You Don’t Have to Trade

“It never was my thinking that made the big money for me. It always was my sitting. Got that? My sitting tight!”

I write a note for clients every morning. Depending on the day of the week I will write about different topics in the market to get a sense of the likelihood of a trend continuing or changing. Here is a rough breakdown of the key topics that I explore every week:

  • Monday: Macro market trends across asset classes
  • Tuesday: Sector relative strength and rotation
  • Wednesday: Sentiment
  • Thursday: Breadth
  • Friday: Key themes and relationships

Why do I keep the same schedule week in and week out? Well, first it is a process that works best for me in analysing the market. Second, by keeping an eye on the same data points on a consistent basis, I am hopefully able to spot changes in trends as early as possible. 

But ultimately, all of these data points take a back seat to the price trend itself. For what it’s worth, based on what I am seeing currently, the odds favor a continuation of the uptrend that began in December. Notice the word odds. Nothing is guaranteed in the market. While I believe that the market will ultimately break higher, in truth, the market does not care one bit what I believe. And it is letting me know that lately, loud and clear.

Looking at the current trend in the SPDR S&P 500 ETF (SPY) what we see is a clear consolidation since July. The top of this consolidation, which is proving to be formidable is near $300 and the bottom is near $280 (the August lows). That is a $20 range of frustration. As the market trades near the top of this range, our indicator which tells us if the SPY is overbought or oversold is currently in an overbought position. Finally, Chaikin Money Flow, a measure of accumulation and distribution over the past 21 days is bearish.

So despite my view that the market will break to the upside, it seems that it is not in any rush to do so. Which takes us to the point of the above quote which is attributed to the famed speculator, Jesse Livermore. In addition to the market topics that I cover every week, I also highlight a bullish or bearish stock for our clients every day. The bullish or bearish rating is derived from our 20-factor model. For bullish ideas, I look for stocks that are outperforming the market and also have bullish Chaikin Money Flow readings. Ideally, I want to highlight these stocks when they are oversold.

This morning I ran a screen for exactly this situation and here are the results.

That’s not a mistake, the screen came back empty. Zero. Nothing to do. The leading stocks in leading areas of the market are not in a position that warrants opening new or adding to existing positions. And that’s completely fine. No need to overthink it!

Here are three scenarios that could play out from here.

Scenario 1: The market does break out from the current range. Remember, it’s a $20 range, so over 6% of upside potential if we break. Upon the breakout, there will be industries which are outperforming. That is where I will look for bullish stocks when those stocks are oversold, allowing clients to take advantage of the continuation of the longer-term trend.

Scenario Two: The market pulls back to work off the current overbought situation but remains in the range. If that happens, we will look to the leading industry groups for bullish stocks that have become oversold in the pullback. 

Scenario Three: The market retreats from current levels and falls through the bottom of the recent range, changing the trend to bearish. At this time, we can take the opposite approach from what we highlight in the first two scenarios. Look for the underperforming industry groups and highlight bearish stocks when they become overbought in the new bearish trend.

For now, the best course of action could very well be to sit tight as Mr. Livermore says. If you have winning stocks in strong trends, sit tight. If you have stocks that have fallen below YOUR threshold based on YOUR risk parameters, cut them. This will give you the cash position that you need should Scenario One or Two play out, while providing a degree of protection should it be Scenario Three.

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