Well, I pretty much nailed the top a couple weeks ago. The reason for the cautious stance was simple. Too much of the weak traders which includes many of the hedge fund and trend following types piled into the long side. These folks are just buff sniffers, they aren't true "believers" in the bull market. They chase when markets go up and run for the exits when they go down. Now they are starting to do the latter. Recall trader Mr. X I follow? On Monday he commented ""this is just a corrective move not bear market behavior". That complacent attitude he had has now notably shifted to "there's no motivation to put cash to work now". So, I think we're on the way to wringing out the short to medium term complacency that the market has. Some folks are hopeful that after the election we will have an element of uncertainty removed from the market and so it can start going up again. Don't hold your breath for that. Until we get the complacency fully wrung out of the market and the hot money gets defensive/bearish I would be skeptical of any bounces being sustainable. I said the same thing in late September. There's probably going to be a shit load of whipsaw action next week.
What if we are at the brink of something really nasty i.e. a real bear market? Does market action and fundamentals suggest this? Well, the former is indeed showing some signs as it stands now. We got a potential double top and a market that has been dripping down daily for the most part. If you look at a long term chart of a market bell weather like Apple it has clearly gone parabolic. The thing that is missing though is marked change in fundamentals i.e. earnings. Last night Apple reported strong numbers but a disappointment came with Iphone 12 rollout delays. But look at this following chart with respect to Apple's price to sales ratio.
At the very least this suggests that you're not getting a bargain buying Apple here. It would be one thing if a parabolic run up in a stock is being supported by accelerated sales/earnings but that's not the case with Apple.
Another thing that troubles me is the behavior of bond yields. I have always said that prior to most notable sell-offs in stocks there tends to have been a notable rise in bond yields. As the market then corrects so do bond yields which helps build the foundation for the next rally as the TINA narrative and lower discount rates are supportive for stocks. We got the rise in bond yields leading up to the mid Oct peak but since the market has rolled over, bond yields have remained elevated. That's normally not a good sign for the market. The only other time I recall not seeing bond yields decline as the market was forming a bottom was that last waterfall decline from Feb 2009 to March 2009 to mark the bottom of the 2008 financial crisis bear market. In hindsight, that may have been a sign that the bond market had correctly been pricing in better growth ahead. Maybe that could be the case here, but more often than not, when I see bond yields not declining during a stock market sell-off , it signals complacency and at some point bond yields will end up declining notably before the sell-off is over. Again, I will defer to the indicators and expectations.
What about all the "pricing in" I was talking about in a prior post? The problem is that too much complacency and hot money flows built up to negate this...at least for now. Too many people were trying to play the contrarian and ended up becoming a victim of it! I still believe that deep down there is still that underlying pessimism and distrust of the market which is why I think there's still a good chance that we're not at the verge of a big bear market just yet. The big bear markets happen when the sky is blue, the outlook is rosy and monetary/fiscal policy is restrictive. We clearly do not have those conditions in place. But because of the weak/hot money positioning this correction has the potential to be a nasty one unless we really see a big u-turn in the sentiment indicators soon. Stay tuned for next week as the election circus unfolds.
Notice how I didn't even mention that it was the new lockdowns and/or lack of stimulus that triggered this sell-off. That was simply the catalyst not the cause. The true cause is the poor sentiment/positioning backdrop for when you have such a condition, the market is ripe to sell-off no mater what catalyst may present itself.
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