15%...especially now that the S&P 500 has essentially retested its all-time highs from February. However, have become more constructive about how the market will act during the 4th quarter.......Therefore, we are recommending that investors do the same thing we recommended back in January and early February this year. We believe that it would be a good idea for investors to raise cash now...so that they can take advantage of the next decline...and thus maximize their profits in the rally later this year...which could push the S&P as high as 3,600 by year-end.
The reasons behind our short-term bearishness have to do with issues we’ve been harping on for several weeks...and we will add to those reasons in several of our bullet points today. To quickly review our previous comments, we’ll just say that there are just too many uncertainties out there right now...and just because they have not had an impact on the stock market yet...does not mean that they won’t eventually (soon). First of all, we have the uncertainties surrounding the new fiscal relief package...which does not look like it’s going to get settled unless the stock market forces them to pass a deal (by falling). On top that very pressing issue, we also have uncertainties surrounding the upcoming elections (both Presidential and Congressional), U.S./China relations, potential future waves of Covid-19, the timing of an effective vaccine, the “letter shape” of a further economic recovery, earnings estimates for 2021, etc., etc.
On top of all of these uncertainties, we have a list of newish developments that are usually signal that a top of some importance. First of all, of course, is the stretched valuations we’re seeing in the market place right now (26x 2020 estimates and more than 20x 2021 estimates). Yes, we all realize that valuations are a lousy timing tool, but when they get as stretched as they are right now, they DO tell investors that the risk/reward equation has become much more skewed to the risky side of things.
We also have some sentiment readings reaching extreme levels...with the spread between bulls and bears in the Investors Intelligence data reaching 39.4 points. That’s wider than it was in February...and the widest level we’ve seen since October 2018 (just as the S&P was topping out that year and beginning a 19.8% decline)......We also have a put/call ratio that is rising from a multi-year low of 0.59. (Ultra low put/call ratios actually don’t become a problem until they start rising.) .......Finally, we have the Robinhood investor. (Barron’s calls the founders of Robinhood the “Market’s New Gamemasters” on their cover this weekend.) Whenever the retail investor becomes heavily involved in the stock market, it always a sign of a top (think 1929, 1972, 1999). Of course, people are saying that “it’s different this time”...but that’s what they said in 1999 as well.
To be honest, if it were not for the Federal Reserve, we would be calling for a much deeper correction. In fact, we’d be calling for a bear market. We believe that another wave of the coronavirus is going to create another lock-down (even though it should not be as severe as it was in the spring)...and we think the U.S./China relations will create a meaningful rise in tensions in what we believe is a new Cold War. Those are going to cause some problems for the economy...and thus for the stock market.
However, the Fed IS there ready to do “whatever it takes” to keep the markets stabile. That does not mean that they will stop any and all declines from taking place. The Fed’s number one concern is the credit markets, not the stock market. Only a severe decline in stocks would destabilize the credit markets, not a 10%-15% correction. So we believe that will sit back and let that kind of normal/healthy decline take place. In fact, one could argue that they’d LIKE to see a pull-back take place...because it’s probably the only way we’ll get a fiscal deal done...and basically every member of the FOMC has said publicly that a fiscal deal is essential right now. In other words, the Fed does not want to be carrying ALL of the water in the next phase of this crisis.
That said, we’re starting to believe that the Fed will have no choice but to do whatever it takes to prevent a bear market from taking hold. Like we just said, a 10%-15% decline should not present any problems...BUT a more severe one (like we saw in Q1) would certainly spill over into the credit markets. Therefore, at some point they will have no choice but to step to the plate to support all of the markets in a meaningful way. Therefore, any correction should provide a great buying opportunity for stock investors.
We WISH the stock market could see a normal bear market...one that would wring a lot of the froth out of the markets (and cause many zombie companies who have no reason to still be alive...to go under). That would be quite positive for the long-term health of our economy and our markets...even though it would be painful over the near-term.
