CAUTIOUS INVESTING WITH A LONG-TERM VIEW
TPA has been cautious for the past 2 months. That does not mean that we do not provide BUY recommendations, but it does mean that the hurdle for buying stocks is much higher. TPA’s current ratio of active BUY/SELL recommendations is BUY (39) 41%/ SELL (55) 59%. Later, TPA will summarize the reasons for its current cautious position, but first we will outline the methodology that has made TPA successful for the past 11 years.
Over the past 11 years, TPA has arrived at its bullish and bearish stances by following market-tested practices that all boil down to whether the potential for return is worth the risk at any given point in time.
TPA has historically found it easier to make strong, broad market strong BUY calls than overall negative calls, which has to do with the overall trajectory of stock prices over time. For example, TPA went to an extreme positive stance on 12/24/18 and 3/23/20. TPA has eventually been right on its negative calls, but we are normally a bit early, relative to an ultimate decline, when becoming cautious.
TPA HISTORIC POSITIVE AND NEGATIVE MACRO BIASES
On-time or early, TPA’s market analysis has consistently adhered to the following tenets:
1. TREND-RANGE STRATEGY
· BUY:
- Short-term breaks at longer-term uptrend support
- Short-term breakouts above longer-term downtrends
- Bottom of range
· SELL:
- Short-term breaks at longer-term downtrend resistance
- Short-term breakdowns below longer-term uptrends
- Top of range
The 6 charts below show the patterns that are usually associated with TPA’s BUY and SELL recommendations.
2. RELATIVE STRENGTH
· Buying positive relative strength, selling negative relative strength – stocks, subsectors, sectors, markets
· Buying improving relative strength, selling worsening relative strength – stocks, subsectors, sectors, markets
The 2 charts below show the change in relative strength between BIGTECH and Industrials since May. June through the start of September marked improving relative strength for BIGTECH versus the market and the S&P1500 Industrial Index. Since 9/2, BIGTECH has shown declining relative strength.
RELATIVE PERFORMANCE S&P500, TPA BIGTECH, S&P1500 INDUSTRIALS INDEX – 6/2/20 TO 9/2/20
RELATIVE PERFORMANCE S&P500, TPA BIGTECH, S&P1500 INDUSTRIALS INDEX – SINCE 9/2/20
3. MONITORING EXTREMES – as the market, sectors, subsectors or stocks begin to reach long-term extremes, TPA will bias its short-term decisions with the longer-term extreme in mind. TPA has many measures that in monitors to determine when conditions are nearing long-term extremes:
· Historic patterns – markets repeat patterns at extremes. TPA identifies common patterns for clients and warns of the potential for an inflection point.
· TPA Canaries - Market, sector, subsector, stock, commodity, FX, and interest rate critical levels
· TPA Marketscope – broad market measures of extremes
1. Short term market score
2. Percent stocks above and below 2 standard deviation Bollinger Bands
3. Percent stocks with RSI’s above 70 and below 30
4. Percent stocks trading above their 50DMA
5. Percent stocks trading 50DMA > 200DMA
6. Locate the current S&P500 level using the bell curve (1, 2, and 3 standard deviations)
· Historic Valuation – TPA measures broad market categories present Price/Book Value versus the 5-year and 10-year averages. The current Price/Book Value is deemed cheap or expensive by examining the current value’s number of standard deviations from the long-term mean. Categories that are 2 or more standard deviations away from the 5-year and 10-year mean are at extremes.
The strength of Large Cap and Growth has driven these stocks to statistical extremes in term of valuation as measured by Price to Book Value especially looking at the long timeframes of 10 years and since 2004, when TPA began its calculations. Of course, part of the market’s continued strength, in light of the problems that are evident today, has to do with the historic steps the FED has taken. The chart below shows the FED’s balance sheet since 2000. In the past 20 years, as the FED has had to deal with the Financial Crisis and COVID-19, its balance sheet has grown 700%. In the normal course of business, the FED has under $1 trillion in assets on its balance sheet. Today the FED has over $7 trillion in assets on its balance sheets. The incredible liquidity provided by the FED has inflated stock prices.
FED BALANCE SHEET 2000-2020
What is driving TPA overall negative bias:
1. Concentration of the stocks market – the top 8 stocks in the NASDAQ 100 (TPA’s BIGTECH) make up 29% of the S&P500. This represents a concentration of bets in a small number of companies.
2. BIGTECH is showing underperformance – now, a small number of stocks that have huge influence over the benchmark indexes are underperforming.
3. Uptrend break – even though the market has regained its footing, the uptrend break in March marked a serious breakdown.
4. Individual stock charts – most stock charts in the S&P1500 are not technically positive and are not strengthening as the market rallies.
5. Historic valuations - are out of whack on a long-term basis.
6. Risks – TPA does not see the market discounting large risks inherent in the economy, Pandemic, the upcoming election, and possible election aftermath.
7. Risk measures – one risk measure, High Yield spread, is still sounding an alarm even as the stock market rallies.