Based on price action, the S&P 500 and Dow Jones Industrial Average are still in an uptrend. There are still some high probability things that have occurred that point to higher prices over the next several months, despite the recent selloff. The rally in the first half of 2019 may be just the start of a new multi-year bull market.
- The price action is still bullish based on the breakout from a recent range (blue box). The top area of that range, around 2945, could now act as support. The index has now dropped below 2945, so it is in that support zone. Possible next area of support around 2870, a rising short-term trendline.
- Also bullish are the 3 major upside days that occurred during that range (based on upside volume versus downside volume). Historically, after this has occurred the S&P 500 has moved higher by 13% over the next year.
- The NYSE advance-decline line has also pushed to new highs ahead of the S&P 500. This shows that a wider stock base than the S&P 500 is moving higher. On almost every occasion when this has occurred the S&P 500 has followed and made new highs.
- A drop below 2822 indicates the market has entered a more ranging or bearish period. This could occur if we get more selling.
One thing I was hoping is that the small caps would help fuel a rally. Back in early to mid-September that looked like it was happening. Since then the small caps have given up ground to large caps…which isn’t good since the chart above shows how the large caps have performed recently.
The following chart shows the ratio of small-cap stocks to large-cap stocks, using the Russell 2000 ETF (IWM) and the S&P 500 ETF (SPY). The ratio has been declining, showing large caps have outperformed small caps. While the ratio did bump up in mid-September, if it makes new lows that would confirm the downtrend is still in play.
It’s important to note that small caps don’t need to outperform the large caps in order for the major indexes to do well. It just helps tell us where to focus our capital. Right now the large caps are still favored over small caps. It’s nice when the small caps join and perform well in a rally because there are so many small-cap stocks that it makes it much easier to find quality swing trades. The S&P 500 marched higher throughout 2019 while this ratio was falling. So it’s definitely not a requirement, but it’s just a nice to have.
Sector Rotation Indicates This Is the Start of a New Bull Market
On a positive note, how sectors move can provide some insight into where stocks are in a long-term cycle. While everyone seems very pessimistic (that actually a good thing…a contrarian indicator) the sectors that are performing the best right now tend to the stocks that perform best early in bull markets. Remember, bull markets can last multiple years. It is quite possible that the 20% decline at the end of 2018 was the big sell-off everyone was looking for. 20% sell-offs are actually quite rare. It just didn’t seem like much because starting in 2000 and 2007 we had 50% sell-offs. But a 20% sell-off has historically been a very good buying opportunity.
Therefore, the 2019 rally could very well just be the start of a multi-year bull market. Right now we are in a correction or consolidation phase following the first leg up in that uptrend. Most people think this bull market is very old and due for collapse. But actually, that big sell-off may have reset the clock.
Back to the sectors. These are the top-performing sectors over the last three months.
These same sectors tend to do best following bear markets and at the start of a bull market.
Here is the typical stock and economic cycle, according to StockCharts.com. Not everything aligns, but overall it appears that things are lining with an initial stage advance in a major bull market. Technology led the stock market rise for most of 2019.
Sectors To Focus Swing Trades
The REITs, utility stocks, and consumer staples are holding up the best over the last week of selling. These are likely (depending on your strategy) the places to still look for long swing trades in the best performing names.
Energy, materials, and industrials have been hit hard this week. If you go short, these are places to look for trades in some of the weakest names.
Interestingly, if the S&P 500 does start to rise again, look at what stocks are likely to perform well as the bull market unfolds: energy, materials, and industrials! The very stocks that are getting hammered right now. A turn-around may not be far off…if this is, in fact, a new bull market.
Disclaimer: Nothing in this article is personal investment advice, or advice to buy or sell anything. Trading is risky and can result in substantial losses, or even more than you deposited if using leverage.
By Cory Mitchell, CMT @corymitc