It has been difficult, almost painful, to remain doubtful of this last 2-3 weeks of rally on the NASDAQ. A lot of volume has flown, and a lot of stocks in general have moved. However, a bitter aftertaste remains in my mouth when I look at what opportunities actually presented themselves to me.
One of the keys of making money in the markets is to start getting back into stocks when the news are worst and people capitulate, and when most people think that a rally on the indices is ‘another one of those’ fake bear rallies that will roll over again in a couple months of time. That however presupposes that a) people have actually capitulated and b) there are great opportunities to be seized in numbers.
After a momentous rally, the dollar might now finally find a temporary zone of support after many months of heavy selling locking it in a deep downtrend. As you will read below, precious metals are already responding to a now-likely bounce in the reserve currency. The dollar rising usually cools the equity market for a little, and a digestion in the best case and a rolling over of the indices is direly needed for a while now.
Market internals improve markedly but lack ‘icing’
If I had to sum these last few weeks up, I’d say the market has improved strongly but interest in stocks is largely due to buying in laggard industrials and bottom-fishing expeditions and short squeezing in previously-played tech leaders from the last cycle, all while the stocks that should herald a new uptrend are limited to a small handful of volatile and often thinly-traded semiconductor companies and fundamentally weak biotech microcaps.
I’ve talked at lengths about how the typical signs of speculator capitulation never materialized in this bear market. Not for individual speculators, and not for institutional ones. As volume signatures tell, the bottom-fishing part of the rally was actually heavily enforced by larger money managers trying to get a ‘bargain’ in damaged tech stocks and more rotation into high-earnings stability stocks for an anticipated recessionary environment.
Many benchmarks indicating breadth have markedly improved, such as the New Highs/New Lows ratio or the number of advancing issues. This is a great improvement, but it has at this point in time still to be taken with a grain of salt. The indices and the ‘average’ stock can advance as much as it wants; if there are no stocks fitting my criteria, i will remain skeptical.
NASDAQ drives from the back seat
The week kicked off with a miniature reversal that quickly recovered into a deafening rally over a bunch of days. Speculators again started patting themselves on the shoulder when Mr. Powell uttered ‘disinflation’, which ignited heavy dip-buying and short-covering in the very stocks that had been depressed the most by the central banks intervention.
While volume on NASDAQ was undeniably strong over the last month, this was less so on the NYSE Composite or the SP 500. The massive gap on Thursday was largely driven by FAANG stocks, and now appears exhausted and inviting swing-traders to take profits. But the market has been extended for a long while now, and I see no reason renewed short-squeezing could not press the NASDAQ to $12,750 or so in a matter of weeks.
The NASDAQ had been severely lagging other segments of the market since October, and it is not surprising to see such a strong rally in this tech-heavy index in the current earnings season and close to inflation numbers and Fed commentary. The market remains highly sensitive to economic news and numbers, speculators are fidgety in both directions.
However, a decision point of where the market headed is long overdue. Whoever wanted to buy has bought, and most of those covering their shorts will likely have done so too. From now on, only convicted buying from a critical mass of institutional money will be able to push this market organically back up. I’ve seen a few but definitively not enough signs of this just quite yet.
An eery pattern can be seen in stocks
My MVS score has improved somewhat, and I will not stand in its way. If a great opportunity comes along, I will sure try my hands at it – one should never insist on one’s opinion, the market always has the last word. But I still see too many caution signs (not in the economy, but in leading stocks) to be committing heavily.
Whether this market will reluctantly grind into a new utptrend, or will slowly roll over, the fact remains that a lot of stocks have been drifting up on anemic volume (see DKS chart below, a typical volume profile these days) while almost all the buying power witnessed in this rally has been directed towards either old and damaged goods or new ideas but with massive overhead selling supply:
- META, >70%
- W, >140%
- PTON, >170%
- CVNA, >300%
- FVRR
- ALGN
- SSTK
- SPOT
- AOSL
- UPST, >18% in a single day
- DOCN
- PLTR
- AFRM, >19% in a single day
- SOFI, >90%
- AI, massive amateur FOMO rally >180% in this no-earnings tech stock
- …
Rallies in such low-quality stocks, accompanied by strong action in uninspiring laggard stocks such as TPX or HOG (Harley Davidson) is not what will drive a new sustainable uptrend in equities.
Semiconductors, transports and industrials lead
The stocks that did rally heavily recently were mostly various transports, heavy industrials, and semiconductors. Industrials and other capital goods are usually late movers in a business cycle, but there are various reasons that could indulge mutual funds to play with these – improving emerging and overseas markets, a weakening dollar, earnings stability, you name it.
Despite good and strong action in many stocks (e.g. URI or ATKR recently), the last word is not spoken yet, as moves in this sector have equal problems with selling often coming back in soon after an advance has started – just look at how CAT, recently one of the leading industrials, is sputtering around its earnings report.
