- The S&P has touched its 200 daily moving average.
- VIX is in backwardation. Bearish for VIX, bullish for stocks
- The stock market’s correction will not hurt the U.S. economy.
- Financial conditions are very easy. Not necessarily a bearish sign for stocks.
Read Study: the stock market will be higher in a few months
2 pm: the S&P has touched its 200 daily moving average.
I previously said that the S&P’s 200 daily moving average represents maximum downside risk (provided that our Medium-Long Term Model is right and this is not a “significant correction”).
The S&P just touched this level today.
The S&P reconnecting with its 200 daily moving average is important because it has not touched its 200 daily moving average since November 2016. Mean reversion is normal.
Our study this morning showed that the S&P would face a maximum downside risk of -12%. This correction has just hit -11.8%.
All in all, this has been a very standard correction. The S&P crashed, which was followed by a retest & marginal lows. The medium term risk:reward is bullish, and now the short term risk:reward is bullish as well.
A CLOSE below the 200 daily moving average is possible, which I think represents maximum downside risk.
3 am: VIX is in backwardation. Bearish for VIX, bullish for stocks
VIX is usually in contango, which means that futures contracts that are farther out in time more expensive. This makes sense. Volatility is more likely to increase as time goes on.
VIX is currently in backwardation, which is the opposite of contango. This is a rare situation in which futures contracts that are farther out in time are cheaper than contracts that are closer to today.
This rare VIX futures curve is bearish for VIX and bullish for stocks in the medium term.
3 am: the stock market’s correction won’t hurt the economy
Some traders and investors think that the current 10.1% “small correction” in stocks will hurt the U.S. economy, which will drag the stock market even lower. I disagree.
The economy leads the stock market, not the other way around. When stock prices and the economy diverge over the medium term, stock prices always mean revert to the economic data’s trend.
*”The economy” is not GDP. GDP is a terrible economic indicator that A) fluctuates a lot and B) lags the economy’s true trend.
The U.S. economy’s fundamentals are solid right now. This means that the stock market will ultimately move higher and re-align with the economy. Investors and traders should not lose sight of the bigger picture just because stock prices are falling. Fundamentals determine the medium-long term, technicals determine the short-medium term.
3 am: Financial conditions are extremely easy. Not necessarily a bearish sign for stocks.
Despite the current stock market correction, financial conditions are extremely easy right now in the U.S. according to the Goldman Sachs’ Financial Conditions Index. This is the easiest they’ve been since 1990.
Bearish investors fear this means that a bear market in stocks is imminent. They are wrong on 2 fronts:
- Financial conditions were extremely easy by 2011. The U.S. stock market has soared since then. This is not a useful timing indicator for bull market tops.
- The financial conditions index focuses more on interest rates than the stock market. 3 out of its 5 components focus on interest rates (short term Treasury rates, long term Treasury rates, credit spreads).
In essence, this index should be used to predict bond market tops, not stock market tops. Financial conditions have been extremely easy since 2010 due to global QE. Now that QE is turning into quantitative tightening, interest rates are on the rise long term. But interest rates are still historically low, so it will take at least a year or two before rates hurt stock prices.
Read Stocks on February 8, 2018.
Here’s what I think will happen based on my discretionary outlook.
- The S&P has made a small 6%+ “small correction”. This will not turn into a “significant correction”.
- The S&P 500 has approximately 2 years left in this bull market.
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.