The Stock Market’s Winning Streak Leads to Calls for a Pullback

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Published August 20, 2021

The following content from MarketWatch highlights the reason why we are model-driven investors. It is all too easy to get caught up in speculation about what markets “should do” and let that drive our investment decisions. We find it far more productive for our money to row with the market’s price trend, recognizing that market prices move up as well as down, and allowing ourselves the flexibility to pursue gains regardless of market price direction.

For now, as the content below discusses, the price has been a steady ten-month stream of unceasing gains. That will end at some point, of course, maybe even this month. The article below comments on the market’s long winning streak and the concern birthed by such a streak.

“It is the unbearable lightness of being for the S&P 500 index.

The broad-market measure of a basket of 500 U.S. stocks has been preternaturally resistant to pullbacks of late, despite concerns about the spread of the highly transmissible delta variant of COVID-19 and worries that the Federal Reserve’s strategy to reduce its bond purchases may be be ill-timed.

Yet, the S&P 500 index has seen a largely uninterrupted ascent to such a degree that this past Friday marked the 200th session without a drawdown of at least 5% from its recent peak, making the current stretch of levitation the longest such since 2016, when the market went 404 sessions without falling by at least 5% peak to trough. It is extremely rare for the market to enjoy such a period of relative effervescence. Indeed, such lengthy stretches without a 5% pullback or better have occurred on only eight occasions in the S&P 500 index, the table below shows.

S&P 500 stretches without a 5% pullback

There clearly are reasons why the market is clambering higher in the recovery from COVID, set against a daunting wall of worry. Investors are jockeying between areas of the market that are expected to boost revenue and profit faster than the rest of the pack and those that are beaten down and might benefit from a fuller economic rebound from coronavirus.

A U.S. stock-market pullback of 10% “seems quite reasonable” and any catalyst for weakness should be closely watched as valuations are no longer attractive amid a long stretch of “discomforting sentiment signals,” according to Citigroup analysts.

“Our panic/euphoria model remains very elevated and is warning of coming losses,” the analysts said in a Citi research note after markets closed Wednesday. “This is the longest period of ebullient readings without a market correction since 1999/2000 and we anticipate that something will give.”

Panic Euphoria Model

The U.S. stock market has seen an unusual number of new all-time highs this year.

“The Street is too complacent,” the Citi analysts warned. “Intriguingly, we find our conversations with clients to have a qualitative element of not worrying about higher taxes,” or the Federal Reserve tapering its bond purchases, or inflation — despite a June survey finding that more than half thought inflation could prove “sticky” in lasting as long as 12 months.

Citi’s “panic/euphoria model” has signaled “overly bullish investors” for many months, the bank’s analysts said. “A pullback may be imminent especially as earnings growth slows.”

Companies’ earnings reports for the second quarter have largely been strong, with many investors pointing to the results as an example of peak growth in the economic rebound from the Covid-19 crisis of 2020. Meanwhile, Goldman Sachs Group economists have lowered their forecast for third-quarter U.S. growth to 5.5% from 9%, citing the larger-than-expected impact of the delta variant of the coronavirus on the economic expansion and inflation.

Citi’s economic surprise index has “slumped” for major economies, according to the bank’s research report. “The delta variant may be the cause of the recent declines alongside supply chain disruptions, but it is bothersome and could translate into earnings issues down the line,” the Citi analysts wrote in the note.

“We can discern some clouds on the horizon,” they said.”

Market Update

Last week’s quiet trade gave way to volatility this week. Monday kicked off with stocks under pressure from a report showing China’s economy is slowing. The broad market indexes managed to recover to a +0.3% gain while the Nasdaq slipped a similar amount. A weak retail report Tuesday brought another bout of pressure. This time, stocks were unable to recover. Indexes closed down -0.7%. A flat session Wednesday until minutes from the Federal Reserve’s most recent meeting were released late in the afternoon. Those minutes pointed to increasing interest on the part of the central bank to ‘taper’ their purchases on bonds, a step toward reigning in the flood of liquidity that has fueled rising asset prices. The hint of a tighter Fed policy sent stocks down -1.1% Wednesday. Reports of additional regulation of China’s tech sector added another hurdle for stocks Thursday. Oil prices tumbled almost -3% as the U.S. dollar rose from safe-haven buying. Stocks overall managed to hold flat on the day. Commodities continued their retreat Friday. But stock indexes bounced back, finding buyers after the week’s earlier pullback. Friday saw stocks rise +0.8% with strength in the market’s bellweather stocks – Microsoft and Apple – responsible for a good chunk of the Thursday/Friday rebound.

Volatility picked up with stocks feeling the heat through much of the week. A Friday recovery left the S&P 500 with only a fractional -0.57% dip on the week. The Nasdaq 100 (QQQ) ultimately held flat at -0.30%. Smallcap stocks continued to experience net selling, falling -2.54% as investors sought safety in bellweather stocks. Of note, the smallcap index found buying at support that has held all year.

Warm wishes and until next week.