Stocks: Reasons To Be Concerned

TEPID RESPONSE TO FED/TRADE NEWS

It is probably fair to say the market has three primary areas of concern: trade, Fed policy, and global growth. There is no question the news on the China/USA front has improved in recent weeks and stocks are lower today. On November 28, the Fed chairman backed off his “we are a long way from neutral” statement and stocks are lower today. A logical deduction could be the market remains concerned about growth/earnings.

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DOWNTRENDS MAKE LOWER LOWS

Simple can be powerful in the markets. Respecting markets can reverse in a bullish manner at anytime, each time the S&P 500 violates one of the prior 2018 lows, the odds related to the longer-term downtrend scenario increase. On November 19, we noted, “concerns would increase if the October 29 low is exceeded, especially for more than a relatively short period of time (a few hours or a few days)”. Last Friday, the S&P 500 closed below the October 29 low of 2603. We will learn something either way in the coming days and weeks; if the lows hold or if the lows are taken out.

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As noted in this week’s video, the tape (price action) has been UGLY over the past two weeks. On December 5 we noted, “Tuesday’s big drop increases the odds of the S&P 500 taking another significant leg down”; nothing has improved since then.

VALUE LINE GEOMETRIC INDEX

The average stock, like the major indexes, has been hit hard in recent weeks. If the horizontal area of possible support fails to hold, the index would have to drop somewhere in the neighborhood of 4-5% just to test the upward-sloping trendline.

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IF THE FED THROWS A BONE

As noted on Twitter, the longer-term reaction to this Wednesday’s Fed statement/press conference should be telling.

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IMPORTANT TO STAY FOCUSED

Would we be better off if we had a crystal ball and decided on 12/31/2017 to move to 100% defensive long-term Treasury bonds (TLT)?

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REASONS TO REMAIN OPEN TO BULLISH REVERSAL

Historical or present-day factual “reasons to remain patient” data is useless if the present-day market cannot improve. However, 1994 was a difficult year just as 2018 has been a difficult year.

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This week’s stock market video covers both sides of the bull/bear coin and numerous post-Fed-statement scenarios. The video also covers numerous “keep an open mind” data points, including numerous references/similarities to 1994-95.

STICKING TO THE PLAN

For our approach and our timeframe, we will stick to the prudent plan outlined in generic terms on November 24, 2018. The December 6 comments relative to establishing key “time to act” triggers are still relevant. The market paused and consolidated after making an intraday low on October 29 and there were numerous reasons to remain patient/reduce whipsaws. The purpose of remaining patient is to allow time for the market to show us something. Thus far, the market has shown very little; that may change, but it hasn’t changed yet. If the market continues to fall, our plan will most likely call for action rather than patience.

This post is written for clients of Ciovacco Capital Management and describes our approach in generic terms. It is provided to assist clients with basic concepts, rather than specific strategies or levels. The same terms of use disclaimers used in our weekly videos apply to all Short Takes posts and tweets on the CCM Twitter Feed, including the text and images above.

Important Reminders

PRUDENT vs. PANIC

As noted on December 5, Tuesday’s big drop increases the odds of the S&P 500 taking another significant leg down. Thus, we have to be open to the possibility in the coming days and weeks that all four 2018 lows shown in this post will be violated. Notice the previous sentences contain the terms odds and possibility.

As covered in detail on November 23, from an ugly chart pattern, including one with price below a downward-sloping 200-day moving average and numerous high-selling pressure red sessions, really ugly things can happen and surprisingly favorable things can happen if the newscycle flips the script on something that is bothering the market.

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The November 23 video covered 13 cases, 12 historical and 2018. To help us keep an open mind and remain tactically and psychologically prepared for ALL outcomes, it is helpful to revisit the summary “what happened next” table regarding the 12 ugly historical setups.

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As history clearly demonstrates, our plan must be able to handle a wide range of outcomes from seeing the S&P 500 drop an additional 40% to 50% to seeing something flip in the newscycle which could trigger a rally leading to gains between 60% and 80%. In all the historical cases above, it felt terrible and there appeared to be little hope of a rally, and yet, in 10 of the 12 cases something improved in the newscycle and the market’s technicals improved quickly. We saw an example of the newscycle flip recently when the Fed chairman made some favorable comments and stocks rallied sharply.

A HIGH DEGREE OF CONFIDENCE

Basic logic tells us if the S&P 500 is going to drop an additional 40% to 50% from Tuesday’s close, all four 2018 lows below will be violated. In that scenario, we do not know how they would be violated (normal downtrend vs. big gaps down). None of these levels were violated at the open on Thursday, December 6, 2018.

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Downtrends make a series of lower lows. Thus, each time a low is violated, the present day starts to look more and more like a long-term downtrend versus a wide range of consolidation that we have today.

Everyone is watching the same basic charts, which means stops tend to be set near the same levels, which can trigger somewhat of an air pocket or cascading effect near those levels. Often after all the stop orders are triggered, the market can find a bid (all TBD). Thus, under our approach, we do not use hard stops and we do not choose the most obvious levels as “time to act” triggers. We also take into account the possibility that key levels are often violated for a short period of time (a few hours or a day or two) only to be followed by a rally.

We have a very specific game plan based on numerous logical levels, allowing us to prudently balance and account for a wide range of possible outcomes, from wildly bearish to wildly bullish.

As of Tuesday’s close (markets were closed Wednesday), the S&P 500 was above all four major 2018 lows. That may change in the coming days and weeks, but it has not changed yet. It is important that we let logic, rather than emotions and red screens, dictate our actions during periods of high stress and anxiety.

As shown via the table below, the S&P 500 would have to fall 168 points on Wednesday to make a significant lower low below the February 9, 2018 low of 2532. A drop of 168 points is possible and we are prepared for all outcomes over the coming sessions. We are not making any assumptions about whether or not areas of possible support will hold or be taken out - they are simply reference points. We will to stick to our well-constructed and prudent plan while remaining cool, calm, and collected.

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This post is written for clients of Ciovacco Capital Management and describes our approach in generic terms. It is provided to assist clients with basic concepts, rather than specific strategies or levels. The same terms of use disclaimers used in our weekly videos apply to all Short Takes posts and tweets on the CCM Twitter Feed, including the text and images above.