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Past performance is not indicative of future results

It is easy to forget where we came from, but we can’t.

In the short run, the S&P 500 is at a major crossroads. Either this correction recovers, and we see a melt-up into the New Year and moderately beyond, or we get a holiday wake-up call. We are leaning toward the former due to strong seasonal tendencies, but the reality is the trajectory of this market is unsustainable. At some point in 2022, or sooner if near-term support fails, the complacent bulls will be reminded of why stockholders are rewarded with a risk premium.

The bull market born in March of 2020 has experienced a few shallow corrections but has mostly been a stunning example of a runaway bull market. The rally has made fools of the doubters and trained the bulls to aggressively buy into the smallest of dips. The result has been an unnaturally steep chart pattern that could prove to be a pull-forward of future gains, or much worse, a market that must revert to the mean to normalize price action. Given lofty levels of the major indices, a mean reversion move would be frighteningly severe. While I generally lean toward optimism, I have seen complacency kill traders and investors. There is no room for lackadaisical risk management in a market that can best be described as overcrowded.

Commitments of Traders Report

In the futures markets, we haven’t seen large speculators this long E-mini S&P 500 futures since October 2018, before a rather large decline that didn’t run its course until Christmas Eve of the same year. We saw similarly bullish positioning in early 2018, prior to a sharp correction. Currently, large speculators are holding a net long position of about 167,700 contracts which leaves plenty of room for volatility if the rally continues to show signs of cracking. Not coincidently, we are also seeing historically large short positions in the 10-year note futures contract; large speculators are net short nearly 275,000 contracts. The long stock and short bond bias in the futures markets appear to be in line with the average investment portfolio which looks to be higher stock allocations (and lower Treasury allocations) that are normally the case. If the stock market continues to make it's way higher, this aggressive allocation will pay off nicely but if the masses have it wrong, as they usually do, we could see a chaotic scramble by investors to sell stocks and buy Treasuries. We doubt this portfolio rebalance will happen in 2021, but there is a high probability of it occurring in early 2022.


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Monthly NASDAQ 100

To put the pace of gains into perspective; the NASDAQ 100 futures took about 20 months to rally 10,000 points from the March low. The last rally saw a 7,000-point gain in 10 years. Can this pace continue? It is unlikely. But the question we should all be asking for is will we be fortunate enough to see the overbought conditions alleviated through consolidation, or will it be a painful repricing of assets as we have sometimes seen in overheated markets. Even a move in the NASDAQ 100 from its current level of about 16,00 to 8,000, a 50% decline, would keep the overall uptrend on a monthly chart intact.


Daily S&P 500

For now, the trend remains higher, at least for the major indices; in this market that is all that matters. We have too much money chasing too few assets which means bullish momentum is a good enough reason to buy stocks. A pivot trendline can be drawn from resistance in mid-2021. This pivot line acted as support in the latter part of the year except for a temporary breach in September and October and has managed to pivot price on multiple occasions, including Monday. If this area holds (about 4500) the bulls could get the Christmas gift they have been asking for. A Santa Clause, melt-up style rally could push the S&P 500 to 4800 and maybe even 4920. If support at 4500 fails, the market should find support near 4400, an uptrend line started in the spring. However, a close below 4400 would signal the trend is changing. At that point, we could finally see the bulls begin to liquidate their massive holdings with the next significant support level being 4000 (a trendline from the monthly chart that previously acted as resistance but will be supportive on the way down).


Monthly S&P 500

Although the S&P 500 rally hasn’t been as steep as the NASDAQ 100, the market is technically out of bounds on a monthly chart. After breaking through trendline resistance in December of 2020, the market has been trading well above its natural upward slope. These types of breakouts almost always see a retest of the broken trendline. In this case, it would be about 4000 in the S&P 500. A close below 4000 would pave the way for a much larger correction. I realize it seems impossible now, but 3000 would be a possible target for the bears. Even the mid-2600s should be considered as an outlying possibility if things get out of hand. We have seen some mega-bears call for 1500; we do not believe such levels will be seen again but we should all understand market tendencies and human emotion. When the heat is on, panic liquidation has no bounds. I am old enough to remember the audacity of the S&P falling to 666 in March of 2009 before recovering.



This chart analysis shouldn’t be considered a sell signal. As mentioned, the trend is up, and the odds are in favor of new highs sooner rather than later. Yet, it should be a reminder that the current market condition isn’t guaranteed to persist, nor is it typical. In fact, a correction into the 3000s would be considered more “normal” based on historical standards than a continuation of this pace of gains would be. Markets have a funny way of repeating themselves; volatility, albeit temporary, always shows up and it does so in a dramatic fashion. It isn’t a matter of if, it is a matter of when. Thus, while we enjoy the rally we should be preparing for the inevitable future.

*There is substantial risk of loss in trading futures and options. There are no guarantees in speculation; most people lose money trading commodities. Past performance is not indicative of future results.

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Seasonality is already factored into current prices, any references to such does not indicate future market action.

There is substantial risk of loss in trading futures and options.

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