Repeating Patterns In Human Behavior

GREED AND FEAR

The January 1987 edition of Military Review, a professional journal of the U.S. Army, noted:

“Since the mind of the individual soldier has not changed and fear is the crucial factor in the outcome of all battles, tactics must be directed not just against the enemy, but also against fear.”

The same basic concepts apply to trading and investing; greed and fear have impacted trade for thousands of years. We all tend to get greedy at the same time and we all tend to become fearful at the same time. Thus, markets tend to follow similar patterns time and time again.

2011-2012 CASE

In 2011, market participants were concerned primarily about the European Debt Crisis. The S&P 500 dropped 19.39% before making a low on October 3. With a gut-wrenching drop fresh in their minds, market participants remained skeptical even as data and market-related topics began to improve in 2012. The S&P 500 did not convincingly break out until learly 2013. Weekly ADX in the chart below helps monitor the strength and direction of a trend. When Black ADX drops to low levels, as it did in December 2012, it tells us the market is in a trendless state. When Black ADX rises from low levels, as it was did in early 2013, it tells us a new trend may be emerging and the market may be waking up from a sleepy, trendless lull.

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2015-2016 CASE

Market participants followed a similar greed/fear script in 2015-2016. With concerns about slowing growth, negative rates, and Brexit dominating the financial headlines, the S&P 500 ran out of gas in 2015 and eventually dropped 14.16% before making a low on February 11, 2016. The similar pattern in human behavior produced a similar setup to 2011-2012. After consolidating periodically in the first ten months of 2016, the S&P 500 finally broke out in a convincing manner during the last eight weeks of the year. Once again, Black ADX started to rise from low levels in 2016 (similar to 2012) and Green ADX popped above Red ADX, telling us the market was waking up from a lull and could be in the early stages of a new bullish trend.

ccm-short-takes-ciovacco-adx-week-2015-16.png

SIMILAR BEHAVIOR AND PATTERNS IN 2018-2019

In 2018-2019, market participants were concerned about Fed policy, slowing global growth, and the U.S./China trade war. The S&P 500 dropped 19.78%, allowing for the borderline silly “longest bull market ever” narrative to carry forward. Like 2012 and 2016, after the 2018 low, the S&P 500 experienced indecisive periods of consolidation in 2019 before breaking out in a convincing manner in Q4. Once again, Black ADX started to rise from low levels in 2019 and Green ADX popped above Red ADX, telling us the market was waking up from a lull and could be in the early stages of a new bullish trend.

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The two historical charts above are dated February 1, 2013 and December 9, 2016. Both periods are similar to December 23, 2019. As shown in the charts below, the S&P 500 performed quite well walking forward from February 1, 2013 and December 9. 2016, which tells us to remain open to better than expected outcomes in 2020.

ccm-short-takes-ciovacco-adx-week-2015-163.png

2019 SIMILAR TO 1998?

You may have seen the case being made that 2018-2019 looks like 1998-1999. Does that theory align with the facts? You can decide after watching this week’s CCM video.

CONSUMER-DRIVEN ECONOMY

The unemployment rate is sitting near 50-year lows, which means more people are working and layoff data aligns with a still-strong labor market. Bloomberg reported Monday that consumers remain confident and they continue to spend:

Holiday shopping set records over the weekend, with Super Saturday sales reaching $34.4 billion, the biggest single day in U.S. retail history, according to Customer Growth Partners. “Paced by the ‘Big Four’ mega-retailers -- Walmart, Amazon, Costco and Target -- Super Saturday was boosted by the best traffic our team has seen in years,” said Craig Johnson, president of the retail research firm.

WEIGHT OF THE EVIDENCE

The weekly ADX setups covered above align with hard data covered in recent posts:

Last Time This Happened...

FUND MANAGERS SURVEY

There is a great deal of information in the blurb below from Yahoo Finance:

“Bank of America’s latest survey of fund managers with $745 billion in assets under management was conducted on Dec. 6 to Dec. 12, when it became clear a phase one trade with China would be inked. Cash levels in December as a percentage of their portfolios are at the lowest level since March 2013. The allocation to global equities surged 10 percentage points from November to 31% overweight, the highest level in a year.”

