🔔 The Veteran's Autumn View

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The headline on the virtual front page of CMC Markets Opto magazine this week asked if there could be a stock market correction?

That’s a valid question of course but is it any more valid at this time of the year than any other?

Well, it's certainly true that September has a poor reputation for stock market returns and last year we saw a -10% correction in US equities over a two and half week period...

September 2021 is off to an uncertain start and the bulls aggression seems to be cooling as can be seen in this response to a Deutsche Bank monthly investor survey.

When asked where the S&P 500 would be in 3 months time only 14% of the Survey respondents thought it would be higher than its current levels, the second-lowest level of the year so far.

42% of the respondents remain bullish on the index over the next 12 months.

We can’t, or shouldn’t ignore the fact that the S&P 500 hasn’t had a -5.0% correction or greater for well over 200 hundred consecutive sessions.

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In the Macrodesiac chat, I recently shared what I took to be the most important chart in the equity market right now showing the relationship between the S&P 500 and its 50 day EMA, a line from which the index has bounced half a dozen times throughout the year so far.

You can see that chart and the moving averages below and if you were a betting man you wouldn’t discount that line being tested once more in the not too distant future. The million dollar question... Will it hold once again?

If you put your faith in momentum (and when we are talking about the continuance or otherwise of a stock market rally why wouldn’t you?), then the omens suggest it should.

There's also the monthly Option Expiry (OpEx) pattern to consider...

Deutsche Bank has kindly crunched the numbers on the duration of S&P 500 rallies between 5.0% corrections the current rally is in the top decile of S&P bull runs over time and above long-term averages for the data set.

The upshot of this is that the longer the rally goes on, or at least avoids a -5.0% correction the longer it’s likely to continue.

We can get some more idea about just how unusual this rally has been if we compare the size of the rally to those that have gone before...

Once again Deutsche Bank have kindly obliged in doing just that in the chart below and here the rally is in the 92nd percentile.

Once again it’s far outstripped the historical averages for similar rallies in terms of its performance.

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Now I have rarely been accused of being a cheerleader for the bulls and those that know me would categorise me as a bear!

On occasion, I have likened investors plunging headlong into equities as being akin to the fairytale of the Emperors new clothes.

However, I try to be a pragmatist and though the bull market will eventually come to an end it needn’t necessarily happen right now.

In fact, there are several reasons to think that it shouldn’t, for example, the index and its constituents are hardly looking overbought.

With, for example, just 53.46% of S&P 500 stocks trading above their 50 day moving average compared to a figure of 97% in late June 2020

In fact, here is a 2-year chart of the number of  S&P 500 stocks above their 50 day MAs

The red line on the chart is the 50-day moving average, of that line. And if anything based on this metric you could be forgiven for thinking the index is unwinding to a point from which it might bounce again rather than sharply correcting.

Sell-offs tend to occur when new formation dispels prior sentiment and just like in the Emperors new clothes the audience can’t unsee what it has seen or realised.

The illusion collapses and while we make a good case about why -5.0% would be healthy and long overdue etc I think the Emperor’s blushes will be spared for now...