The broad market S&P 500 index is showing some extreme signs of exhaustion following an incredible run post elections. This last leg of the 8 year bull market in equities has some aspects that we could begin to equate to a longer term blowoff top. Now to be clear I am generally bullish equities longer term but I have become increasingly bearish in the near term.
The near term catalysts that have propelled markets forward have to do with various aspects of the Trump agenda.
Primarily it has to do with tax reform and the potential for many billions of dollars to come onshore which, due to the onerous corporate tax environment in our country today, presently sit offshore. That would be extremely stimulative and could create a wave of stock buybacks, capital spending and perhaps even special dividends to shareholders which would all be very bullish for markets.
Other aspects of the Trump agenda also have been seen as beneficial to particular sectors in the economy such as the banking sector with talk of rolling back Dodd-Frank or for example the health care sector with Obamacare struggling and on the verge of being repealed. Last but not least is the massive proposed infrastructure spending programs which would create many jobs and be stimulative to a lackluster economy.
What all of these have in common is that they are only proposed policies and even though Trump enjoys a majority in the House and Senate today, for these measures to come to fruition, he will have to have bipartisan support and bipartisan anything is wishful thinking in Washington these days.
markets seem to be getting ahead of themselves here as the saying goes and we have reached some significant measures of overbought that have been telling in the past.
Below is a monthly bar chart of the SPX which is the S&P 500 index. The Bollinger band’s simple moving average (middle line) is set to 13 periods (months in this case) and the outer bands are 2 full standard deviations above and below. Notice on the last bar to the right which corresponds to this month. We are trading right up to the 2 STD line already following the major push higher in February. Since the 2009 low, we have not closed above this metric. The last time we closed above this same level was in Dec of 1999 and off course we saw a major pullback thereafter.
So no matter how bullish one may be in the longer term time-frame, the near term probability of much higher price levels, at least looking out through this month of March, are slim and consequently, the potential for a 3 to 5% pullback is high.
Markets rarely overshoot to the upside as expectations are usually quickly tempered but often do overshoot the same SD levels to the downside as we can see in the same chart above. When traders panic, we get sloppy selloffs with everyone trying to get out of the door at the same time as we saw in early 2016.
So as far as my allocations are concerned, I am sitting with 1/4 size positions in several stocks. I have taken them down from being fully invested to 1/2 positions and now sitting at 1/4 size. On any move above the 2 STD on the 13 month I will go flat all positions and structure a bearish tactical short trading position on the broad market using ES (S&P 500 Futures),
Again this is not a long term bearish call but a tactical trading strategy.
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