However, the system is just too fragile for that right now. We don’t think enough people understand just how dire things were back in March. The credit markets had frozen up in a way that was actually more severe than it was in 2008...and that’s why the Fed acted in such an aggressive/massive way back in March. If they did not act THAT aggressively...they system would have failed. (I am absolutely serious with that comment!!! I do not think that is an exaggeration at all!!!).......Therefore, we believe the Fed will do what it did back in the first 4 or 5 years following the financial crisis. They’ll step to the plate when things get ugly...because they cannot afford the markets to move to the edge of the precipice again.......They CAN allow pull-backs/corrections (like they did from 2009-2015), but they cannot allow a bear market. Therefore, they will do whatever it takes to avoid a 20%+ bear market going forward (just like they did during those earlier years following the last crisis).
2) One of the most biggest developments from last week was the big jump in long-term interest rates. We’ve used the term “biggest developments” instead of “most important” developments...for the simply reason that it is too early to know if the jump in long-term rates is just a blip on the radar (like it was in the first half of June) or if it’s something that will have legs.
On the fundamental side of things, there was some new-news to account for the jump in rates...as the inflation data (both PPI and CPI) came-in higher than expected and thus it did embolden the argument for those in the growing group of pundits who are calling for higher inflation going forward.
That said, as much as we hate to be in the camp with the consensus, we think interest rates are unlikely to rise a lot further...and are likely come back down before too long. The main reason for this belief goes back to something we touched-on last week. In places like Australia (and now New Zealand) where they are going through their winter months down there in the southern hemisphere...the cases of Covid-19 are rising again. This, in turn, has caused these areas of the world to go back into lock-down mode......Here in the U.S., we’ve already seen second waves in certain areas of the country (although some people are calling them second stages within their first waves)...and we’re not anywhere near close to those colder months yet. The same is true in Europe...where Germany and Spain have seen significant jumps in cases over the last week.
Given what is going on in places like Australia and New Zealand...and what many medical experts like Dr. Fauci, Dr. Gottlieb and others are saying...the likelihood that we’ll see another wave of the coronavirus in the fall/winter are quite high. That is likely to cause another lock-down...and even if it’s not as widespread or severe as the first lockdown, it’s going to have a meaningful impact on the economy. That, in turn, should cause long-term interest rates to decline once again.
On the technical side of things, we’d also note that we’re going to have to see a lot more upside follow-through if we’re going to declare that the low in long-term interest rates for 2020 have been reached...and that these rates are going to see a change in trend. There is no question that last week’s jump in the 10yr yield was a meaningful one, but it was not any bigger than the one se saw in June...which rolled-back over very quickly. So we cannot raise a warning flag about this development just yet.
Besides, if we look at the chart on the 10yr yield, it’s going to take a material move above those June highs of 0.9% before we can even raise a yellow flag on the bond market (whose price would obviously fall further...as yields rise further). In fact, the much more important resistance level for the 10yr yield is 1.2%. That’s the highs from March...as well as where the trend-line from late 2018 will come-in (during the 4th quarter). Therefore, it will take a meaningful move above 1.2% before we could start talking about an important change in trend for long-term interest rates. Therefore, it’s way too early to get overly concerned about the stock market just yet.
In other words, even though we’re quite cautious on the stock market on a short-term basis, we doubt higher rates will be catalyst for a significant break. Of course, if those rates do stay a bit elevated, they could provide another straw on the camel’s back (to add to the other straws we highlighted in point #1), but we’re more concerned about other issues right now to be perfectly honest.
2a) We’d also add one more quick point to back up our contention that the economy could go into some sort of lock-down mode as we move into the colder months of fall and winter. Some college presidents are reportedly admitting that their insurance policies are playing a key role in asking their students to come back to campus. As the story goes, many colleges have insurance policies that will cover a lot of their costs if students go back to school for as little as two weeks. Once the students have been their long enough for the colleges to collect, they’ll shut-down whenever they get any indication that they have a Covid-19 problem. Under that scenario, a lot of colleges will quickly go back to what they had in the 2nd semester of last year...and providing all of their classes remotely. In other words, once colleges have been open for more than 2-4 weeks, they might not be as committed to STAYING open as some people might think. If that’s the case, and grades K-12 start closing once again as well...it’s going to have a negative impact on the economy.
