On February 11, the market was set for doom and gloom with
the S&P trading as low as 1810, oil was sitting around $26, and everyone
was talking about 2008 all over again. Since then, there has been a complete
reversal in sentiment for no apparent reason, which should give you caution as
an investor. If you remember, back on January 24th with the S&P
trading at 1877, I predicted the market would trade down and retest the lows
one more time before rallying back up 14% to 2066. I still stick with that
prediction, however with the S&P straight up 10.4% in just about 3 weeks, I
believe it’s time to prepare for a brief sell-off back down to 1888 before
going back up to that 2066 level.
There are a number of factors that go into my thought
process.
Reason #1: Technicals
After the better-than-expected jobs data on Friday, the
S&P traded to a high 2009.58, which just so happens to be the 61.8%
Fibonacci retracement from the 52-week high to low. If this market still had
legs, it would have pushed right through that level, but it failed. I think you
could see a high of 2020 in the S&P on this move, which is the 200-day
moving average. At the same time, today’s close of 1999.99 is almost exactly to
the decimal at the 100-day moving average, another key resistance level. The
technicals just don’t justify a continuous move higher without a pullback.
An often-used technical indicator, the RSI (relative
strength index), is at 63, nearing overbought conditions. An RSI of 70 is the
level most analysts use to determine if a market or stock is overbought and
last time we were at this level in the RSI was when the S&P topped out in
November.
Reason #2: Oil
Oil has rallied 39% in two weeks despite no global slowdown
or freeze in production. Oil continues to remain a supply issue and not a
demand issue and there is no evidence of that easing. In fact, this week’s
inventory levels showed that supplies are at an 80 year high. If you want to
use the spring and summer seasons as a reason to be optimistic that demand will
increase thereby decreasing supply, you should think again. The 52-week high in
oil occurred on May 6th last year at $62.58 and then proceeded to
drop 29% through the entire summer. In looking at a daily chart of oil, it’s
hard to see the commodity trading above $38 in the near-term, especially
without any news indicating that oil supplies are going to begin dwindling.
From these levels, I see more risk to the upside and believe oil is headed back
down to $30…again before pushing higher into the end of the year.
Reason # 3: The 10% rally has been lead by short covering,
which is unsustainable
50 companies in the S&P have at least a 10% short
interest, and just about all of them have significantly outperformed the
broader market since the February low. Netflix has a short interest of 13% and
has rallied 22.5%, Freeport MacMoran has rallied 92%, and Transocean is up 66%,
just to name a few. In addition to those, look at other energy names like
Chesapeake Energy is up 232%, Consol Energy is up 57%, Marathon Oil is up 69% and
ConocoPhillips is up 34%. To further prove my point, completely beaten down
high multiple names like Mobileye and FireEye have rallied 47% and 53%,
respectively. Hell, even Amazon with it’s 9 million P/E is up 18% since
February 11th. These moves are completely unsustainable and while I
believe that some of these names were extremely oversold, I believe they are
now overbought. I would look to fade the commodity names, especially Freeport
MacMoran.
Reason #4: Too much uncertainty
Markets hate uncertainty and there is plenty out there. This
Thursday, the ECB will conclude it’s 2 day meeting and indications are that
they will announce further stimulus by pushing interest rates further negative
than they already are. If they do anything other than that, US equities will
sell off. The Fed is set to meet later this month and with the futures market
indicating that the Fed will not raise rates this month, anything other than
that will send markets sharply lower. In fact, any rate hike this year, despite
the fact that I still think they should raise rates and should have a while ago,
will send stocks sharply lower.
We are in an election year it is looking more and more
likely that it will come down to Trump v Clinton. If it’s Trump, God help us
all. If it’s Clinton, you better get out of healthcare and biotech because
she’s gunning for each and every company in those sectors.
Reason #5: Jamie Dimon really can’t save the day
What a lot of people are NOT talking about right now is how
on that Thursday, February 11th low of 1810, Jamie Dimon gave
investors a vote of confidence in bank stocks by purchasing about $25M worth of
JPM stock. What was significant about this purchase is that it came at a time
when the stock, along with every other bank stock was getting crushed. JPM was
down 26% from last year’s high and 20% for the year. Others like Bank of
America, Citibank, Wells Fargo, Morgan Stanley and Goldman Sachs were all
fairing just as bad or even worse.
Not only were the banks selling off because of a flattening
yield curve due to low interest rates, but banks began to also announce that
they are setting aside billions of dollars in reserves to protect again
defaults on loans to energy companies. JPMorganChase, themselves, announced a
$1.6B increase in reserves.
This by no means is a situation like 2008, given that these
energy loans make up just a very small part of bank’s loan portfolios. You may
call it just a “tempest in a teapot.” Remember when good ‘ole Jamie Dimon
called the London Whale trade a “tempest in a teapot.” After all, JPM has rallied
14% since Jamie’s purchase, and the Bank ETF (XLF) is up 14% as well, both
outpacing the broader market. So maybe it is a tempest in a teapot. However, I
am more inclined to believe that despite the 2008 collapse, bank CEOs truly don’t
know how bad their portfolios will be if more and more oil and gas loans go
into default. I also don’t think that the bank rally will or should continue
since I don’t see interest rates rising above 2% this year. Without the bank
rally, the stock market is headed lower.
There are a whole host of reasons as to why I believe
market, at least in the near term, are headed lower. I don’t believe we will
take out the previous lows, but if you ask me if we will see S&P 1900
before we see 2100, I am more inclined to say 1900, here we come.
My current positions: Long
Gilead Sciences (GILD), Starbucks (SBUX), Time Warner (TWX), NXP Semiconductors
(NXPI), Darden Restaurants (DRI), Celgene (CELG), Mobileye (MBLY), Jack In The
Box (JACK), Under Armour (UA), Apple (AAPL), Southwest Airlines (LUV), Dow
Chemical (DOW), Costco (COST), Amgen (AMGN), Home Depot (HD), Allergan (AGN),
FireEye (FEYE), Humana (HUM), Skyworks Solutions (SWKS), Disney (DIS), Lockheed
Martin (LMT), TJX Companies (TJX), Altria (MO), Constellation Brands (STZ), Bristol
Meyers Squibb (BMY), and LONG June 10-Year Treasury futures.
Jeff Lewison
