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ONE TECHNICAL VARIABLE WILL SIGNAL THE NEXT MARKET DECLINE

Updated: 6 days ago

Let’s face it, TPA has not been long enough this year. Why? Because the signals that have worked for TPA and its clients since at least 2009 and probably since 2005 have not worked in 2021. The main reasons are the size and longevity of the FED’s actions, adding massive liquidity to the system causing the FED’s balance sheet to swell to $8.5 trillion, and historical stimulus measures, including forgivable loans to businesses (PPP), stimulus checks, extra unemployment money, eviction moratoriums, moratoriums on student loan payments, and mortgage forbearance programs. The FED and government programs have stabilized the economy and propelled stocks higher.


Every time there is a shock to the economy or stocks, investors realize that the federal government’s ability to backstop the markets is infinite.


TPA will continue to use its Trend-Range process, which has served its clients well for over a decade, with an eye toward exiting SELL recommendations that are not working quickly. TPA will continue this stance until one thing happens - the S&P500 50DMA begins to decline.


The S&P500 50DMA has continued to rise throughout the 16-month rally since 3/23/21. Even the 2 steep declines in September and October 2020 did not result in the 50DMA declining (chart 1 below).

The declining 50DMA in late February 2020, however, happened early enough to signal it was time to exit stocks. The S&P500 50DMA began to decline on 2/25/20; moving from 3275.81 on 2/24 to 3275.61 on 2/25 (chart 2).


In addition, Chart 3 shows that a decline in the 50DMA has preceded each of the last 3 most serious market pullbacks since the start of 2016. Importantly, clients should especially pay attention to this signal, since the declines have grown steadily more severe since the first signal in 2018. The declines in 2018 were -6% and then -18%, while the 2020 drop after the 50DMA began to decline was -31%. If the pattern holds, the next decline will be the most severe of the 4 (chart 4).


The odds are that the next decline in the S&P500 50DMA will be the confirmation of a trend change. When this happens, clients should get considerably more bearish. Until then, the variables that have driven the market higher should be respected.


When could this signal occur?

The math: The 50DMA is a simple mathematical variable. Since the 50DMA merely averages the last 50 S&P500 closing prices, if the S&P500 were to remain unchanged, the 50DMA would stop rising in 50 days or a little less than 2 ½ months of trading days. What if the market were to stop its rally and start to decline very slowly? If we assume a 0.10% decline each day, the 50DMA would begin to decline on day 25. Of course, the S&P500 will not remain unchanged or decline by 0.10% each day, but TPA will monitor the S&P500 50DMA and alert clients when the signal arrives.




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