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Friday, February 21, 2020

Update 2/21 Narrow market the last three months could be trouble

Wow, down two days in a row.  That is hard to believe!

SPX followed through on yesterday's selling.  It nearly tested the 20 SMA, but bounced before it got there.  Volume was pretty heavy.  SPX is well extended above the 200 SMA which it has not touched since early last June.  That is a long time.  A sizable pullback would not be uncommon.

The futures tested below the 50 SMA, but had a significant bounce going into the close.  That is a good place to bounce from, but what will the news bring over the weekend.

The red count crossed above the green line.  This is the fourth cross on this rally.  Often the third cross is enough to cause a few weeks of consolidation/pullback.  The odds are higher on a fourth cross.  Nothing is 100 percent, but odds to favor more pullback in the days ahead.

This is a curious chart.

In the past 3 months there has been over 20 days with less than 50% of stocks outperforming the index.  In the last 15 years getting up over 5 has caused a bear market (2007) and a year long correction (late 2014).  The sample size is small, but this chart shows the market leadership is narrow.  History has shown narrow markets usually make important tops.  This isn't a great timing indicator, but it is a great warning sign of trouble in the not too distant future.

Schwab has been reporting a big surge in retail investor trading accounts that started last fall.  I suspect the resolution of the China trade situation gave retail investors the idea it was time to pile back into the market.  As reported a few times the ticks suggest this rally has been driven largely by retail investors.  I have not seen a tick accumulation signal since last July.  This is the longest period without a signal in this bull market.  They always say retail investors buy the most at the top.  The retail investors have been buying the most for several months.  This is really the first time in this bull market that we have the kind of optimism often seen at bull market tops.  I have not seen anybody try to argue the market is not overvalued lately either.  The transports and IWM still have not made a new high.  We have technical problems within the market at the same time retail investors are driving prices to extremes.  Add in potentially serious economic problems from a global pandemic and there is a combination that could lead to some serious downside. 

Since the announcement of the virus the upside in the market has come largely on upside morning gaps.  I have to wonder if this was not a pump and dump scheme by market insiders.  It does not take all that much money to run the market up overnight.  Then they sell into the retail investor feeding frenzy after the open.  I heard Bob Pisani saying a few times this week it was confusing why the big tech stocks were going up at the same time utilities and other defensive stocks were up strongly.  I don't find this confusing at all.  Smart money managers were selling their tech stocks to the retail crowd while putting the money into more defensive stocks.  They are preparing for the coming correction that any long time money manager has to know is right around the corner.  The only other times I can remember this much retail excitement was 2000 and 2007.  The trick is to figure out when the frenzy is going to end.  That is tough.  Maybe this is a good time to take some money off the table and see what happens.

CNBC keeps parading people on TV comparing this virus situation to SARS and saying it is nothing to worry about.  I have been around for 6 decades and in all that time I never saw millions upon millions of people being quarantined.  This is most definitely not like SARS or any other virus in my lifetime.  Unlike the market pundits the healthcare professionals are claiming the risk of a global pandemic are very high.  Who do you think we should believe on that subject?  Infection numbers outside of China are picking up.  More countries are having infections.  Due to the ease this virus spreads I think the only way it gets stopped is if it dies out when the weather warms up.  We don't know enough about this virus to know if that will be the case.  If it does we could still have a problem if it is like the flu and comes back in cooler weather next winter.  We really have a lot of unknowns about this virus.

With the market this overvalued and the risk of economic slowdown because of the virus the risk/reward seems skewed to the downside.  Be careful.

Have a great weekend.  Peace.


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