Stock market on December 15, 2017: thoughts and outlook


*These are my short term discretionary thoughts on the market. My model determines my trades.
Go to the homepage for my latest market outlook. I update this webpage throughout the day.
I have a question. Would you like me to start a forum on BullMarkets.co? Readers can discuss their trading/investment strategies, thoughts on the markets, etc. In addition, readers can ask me questions via the forum. Let me know your thoughts by commenting below or emailing me.

Stock index & news

  1. A low Commodities:stocks ratio does not mean that the stock market will enter into a bear market.
  2. U.S. stock market valuations are high, but won’t impact the S&P 500 in the medium term.
  3. Active investment managers are insanely long U.S. stocks.
  4. The latest U.S. economic data is beating expectations across the board.

Please read What happens when the Dow outperforms the S&P by more than 5% if you haven’t already.
3 pm: A low Commodities:stocks ratio does not mean that the stock market will enter into a bear market.
I stated that commodities are historically cheap when compared to stock prices. Hence, a long term mean reversion in the commodities:stocks ratio is to be expected in the next few years.

Some traders think this means that the U.S. stock market will fall significantly (hence the Commodities:stocks ratio will rise). There are no signs of an upcoming bear market in equities.

  1. The long term direction of the U.S. stock market IS NOT determined by commodity prices. The long term direction is determined by the state of the U.S. economy.
  2. The long term direction of the stock market can be impacted by the state of economic growth.

I think the opposite is true. Commodity prices and stocks prices will rise together over the next few years, but commodity prices will rise more (commodities are significantly more volatile than stocks). Hence the Commodities:stocks ratio will go up.
3 pm: Valuations have no impact on the U.S. stock market in the medium term.
Whenever you ask someone “what’s the biggest risk” to the U.S. stock market, they’ll say “valuation”. Yes, we’ve all seen the “U.S. stock market is overvalued” chart.

In reality, valuations ALONE have little impact on the U.S. stock market in the medium term AND the long term!

You can see in the above chart:

  1. On a 1 year basis, valuations explain just 10% of the market’s return.
  2. On a 5 year basis, valuations explain just 42% of the market’s return (not even 50%).

This is why valuation indicators are just one component of the Medium-Long Term Model.
5 am: Active investment managers are insanely long U.S. stocks.
According to the NAAIM latest survey, active investment managers are insanely long U.S. stocks. The average active investment manager is 110% long U.S. stocks (i.e. he is leveraged). Here’s the chart.

This seems very bearish doesn’t it? No.

  1. This data series only goes back to 2006. The more data an indicator has, the better. I mostly ignore data that only goes back 10 years.
  2. The NAAIM Exposure Index is a short-medium term index. Even a small 2-3% pullback can cause the Exposure Index to decline significantly. The Index is of little use to medium-long term investors/traders.
  3. The market often continues to rally for a long time after the Exposure Index is very high. For example, the Exposure Index was at 104 on January 30, 2013. The S&P soared throughout all of 2013.

 
5 am: U.S. economic data is beating analysts’ expectations across-the-board.
Here’s a recap of these past 2 weeks’ major economic data:

  1. Initial claims: 225k vs 239k expected (BEAT)
  2. Retail Sales: 0.8% vs 0.3% expected (BEAT)
  3. Nonfarm private payrolls: 221k vs 170k expected (BEAT)

You can see the strength of U.S. economic data via the Citigroup Economic Surprise Index. Data is beating expectations across the board.

We get Industrial Production today and housing data next week.

Conclusion

Here’s what I think will happen in terms of my short term discretionary outlook.

  1. I think the S&P will make a small 6-10% correction in Q1 2018.
  2. Then the S&P will make a new high, before making a multi-month consolidation or multi-month “small correction” in the 2nd half of 2018.
  3. 2018 will be much chopper than 2017. As of October 2017, this is the longest rally in history without a 6%+ “small correction”. If you haven’t already, please read What will the S&P do after rising 8 consecutive months.

I do not use my discretionary outlook to trade. I remain 100% long UPRO because my Medium-Long Term model does not foresee a significant correction at this point in time. I ignore small corrections. I only sidestep significant corrections and bear markets.
I have been 100% long UPRO since September 7, when the S&P was at 2465 and UPRO was at $109.3
*I also have a small Day Trading portfolio. Click here to view my day trades.

8 comments add yours

  1. I read your blog every day and as a swing trader would enjoy a forum where people can share their investment / trading strategies, thoughts, and ability to ask you questions.

  2. I agree with Rich. I think a forum is a great idea! It’ll drive community engagement and discussion that’s difficult to do with only a comments section. The comments I’ve read here have been civil, intelligent, and worth reading so a forum could add a lot of value.

  3. Forums create too much chaos with intentional negative motives. Example: someone is stuck short or long: this could breed negative behavioral comments to sway trading/investment decisions both on intra-day timeframes /weekly/and monthly timeframes. I think a forum is a bad idea, just check the yahoo boards, nothing but chaos and bad posters because traders are stuck Long/short. Keep things simple with just a comments section.

    • You make a good point Matt. Yeah I was wondering why forums have been slowly disappearing over the past 10 years

  4. Actually, I don’t want the moderation of the forum to come in your way of writing such great posts; inevitably, you’ll have trolls. You’ll also have to moderate the users you approve, this might cause many context-switches, that might adversely impact your articles.

    • That’s a great point Ahmad. It will probably take a lot of time just doing admin for the forum.

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