Trading On margin

Why 2021 will end strong

Are the pros on the defensive? … How to analyze the sentiment of traders… what sector analysis reveals to know if Wall Street is worried or not

In yesterday’s Digest, we mentioned the dreaded “R” word – “recession”.

And the mediocre incomes of Apple and Amazon today don’t inspire confidence that this idea is laughable.

Fortunately, the conclusion we have drawn from famous investor Louis Navellier is that the United States is likely to escape a recession (other countries in the world might not be so lucky).

In today Digest, let’s look at this issue from a Wall Street perspective.

Specifically, if Wall Street thinks we are heading into a recession, we would likely see increasingly defensive positioning in equities.

On the other hand, if Wall Street were not particularly concerned, we would see more “risk on” allocations.

It sounds pretty straightforward. But is this analysis really that easy?

From our technical experts, John Jagerson and Wade Hansen:

The stock market is not easily predictable. It’s hard to go three, six or twelve months ahead and guess exactly where the stock market will be.

However, Wall Street does not have a big poker face. It has many clues when it starts to make significant bullish and bearish movements. You just have to know where to look.

Fortunately, it turns out that the Wall Street “tells” have shown up.

Today, let’s see where John and Wade suggest we look to assess bullish sentiment against bearish sentiment from the pros – which we’ll extrapolate as clues to recession fears. Most importantly, let’s see what this means for your wallet as we enter the home stretch of the year.

*** Are the bears on Wall Street taking matters into their own hands amid recession fears?

For new readers, John and Wade are the analysts behind Strategic trader. This top-notch trading service combines options, insightful technical and fundamental analysis, and market history to trade the markets whether they are rising, falling or sideways.

In Wednesday’s update, they raised the curtain on poker facing Wall Street:

One of the biggest tellers about Wall Street is how it treats each sector of the stock market as it goes from bullish to bearish, or bearish to bullish.

The illustration below shows which stock sectors tend to outperform during different phases of the economic cycle.

As you can see, the stock market tends to favor the financials, consumer discretionary, tech, basic materials, and industrials sectors when it moves to – and maintains – a trend. bullish.

Conversely, the stock market tends to favor the energy, health care, consumer staples and utilities sectors when it goes into – and maintains – a downtrend.

So how has the market performed since September 30, when the S&P 500 broke through support and completed its bearish head and shoulders reversal pattern?

Before we continue, let’s make sure we’re all on the same page about this bearish head and shoulder pattern, as it looks a little worrisome on the surface.

Earlier this month, when John and Wade identified the formation of this pattern, they noted how bearish head and shoulder patterns fail so often that the back-test reveals that they are a counter indicator. effective current.

John and Wade have done this back-test themselves, spanning the past 18 years. They identified each head and shoulder model within that time frame. But rather than selling stocks on the basis of this “bearish” pattern, they bought stocks.

It turns out that the system outperformed the S&P by 32%.

*** Coming back to the question, how has the S&P performed since the last head-and-shoulders model was completed?

Of Strategic trader update:

All the sectors you would expect to outperform in an uptrend are currently outperforming.

Most of the sectors that you would expect to see underperforming are currently underperforming.

You can see it for yourself.

Below, we take a look at a comparison chart that John and Wade provided of the ten sectors of the S&P 500 and the S&P 500 itself (followed by State Street Global Advisors through their SPDR Select Sector funds).

Here are the performances from September 20 until the start of the week:

  • Energy Select Sector SPDR® Fund (XLE): 13.53%
  • SPDR® Select Sector Consumer Discretionary (XLY) Fund: 10.09%
  • Materials Select Sector SPDR® Fund (XLB): 8.61%
  • Select Sector SPDR® Financial Fund (XLF): 8.18%
  • Real Estate Select Sector SPDR® Fund (XLRE): 8.10%
  • Technology Select Sector SPDR® Fund (XLK): 6.74%
  • SPDR® Industrial Select Sector Fund (XLI): 6.69%
  • SPDR® S&P 500 Fund (SPY): 6.25%
  • Utilities Select Sector SPDR® Fund (XLU): 5.39%
  • SPDR® Healthcare Select Fund (XLV): 4.07%
  • SPDR® Select Sector Consumer Staples (XLP) Fund: 3.85%

Back to John and Wade:

The odd one is XLE; it outperforms all other sectors as crude oil prices have been on the rise since the end of August.

Anytime you see crude oil prices soaring so dramatically, stocks in the energy sector will prosper.

So far, so good. No sign here of fears of recession manifested by a defensive sector positioning.

*** What we can learn about the outlook for Wall Street by examining leverage

For the next crack in the poker face of Wall Street, let’s go straight to John and Wade:

Another telltale thing about Wall Street is the amount of money it borrows to buy stocks.

Borrowing money to buy stocks is called margin buying, and the amount of money you borrow to buy stocks is called “margin debt.”

Tracking the total amount of margin debt used on Wall Street to buy stocks can give you a good idea of ​​the confidence of traders.

Confident traders tend to borrow more; nervous traders tend to borrow less.

John and Wade report that around the same time last month (these are the latest figures from FINRA), Wall Street had raised as much as $ 903.1 billion to buy stocks.

Of course, this number means little without context. So the chart below from 2016 will help you figure it out – this is colossal margin debt.

Here is John and Wade with more information:

As you can see in the graph above, this is a slight drop from the $ 911.5 billion borrowed by Wall Street as of August 21.

But when you consider that traders only unwound $ 8 billion in borrowing as the S&P 500 retreated and ended a head-to-shoulder bearish reversal pattern, it looks like confidence is still high.

Based on the dramatic bullish rally in the S&P 500 over the past few weeks, we expect margin debt numbers to rebound to new highs when we get October numbers next month.

*** It seems that, according to tradition, the market is recovering after stumbling in the fall, preparing for a bullish surge to end the year

From the two clues that John and Wade found, it looks like the pros on Wall Street are not bearish at all… which tempers recession fears.

If anything, we are just coming out of a seasonally weak time of year, entering a seasonally strong time of year.

Economist Ed Yardeni recently published research on the average percentage changes in the S&P 500, by month, between 1928 and 2021.

As you’ll see below, September is by far the worst month for stocks. October is only in the middle of the pack. But November and December are strong months.

Ultimately, yes, at some point we will be facing a recession because that is the nature of business cycles.

But judging by the bullish Wall Street indices, as well as the months of strong seasonality we are about to experience, now is not the time to let recession fears squeeze us out of the market.

We will continue to keep you updated here in the Digest.

Have a good evening,

Jeff Remsbourg

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