3) Since there are so many uncertainties out there right now...and thus there are many reasons to think the market will see at least some sort of a pull-back before long, playing the market from a more defensive position could/should be a good idea. Thankfully, on a technical basis, one defensive group is looking quite good at these levels...and we see three specific names that look particularly compelling on the charts as well.
We’re talking about the consumer staples. Just like the S&P 500 index, the XLP consumer staples ETF is testing its all-time highs from February. However, the XLP is not getting overbought on its weekly RSI chart like the SPX has recently. (It is a bit overbought on its daily RSI chart, but it’s longer-term chart is not extreme at all yet.) Therefore, if the XLP can break above its February highs of $65 in any meaningful way, it should have the potential of outperforming the S&P on any breakout...no matter when it comes. (It also should provide at least some downside protection...as many of these names should continue to do well even if the economy sees another hiccup. Therefore, we like this sector of the stock market in this market.
To be more specific on the chart for the XLP, not only is its weekly RSI short of reaching any extremes yet, it made a very nice “higher-low” during the spring, so if it can follow that up with an important “higher-high” above that $65 level we just highlighted, it’s going to be VERY bullish for this sector. (First chart below.)
As for specific stocks, we like the charts on Walmart (WMT), Colgate (CL), and Clorox (CLX).......Let’s start with WMT. It’s long-term chart looks GREAT. Ever since late 2015, it has seen a series of “higher-lows/higher-highs. In fact, WMT was one of the few stocks that made a new all-time high shortly after it hit its February highs. That’s right, WMT moved significantly above its February highs in April, so the action in this stock has been fabulous......More recently, it testing those April highs (last month), but after reaching an overbought condition, it has taken a “breather.” However, now that it has worked-off this overbought condition, it is quickly retesting those April highs. Therefore, if WMT can break above those April highs in a compelling way this time, it will give it yet another important “higher-high”...which will be VERY bullish for the stock on a technical basis.
The next stock is CL. This is a stock that has done NOTHING in over four years! It has been able to move into the low-to-mid $70s on several different occasions since 2016, but each time it had rolled back over (with substantial declines on a couple of occasions...like the 26% drop in 2018 and the 24% fall in Q1 of this year). However, it is once again testing the top end its wide sideways range of the past 4+ years. Therefore, if CL can finally break significantly above the $77.50 level...which has provided VERY tough resistance on five different occasions in recent years, it’s going to gain A LOT of upside momentum...and thus be VERY positive for CL on a technical basis.
Finally, we’d like to talk about CLX once again. This is a stock that we highlighted on the bullish side of the ledger back in March, but when it got extreme overbought at the end of July, we warned that it was getting ripe for a “breather.” It’s recent decline of almost 8% has worked-off that overbought condition...and the stock is now holding steady just above its 50 DMA That 50 DMA has provided excellent support for CLX all year this year, so if it can follow-up its stabilizing move from the second half of last week...with a bounce, it should bode well for this stock who makes the very popular disinfected wipes. (This will be especially true if the colder weather this fall & winter brings about another wave of the pandemic.)
4) The industrials are a group that is getting a lot of attention recently...and for good reason. The XLI industrial stock ETF has seen another leg higher over the past six weeks...which has helped it continue to outperform the S&P 500 since the March lows (+59% vs. a 50% gain for the S&P 500). The big question is whether the economy will growth enough to justify a further rally in this group...or will another lock-down force this group to underperform for a while as we move past Labor Day.
For us, we’re worried that there will be a slowdown in the pace of growth...and that this will have a negative impact on the industrials. As we mentioned in some early points, our biggest concern is that we’ll see more lockdowns going forward. We’ve already seen them in Australia and New Zealand...and they’re being threatened again in several parts of Europe.
