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In this weekend’s article, I will examine a few of the things I have been discussing about the situation locally, and then I will turn to a discussion about the long-term picture. In that discussion on the long-term picture, I will lay out “Three Coming Errors” that I expect market participants to make over the coming 6-9 months, and I believe those 3 errors will govern the structure that unfolds ahead of us. I’ve hinted at some of these here and there, but I wanted to organize them together into a cohesive picture where you can see them laid out in clarity.
Let’s look at some things.
The S&P 500 has been in something sort of bull flag-like, and it’s broken out:
Sentiment here is very bullish—too bullish. And given the initial failed breakout up there at the end of June and early July, I thought it was possible that the structure might simply fail altogether (that’s when Apple, for instance, topped). But, given the market’s hopes that CPI and PPI mean inflation is tamed and we’re going back to how things have been for years with an accommodative Fed and stocks that always go up no matter their multiples, we’ve managed to squirt up again in something that bears many of the hallmarks of a buying climax.
The equity put-to-call ratio has reached a multi-year extreme low, something that is highly consistent with a major top:
Now it could be that inflation is tamed, but that doesn’t necessarily mean anything “good.” It could also mean we’re seeing recessionary forces emerge, which is what I think is happening here. And that’s not a reason to be bullish on stocks.
So, carrying forward the thought from yesterday, very little has changed on how I am inclined to count the S&P:
That’s a big drop and I know it. But, here’s one other way we might explain why that can happen here. And for that, we need to turn to a few stocks. First, let’s look at Apple.
I have already been discussing how Apple is challenging this important trend line that has supported it all of this year:
The loss of this is a break of trend. And that will be very important here. Now, if we zoom in, I think we have something promising:
So, if Apple, Microsoft, and AMD all inform us about the possibilities for SPX, that picture can work as planned. A nice, bigger-than-expected sell.
In addition to those, I will point out a few more structures I can see. XLF continues to look awful:
Wells Fargo, big gap up on earnings, right back inside the bear flag by the close:
Oil, still dealing with this ugly bear flag:
If this breaks down, deflation and demand destruction is coming.
So, if we stop focusing too much on the ridiculous Nasdaq 100, there are plenty of signs of trouble, and even in some of the leaders of the NDX.
And of course we continue to have the most beautiful formation on the VIX:
I now want to turn my attention to the long-term picture. I want to discuss what I think will happen, and why I think there will be 3 critical errors that market participants will make ahead of us. And those errors I expect will govern the structure that lies ahead of us. I’m going to describe that here.
But before that, a short note: Since the all-time highs, I’ve been reluctant to fully endorse one bias over another completely. Early in 2022, I was at least open to more bullish outcomes, partly because of how severely sentiment shifted to extreme bearishness. On the one hand, we fell a lot in 2022 and I participated in those where I could, but sometimes I wasn’t insisting hard enough for lower prices; but we also saw some absolutely magnificent rallies, and I was often prepared for those as a result. And at other times, I was more open to more bearish outcomes, especially as those rallies matured, and some of those rallies really extended even more. Now one reason I’ve been like that is because I have a basic intuition about the nature of bear markets. They have these phases. The first phase is choppy, trappy, all over the damned place, and we certainly saw all of that in 2022. And then there’s usually a really big bear market rally that can go on for months, and one reason I may have seemed “too bullish” in parts of 2022 was because I knew at some point there would be an especially big rally that would go on for a long time. And I didn’t want to be caught psychologically unprepared for something like that, so I was open often to bullish outcomes and often bearish ones, too. At times that’s made my job difficult to get not only the turns correct, but also the duration of the moves once a turn came. Bear markets just begin in messy ways.
It would not have been any better had I been perma-bear or perma-bull, convicted one way or another throughout. If perma-bull, you’re wrong for all of the drops, and if perma-bear, you get massacred in all these huge rallies. The only other thing I could have been was perfect, catching each and every turn, and then catching the full duration of every move. And though that’s something I can always try to aspire to become, I’m very far from perfect, and I feel lucky enough to have caught the parts that I got right in this super choppy market that’s gone up and down and up and down and up. If anything, it gives us practice, and helps us to develop strong stomachs, useful tools regardless. And in fact, some of the best trades I had were when taking profits too early, even if I missed a further drop or a further rally. That’s been because I’ve just known that all this behind us was going to be difficult and unpredictable and it often was just that. There’s a lot of ways to count a lot of things behind us. But I also think that can be discouraging to folks, too. They’ll see me miss a final drop or get in too early, and those parts are not fun. But, I feel like that’s what I had to try to do.
Now, I say all of this because I’m now becoming committed to the bearish case because all the uncertain parts I thought might come have come. It’s far less necessary to try to flip and flop around as best as one can. And I want to communicate that to you explicitly. We had all this chop, we now have this big, exhausting rally in a bear market, and that’s all I need. This was it. This was especially big by historical standards (some stocks even went back to highs), but I think that’s fine because I think this bear market as a whole will be especially big by historical standards itself.
So, we had a choppy year, and I got parts of it right, parts of it wrong, and I’m bearish here and early, but I think I have very good reason to be that way. This is that big bear market rally that joins two parts: the choppy part with the not-choppy part. Let’s now take a look at the not-choppy part. It’s in that part that I believe three errors will be committed by market participants over the coming months and I think that’s worth investigating.
So that’s the thought. It’s evil as sin itself and I wanted to lay out all of those details and the reasoning I have behind them.
We’ve had a choppy and difficult market in 2022, we’ve now had this big rally, especially ridiculous on the Nasdaq and some individual names. We’ve had enough time for the lag effects of the fastest hiking cycle in history to begin their bite. And if that’s right, we can enter the next stage of the bear market. And in that, we’ll get something far more trendy than what we’ve seen, and there could be three very particular places where market participants draw the wrong conclusion, and I think it’s not a bad idea to try to anticipate what those could be.
I hope you have found this to be helpful, I hope everyone has a lovely weekend, and I look forward to seeing you next week.