There are two things happening in the U.S. stock market now that haven’t occurred since 1900.
Before I break down what they are, let’s first build the background by looking at an annotated chart. Please click here for the annotated chart.
The chart is of the SPDR SP 500 ETF Trust
which mirrors the popular benchmark index of the largest publicly traded U.S. companies. (I didn’t use the chart of the Dow Jones Industrial Average because I have forgone the purity of backward-looking analysis in favor of making the forward-looking analysis more useful. The reason is that the Dow is a price-weighted index and is disproportionately affected by high-priced stocks.)
Anyway, what you see is a candle-stick chart using the Heikin-Ashi technique, which helps isolate trends and predict future prices. In the present context, a red candle is formed when the closing price is below the opening price.
Please note the following from the chart:
• The magnitude of the rally is large in such a short span.
• There are no volume spikes on red candles.
• The highest number of consecutive red candles is three.
• The largest pullback is very shallow.
• There is an extended period of very low volatility followed by a shallow pullback, and then another extended period of very low volatility followed by a technical breakout. This, by itself, is a bullish pattern.
What does it all mean? In plain English, buyers are lined up to buy stocks on any dip in prices.
The historical context is even more powerful. It tells us two things that have not happened since 1900.
The first thing
The second thing
The second thing is more important as it foretells what may come next: the combination of items listed above during the six-week period following a presidential election. (I had to improvise some data, but it does not change the conclusion.) That is, the strength of bids in the market lined up to buy on dips.
The most reliable indicator
The VUD indicator is the most reliable technical gauge I have found. It gets very complicated, and I don’t have data going far back, but the VUD indicator confirms the underlying strength. To see how the VUD indicator is used, please see “Five reasons stocks are being bought and gold sold despite terror news” and “This buying panic may last until Dow 20,000.”
What to do now
Amid all this bullishness, it’s important to remember that the market is technically very overbought. Overbought markets are vulnerable to adverse news. Adverse news can come at any time, such as when a company reports poor earnings or President Trump makes a threat to another sovereign nation. It’s important to note that, on a fundamental basis, the stock market is expensive and, thus, vulnerable.
Here’s the best strategy: Raise cash by selling risky stocks and ETFs into the strength, and then wait patiently for pullbacks and buy the right stocks and ETFs on weakness.
Examples of the right ETFs to buy are large-bank ETF SPDR KBW Bank
regional-bank ETF SPDR SP Regional Banking
and broker-dealer ETF iShares U.S. Broker-Dealers Securities Exchanges
Examples of the right stocks to buy include Bank of America
J.P. Morgan Chase
Please see “Bank stocks have a good shot at beating the broader market in 2017.”
Consider selling sectors and stocks that carry too much risk, such as pharmaceuticals. Company examples include Pfizer
and Eli Lilly
Please see “What pharma investors ought to do after Donald Trump fires a salvo.”
Consider avoiding export-dependent stocks such as Apple
and Skyworks Solutions
Please see “10 popular stocks at risk from Trump’s ‘America first’ inauguration speech.”
Disclosure: Subscribers to The Arora Report may have positions in the securities mentioned in this article or may take positions at any time. All recommended positions are reviewed daily at The Arora Report.
Nigam Arora is an investor, engineer and nuclear physicist by background, has founded two Inc. 500 fastest-growing companies, is the developer of the adaptive ZYX Global Multi Asset Allocation Model and the ZYX Change Method to profit from change in trading and investing. He is the founder of The Arora Report, which publishes four newsletters. Nigam can be reached at Nigam@TheAroraReport.com.