Having said this, we have to admit that there is no question that the industrials looks good on a technical basis. The XLI just made the a “higher-high” in a second “higher-low/higher-high” sequence since those March lows, so that’s quite bullish for the group. However, we believe investors need to be selective after the recent action in several of these names. For instance, UPS and FDX have seen fabulous moves in recent weeks, but they’ve become incredibly overbought on a short-term basis. The daily RSI charts on both stocks finished the week well above 80...and it even hit 90 at one point last week on UPS. Also, looking at the weekly RSI chart on UPS, it moved up near the 80 level at the end of last week after its parabolic move of almost 100% since the March lows. That is the highest reading for the weekly RSI chart on UPS since late 2013 (just before it corrected more than 10%). Therefore, we believe that short-term traders should take some profits in these names...and long-term investors should look to buy them on weakness...rather than chase them up at these levels.
So instead of chase those names, we’d look at Honeywell (HON). The 200 DMA on HON provided tough resistance back in early June...and now its trying to break above that line once again. If it is successful in breaking above that line in a meaningful way...by moving above $163, it’s also going to give the stock its second “higher-low/higher-high” sequence, so it’s going to be quite positive on a technical basis and could/should give HON another strong leg to its rally off the March lows.
5) Our calls on gold have worked out very well over the past year. The break above the $1,350 led to a strong rally last summer much like we thought it would...as did the break above $1,550 early this year. Our call for a correction in March was spot-on...and so was the one that called for a “breather” in Apil/May. We also said that a break above $1,750 would lead to a very quick rally to the old highs from 2011...which worked-out perfectly. Finally, we became cautious again on the yellow metal after it breached the $2,000 level...and then turned out right bearish (on a short-term basis) when it traded above $2,050 late last week. Sure enough, gold did correct 10% on an intraday basis last week...and closed almost 6% below its recent highs on Friday.
Okay, now that we’ve separated our shoulders patting ourselves on the back, the question becomes: what’s going to happen next in gold??? We think that gold (and silver) can see further pull-backs before they present another good buying opportunity. The technical extremes that had developed just over a week ago had become so extreme that we think it will take more than a three-to-four-day correction to work-off those extremes. As we highlighted last weekend, the RSI chart on gold had reached its most overbought level on its RSI chart since the 1990’s....and bullish sentiment had become incredibly extreme with the DSI data showing that bullish sentiment had hit 93% among futures traders on gold (and reached a nine day average of 90%!). Experience tells us that when we get to these kinds of extremes, the corrections take at least a couple of weeks to playout.
We want to reiterate, however, that we are bullish on gold on both an intermediate and long-term basis...but we do think that the yellow metal we’ll need to see some more downside follow-through to work-off the extremes it reached during the first week of August.
We also want to highlight that the correction in gold is a classic example of how any risk asset can see meaningful pull-backs from time to time...even if there is no real change in the underlying fundamental picture. If anything, the new-news we got last week should have been bullish for gold! Both the PPI and CPI numbers came-in higher than expected. This is raising concerns about higher inflation in the future...which should have given gold (and silver) a further boost...NOT a correction!!! However, as we have said many times in the past (about many different risk assets), when too many people move to one side of the boat, a short-term reversal becomes inevitable. That’s what we saw just over a week ago in the precious metals...and that is exactly what we got last week.
Again, we called for a 10% correction last week...and on an intraday basis, that is exactly how much gold fell from its recent highs. However, it came SO quickly that we now believe that it is likely that the decline will be deeper than 10%. Right now we’re looking at the $1,760 level...which would be a 50% retracement of the rally from the March lows.........Actually, since we’re still very bullish on an intermediate/long-term basis, we don’t want to tell investors to completely walk away from gold at these levels. They can still nibble at the commodity on the way down, but we think they should avoid being aggressive until we see some more meaningful downside movement...and we like the $1,776--$1,775 level as a better entry point for aggressive buyers.