The fresh data above gives us two historical reference points similar to what we have in December 2019: (a) March 2013, and (b) about a year ago.

LOWEST FUND CASH LEVELS SINCE MARCH 2013

Was March 2013 a good time or bad time to be in the stock market? Given the S&P 500 gained over 30% and the rally lasted over two years, the answer is a good time to be in the stock market.

SPX MARCH TO 2015F2.png

HIGHEST FUND ALLOCATION TO STOCKS IN ABOUT A YEAR

One year ago, the stock market was dealing with an unfriendly Federal Reserve and concerns about the trade war. While there were still some ugly days to come, walking forward from December 17, 2018, the Fed flipped the script after significantly altering their message to market participants on January 4, 2019. Stocks have performed well using “about a year ago” as a reference point.

SPX MARCH TO 2015 ONE YEAR.png

PART OF THE WEIGHT OF THE EVIDENCE

Several recent data points align with the data above and are relevant from a weight of the evidence perspective:

Evidence Of A Broad Swing In Global Stock Momentum

INSTITUTIONS DRIVE MARKETS

Institutions typically lead in the stock market and retail investors follow, which is why equity-based mutual funds and ETFs have seen record outflows in 2019, but the stock market has still gone up. Institutions have been supporting the markets since the December 2018 low.

THESE PERIODS ARE SIGNIFICANTLY DIFFERENT

Long-term trends can help us (a) monitor what institutions are doing and (b) assess the market’s risk-reward profile. The first chart below shows the S&P 500 before and after the major stock market peak in October 2007 and before and after the major stock market low in March 2009. The second chart shows the evolution of the S&P 500’s trend via the 11-month and 13-month moving averages.

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The first monthly close with the S&P 500’s 11-month moving average (blue in chart above) below the 13-month moving average (red) came on April 30, 2008. Was the bearish signal helpful or too late? Helpful, given the S&P 500 closed at 1385 on April 30; it did not find a bottom until making an intraday low of 666 on March 6, 2009. Thus, after the 11/13 month bearish cross, the S&P 500 lost an additional 51.93%..

A POWERFUL VISUAL THAT CAN ASSIST IN 2019

We selected a broad set of global stock indexes to illustrate what institutional shifts look like and how it can correlate to future stock market performance. The table below shows global stock indexes that were in a bullish longer-term state using the 11-month and 13-month moving averages. Notice how the hard evidence looks significantly different before (May 31, 2007), during (May 31 2008 and August 31, 2008), and after (December 31, 2009) the financial crisis bear market.

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HOW DOES THE SAME TABLE LOOK TODAY?

Does 2019 look more like the concerning data on May 31, 2008 or more like the constructive data in late 2009? The answer is more like the constructive and bullish-leaning data in late 2009 (and it is not even close). The table below speaks to the longer-term outlook for stocks and tells us very little about the next few days or next few weeks.

ciovacco-long-term-11-13-trend-table3.png

YOU SHOULD HAVE COMPARED TODAY TO OCTOBER 2007

In October 2007, the blue moving average is rolling over toward the red moving average, which is evidence of a waning trend. Today, we have seen just the opposite. The blue moving average recently turned back up and crossed the red moving average, which is evidence of a strengthening bullish trend. If large institutions thought the long-term outlook for the global economy was highly negative, the chart below would not look like it does today.

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Another common rebuttal is “you should have compared today to October 2018”; we have done that on numerous occasions including in a December 6 video clip.

THESE SIGNALS SERVE TO CONFIRM EARLIER SIGNALS

Data telling us to be open to a major stock market low started to show up on January 4, 2019 when Jerome Powell said, “We are always prepared to shift the stance of policy and to shift it significantly”. Powell’s 180-degree turn from his December 2018 comments were followed by a bullish breadth thrust, another signal that provides insight into what large institutions are doing and seeing in terms of the longer-term global economic outlook. This week’s stock market video provides additional data backing up the “be open to more upside in stocks” thesis.