He took his time, but we were graced with the start of a “Santa Claus Rally” this past week as we had described in last week’s commentary. For many of the reasons we listed in our article last week, including lighter volume, less institutional buying/selling amplifying the more retail portfolio positioning that takes place, end of year bonuses, distributions into profit sharing plans, and a belief that Omicron is not quite as potent as originally expected, (although a record number of COVID cases were emerging in the U.S.), it was reason enough for the buyers to come in.
We suspect in earnestness that the defensiveness that took hold in latter November and early December was met with “what now” and people clamored to redeploy some of the cash that found its way into the sidelines. Also, a spike in negativity caused the bears to become less defensive and “throw in the towel” that they needed to have some capital firmly entrenched in the market.
But how long will that last? Markets (and our technical indicators) are pointing to a less healthy environment (intermediate to longer term). Still higher than normal valuations (P/E, Price to Book and expanding cost of manufacturing and production) may lead one to prognosticate that 2022 may not produce returns anywhere close to 2020 and 2021.
In fact, large firms like Bank of America and Morgan Stanley have both acknowledged a slowdown in corporate earnings and a possible contraction of multiples; especially if rates rise even slower. Both are calling for an S&P 500 end of year (2022) below where we sit today.
Who knows? We are astute enough to know that the market, money flows, geopolitical risks (Taiwan, Ukraine, and the Middle East all potentially flaring up), the dollar, inflation, top line revenue growth potentially slowing, and eventually bottom-line earnings will do more to dictate where the markets go and will nullify many of the pundits’ best guesses where we will end up.
For now, we will, as we always have, depend on our analytical tools, proprietary indicators, risk averse investment strategy management, and good ole experience and common sense to guide us. Here are some of the indicators we look at in more detail:
Risk On /Bullish
- Risk Gauges improved to Risk-On for SPY and IWM, and improved to neutral for QQQ
- Apart from DIA being flat for the past 5 trading days, the other 3 major indices improved, with 3 out of 4 regaining their bullish phase
- IWM has flipped back to a positive TSI, but remains in a distribution phase
- SPY reached a new all-time closing high on Thursday
- Sentiment measured by the McClellan Oscillator improved to a positive reading for SPY, working off an oversold condition
- Cash Volatility (VIX.X) closed beneath its two key moving averages on Thursday, indicating Risk-On
- Risk-On sectors led this week with Semiconductors (SMH), Technology (XLK), and Consumer Discretionary (XLY) as the top performers
- Mish’s Modern Family shows that Transportation (IYT) regained a bullish phase on an impressive performance this week, while Biotech (IBB) looks poised to break its long-term downtrend and move back into a recovery phase
Risk Off/Bearish
- The Hindenburg Omen indicator has added yet another omen, now producing 21 total market omens
- Sentiment readings are showing that IWM is running a bit rich after its sharp rally this week, with the number of underlying stocks above their 10-day moving average hitting 80%
- Sentiment measured by short vs. long-term volatility (VIX/VXV) is showing a bit of frothiness
- Gold (NYSE:GLD) is now above both of its major long-term moving averages even though it was essentially flat on the week; now in a bull phase likely because of geopolitical stress in three areas: Russia-Ukraine, Iran-Israel, and China-Taiwan
- Long term valuation metrics continue to stay at historic frothy levels
Neutral Metrics
- Volume patterns are neutral, but not as meaningful this week with the holiday markets
- Half of the sectors that we track were down over the past 5 trading days
- Value (VTV) vs. Growth (VUG) backed off from its recent run, and needs to maintain current levels to prolong the risk-off theme of the ratio
- Emerging Markets (EEM) bounced off oversold levels and look to be mean reverting
- Metals & Mining (XME) was extremely strong as well, up 4.47%
- Although the yield curve is flattening, Bonds (TLT) remain in a bullish trading range
- The blended US Bonds ETF (BND) is under pressure and in a bear phase, pointing to higher rates, but if the increase in rates continues at this slow pace, it is not likely to upset equity valuations until certain thresholds are hit (1% short term?)