5a) We just wanted to give a quick update on natural gas from our comments last week. This commodity did see some nice upside follow-through, so this should bode VERY well for nat gas over the intermediate/long-term. It is getting quite overbought on a near-term basis, so it may need to take a “breather” soon, but we remain very bullish on it...and last week’s action gave us more confidence in this call.
6) We cannot go very long in any of our weekend pieces without touching on the tech stocks. We keep highlighting that most of the mega-cap tech stocks have actually stopped rallying...and have been stuck within a sideways range for over a month now. Although AAPL continues to act very well, stocks like MSFT, AMZN, GOOGL, NFLX & TSLA have been stuck for several weeks. (Yes, TSLA rallied strongly last week, but that only took it up towards the top of its recent sideways range.)
That said, none of them has broken down either, so maybe they can work-off the extremely overbought conditions they had reached recently with “sideways corrections”...and then head higher again before long. In other words, these mega-cap tech names are still VERY important to the stock market, so whichever way they break out of their recent ranges should be quite important.
One key name in the broad tech sector that is breaking down is Micron (MU). It was downgraded last week over concerns of weak demand for memory chips. This took the stock down more than 6% last week and gave it a two week loss of almost 9%. It also took MU below its trend-line from the March lows...and gave it a key “lower-low” below its July lows.
Micron is a member of the SMH semiconductor ETF, but it only has the 12th highest weighting (of 3.5%)...and its issues should not negatively impact the rest of the semiconductor group. However, we would note that NVDA (which is #2...with a 9% weighting) is getting very overbought (with a weekly RSI chart above 80)...and AMD (#4...with a 5.7% weighting) is coming off of a very overbought condition as well (with an 83 reading on its daily RSI chart a week ago Thursday). Therefore, if these stocks begin to decline...in order to work-off their overbought conditions...it could/should cause the semis to take it on the chin a little bit. This would not be the end of the world at all, but if it is taking place at a time when the mega-cap tech names are breaking below their sideways ranges, it could shake thing up in the broad tech sector before long.
Wow....as we re-read what we just wrote about the tech stocks, it sounds pretty negative. Given how well they have acted since March, we didn’t mean to portray them as having a lot of major cracks in them. We DO think that the mega-cap tech names have become ripe for pull-backs after their massive rallies, but the chips still look quite good. We’re merely pointing out that they have acted SO well...for such a long time...that they could be due for a breather as well. However, there is no question that we’re going to have to wait before we see evidence that a lot more stocks (than just MU) are breaking down before we can move the action of this group to the bearish side of the ledger!
7) The Fed has provided massive liquidity to the system this year and stands ready and willing to provide more liquidity if it is needed (“whatever it takes”). That’s great...because there is one long-term chart that scares the you-know-what out of us. The chart we’re talking about is the multi-year chart on the S&P 500 Index. It is forming a “broadening top” (or “megaphone”) pattern. This is one of the most bearish patterns out there, so without the Fed’s largess, we’d be a lot more nervous about the market...especially since it is at the high end of historic valuation levels.
A broadening top involves a series of “higher-highs” AND “lower-lows” over a period of time. (Higher-lows/higher-highs are quite negative...and “lower-highs/lower-lows” are quite positive. But “higher-highs/lower-lows” form a “megaphone pattern...which is a concern.............Who’s on first?)
Actually, this pattern could be viewed as bullish over the next few months, but it does not bode well at all for 2021. If the S&P is going to retest the top end of this pattern, it could/should further before the end of the year (even if it sees a short-term pull-back). In fact, it could rally all the way to 3,600 by year-end. (That’s one of the reasons why we’re now saying that the SPX could rally to 3,600 by year-end.) HOWEVER, if (repeat, IF) it continues to follow this pattern, once it touches that top line one more time, it should roll-over in a very serious manner...and fall below its March lows from this year at some point in 2021. OUCH!!!!!
Again, with the Fed standing on the sidelines with a loaded bazooka, it’s hard to have this scenario as a base case one for anybody. However, there is no question that the S&P certainly seems to be forming a classic “broadening top” pattern...and we would be remiss if we did not point it out.