The improvement in semiconductors (see specific stocks below) and transports though is a great benchmark for bettering conditions, and one of the main reasons I’m probably giving this rally more credit than it deserves. This is all the more the case with consumer staples, healthcare (e.g. LLY, AMGN, BMY, VRTX) and insurances pulling back, usually all favored as ‘safer havens’ in a bad market.
The Dow Jones Transport Index has been ripping, and many stocks from the sector have had impressive reactions to earnings reports, case in point the trucker ODFL. Equally strong action was observable in home builders and construction materials stocks. PHM, DHI, LEN, THMC and others had huge up-days after earnings were reported in some of these stocks, corroborated by a bounce in lumber and copper futures.
The transports and home builders are usually among the first to discount recovery from an earnings recession. So far so good.
Precious metals shake heavily
There was a lot of talk recently about the precious metals Gold and Silver improving. I had reported on this many time,s e.g. here and here, but was wary of committing to anything due to most miners still being stuck in long-term downtrends (which is also still true for silver futures).
With the dollar bouncing along long-term treasury yields, gold price and miners stocks shook heavily, while silver reversed back from its down-trend line and looks like it might continue downwards again unless support comes in timely. Gold was severely extended and in need of a digestion, so we will see … however, setups in individual stocks are suffering already and price is already being rejected at down-trend lines (e.g. see AEM, GFI, FNV, AU).
Copper futures and stocks are pulling back as well, it remains to be seen whether for a retreat or for digestion remains to be seen. If SCCO’s action is of comparative value, then I don’t like what I see. I had thought about probing into SCCO last week, but decided against it due to the relative shortness of the platform formed throughout January in comparison to the size of the complete digestion. It tried to move out on mediocre volume and had an equally mediocre earnings reaction on Friday, so I passed.
Too few important stocks act well
I could meander on about how ASO is wedging into New High ground on low Volume since its earnings report in December, how ON semiconductor is running from a faulty digestion pattern up into an overbought market, or how some other stocks act bad. But the really impactful insight comes from the fact the few stocks that actually are acting well are so few in number it is highly concerning.
The strongest leaders of the last few weeks were a small group of relatively unknown semi-conductor stocks. The ‘A’-triplet (ACLS, AEHR, ALGM) and PI are all fundamentally sound, sporting massive earnings and revenue growth with pertinent and forward-looking products. ACLS and ALGM actually had formed somewhat OK accumulation patterns, but due to my generally weak impression of the market I had passed on an entry. If they are followed by a large wave of more high-quality stocks setting up, I will change my approach quickly.
However, as a group these few stocks are overall thinly traded, which does not inspire confidence in the market leadership. In fact, the only true pure-breed high-quality growth stock that I can see is MBLY that has moved up with the market after a very erratic digestion pattern and a very mediocre reaction to a blasting earnings report.
Compared to many other market participants, I do not see pressure to enter a stock until all the odds on my side, and here they just were not. Remember, a few months ago, the stock GFS that is very similar to MBLY had ripped a few times equally, just to roll over later.
Other stocks that had been doing well recently have long rolled over. The graveyards of LNTH, SWAV, CPRX, GFS, CELH or ENPH should serve as a reminder that these stocks might move more, but there is no rule that says that they have to. The market remains extremely extended, and the risk of owning a newly-started position in a volatile stock is growing by the day.
Summary
A few stocks act well, and they should be watched for better entry points. Remember that a lot of money has been lost by ‘investors‘/speculators to pick the exact bottom. There are a lot of people right now on social media posting that they are in good stocks, but they failed to mention that they have lost a lot of money in the previous bear rallies, dabbling long positions in a bear market.
I’ve seen statistics of hedge fund managers being down 50% in 2022 … you don’t have to be first. You have to be in when the odds are highest that a trend is durable, and then take out the middle meaty chunk of the move. This is more than enough to outperform the market and most market participants by a wide margin.
The market remains extremely extended, the NASDAQ had worked its way >11% above its 50-day moving average, which is a sign of strength in a rally but also requires a pullback with a constructive digestion. The quality of this digestion in the indices and more importantly individual stocks will tell me how to proceed in the next weeks/months.
I get the impression that this rally has very few new high-quality stock advancing, while a lot of lower-quality laggards are leading still. There is a lot of short-covering, but also massive bottom-fishing to front-run inflation news and a Fed pivot to lower interest rates.
I’ve not been a fan of this rally (see here, here, here or here). It is still on thin legs and precarious, but if leadership shows up in a better way I will definitely start participating. For the moment, this exhausted move on the NASDAQ has to digest constructively.
But then, if this rally should be so good, where are all the great quality stocks leading it? So far, there is only a handful of semiconductors … history shows that this is both not enough in number of stocks and different industries to push a market up durably, unless more show up.
I will observe, and act on what materializes. For those out there trying to work themselves into this rally, be careful. The market has to bottom at some point, but this does not have to be now … and it usually is after most people have given up, which the signs do not indicate.