8) Before we make out weekly comment on politics, we’d like to talk about the fact that the stock market almost always rallies nicely over the last 6-7 weeks of an election year. In other words, starting on Election Day (or a week or so afterwards)...and measure the moves through the end of December...the stock market tends to rally nicely...no matter which party wins the election and/or whether an incumbent president wins or losses.
That’s right, there have been twelve elections since 1972...and ten of them have seen nice gains from early/mid-November into the end of the year. The average gains in those 10 examples is +7.31%. Of the two election years that did not see gains, one of them saw very mild decline of only 1.8%. Therefore, if history is any guide, a late-year rally is quite probable this year.
HOWEVER we DO need to point out that the one year that the market DID decline over the last 6-7 weeks of the year was 2000...when the S&P fell 7.20%. THAT was the year when the election results were contested (between Bush and Gore). So with the pandemic...and the mail-in ballots...it’s not out of the question that this year’s election results could be contested as well, so we definitely cannot say that a late-year rally is a lock this year.
We also need to point out that although the market did rally 18% off the mid-November lows in the wild year of 2008, it also sold-off 20% in the days immediately after the election. Those two numbers offset one another, so they really don’t impact the average numbers we highlighted above, but it does show that in years where there the back-drop is even more unstable than most election years, it tends to dampen the odds that the market will rally. Since this year has the potential to be another unstable year, investors will have to be a little careful after Election Day. However, if the election results are not contested, we should see a strong year-end rally that starts by mid-November...and lasts through at least the end of the year...no matter who wins.
That doesn’t mean the rally cannot start from a low level, but we won’t want to be short the market for very long after Election Day...even if the Democrats gain a sweep in the November election.
9) We are still a long way from Election Day, so a lot of things can (and will) happen between now and then (duh). Let’s face it, the national polls showed George HW Bush behind by 17 points at about this time of the summer when he was running against Michael Dukakis...and he ended up winning that election rather easily less than three months later. So anything can happen.
Vice President Biden’s choice of Kamala Harris as his running mate should help his chances of winning. She should be effective when attacking the Trump administration and she should help Mr. Biden “get out the vote” for people of color. This was something Barak Obama was very successful at doing...and Hillary Clinton was not. Since the election came down to a small number of votes in a small number of states (especially in the upper Midwest), any help she can provide could/should be instrumental if the election is a close one once again.
This should not be construed as something that says I’m supporting Mr. Biden. Yes, I do care about who wins in November, but as a strategist I think the only items I should cover when it comes to the election should deal with the issues that could make the difference in who WILL win...and I believe that Sen. Harris will help the Democratic ticket. That doesn’t guarantee that the Biden/Harris ticket will win by any means...and if/when Mr. Biden gets involved in the debates, the poll numbers are likely to change in a noticeable way. (Why do you think the Dems favor mail-in ballots? The want a lot of people to vote before the debates!) Seriously though, the reason we believe Senator Harris will help Joe Biden is because we believe that voter turnout among people of color will make a big difference if this turns out to be another close election. If Hillary Clinton did not take those voters for granted four years ago, she’d be the one running for re-election right now.
10) U.S./China relations.....To be honest, what we’re about to say on this issue is no different than what we said last weekend. However, since we believe it will be an incredibly important issue at some point before too long (even if it’s not until after the election), we thought it will be important to repeat it as often as possible over the coming weeks and months.
To be honest, the development from over the past week two weeks on this issue that worries us the most was NOT the executive order that will prohibit U.S. residents from doing business with TikTok and WeChat (starting 45 days from now). Again, the announcement that caught our eye was the one that says that the Secretary of Health & Human Services is going to lead a delegation which will visit Taiwan. No date has been decided, but this will be a visit by the highest ranking official to visit Taiwan since 1979...the year that the U.S. ended its formal ties with Taiwan and established official diplomatic relations with Beijing.
With Intel deciding to outsource much of their manufacturing capabilities, Taiwan (via Taiwan semiconductor) will become THE key supplier of semiconductors in the world.....We have already seen what China has done in Hong Kong...and they have certainly indicated that they are ready to ramp-up their control over Taiwan. The U.S. has basically sat on its ass while China has taken full control of Hong Kong. Given how important the supply of semiconductors has become to the global economy, the U.S. will NOT sit idly by if/WHEN China makes it move on Taiwan.
Yes, the HHS Secretary will talk about health issues and the coronavirus in particular when he is there...but the real reason for the visit is for the U.S. to make a statement about Taiwan, not the pandemic.......The tensions are rising and the situation is only going to get worse. Maybe this situation will not boil over quickly enough to cause a problem for the stock market over the near-term. However, the issue of Taiwan...and what it will mean for U.S./China relations...IS something investors should DEFINITELY be thinking about when they map out their longer-term investment strategies.
11) Summary of our current stance.......It really is remarkable that the stock market has rallied to retest its all-time highs...given the state of the U.S. economy and given the consensus outlook for 2021. People can talk about how well the most recent (Q2) earnings season turned out to be, but the estimates for 2021 have not moved at all. They remain at about $163...which is the same as they reported in 2019 AND 2018!!!! In other words, we are looking at two out of the last three years with earnings growth that is no better than it was in 2018...with one year (in between) where earnings fell out of bed....and yet the stock market has rallied 35% since the end of 2018! We now have a P/E of 26x 2020 estimates and 20x 2021 estimates, so it is an expensive stock market no matter how you slice it.
HOWEVER, we also have a Fed that has provided massive amounts of liquidity to the system this year...and although the spigots are not wide open like they were in the spring (as we can see by the flattening out of the growth of the Fed’s balance sheet), they stand ready and willing to provide “whatever it takes” if it is needed once again. Basically, Fed Chairman Powell has publicly stated that there is no limit to how much stimulus they can provide if we face another down-leg to the present pandemic-induced economic crisis. We believe that the massive levels of global debt has made the situation one where the Fed will have no choice but to prevent a bear market from taking place. The system is just too fragile.
Having said this, just because the Fed is willing to provide a lot more liquidity/stimulus if it is needed, that does not mean the stock market cannot see a meaningful pull-back (or even a correction of 10%-15%) before they might act. Let’s face it, the Fed seems to be focused on stabilizing the credit markets right now, so if any normal 10%+ pull-back in the stock market does not have a noticeable impact on the credit markets, the Fed probably will not react as quickly to add more stimulus as many investors are assuming right now. When you combine this with the overbought condition of the stock market (especially the mega-cap tech names)...with the “narrow” nature of this rally...and uncertainty surrounding a new fiscal stimulus plan...and the uncertainty surrounding the election (both Presidential and Congressional)...and the uncertainty about another wave of the pandemic will see yet another wave when the weather gets colder (thus raising the odds of another shut-down)...and there are a lot of reasons to think that the stock market can and will see a meaningful decline before too long.
With all of this in mind, we believe investors should be raising cash right now...much like we suggested back in January and early February. Those who have a little cash on hand will be able to take full advantage of another Fed-fueled rally later this year......Those who followed our suggestions in Jan/Feb were very happy when March and April came around...and we think they’ll be very happy over the next two months as well if they follow the same strategy.
Matthew J. Maley
Chief Market Strategist
Miller Tabak + Co., LLC
Founder, The Maley Report
275 Grove St. Suite 2-400
Newton, MA 02466
Although the information contained in this report (not including disclosures contained herein) has been obtained from sources we believe to be reliable, the accuracy and completeness of such information and the opinions expressed herein cannot be guaranteed. This report is for informational purposes only and under no circumstances is it to be construed as an offer to sell, or a solicitation to buy, any security. Any recommendation contained in this report may not be appropriate for all investors. Trading options is not suitable for all investors and may involve risk of loss. Additional information is available upon request or by contacting us at Miller Tabak + Co., LLC, 200 Park Ave. Suite 1700, New York, NY 10166.