Euphoria Takes A Quick Breather
With the decline on Thursday and the selloff on Friday morning, it looked like markets were calming down after a big explosion. Then, madness occurred. President Trump gave a quick speech on Hong Kong which caused stocks to briefly selloff and then explode higher. This was a relief rally because traders thought he’d be tougher than he was.
There weren’t many specific actions taken against China. While the speech may not have caused stocks to fall, I don’t think this is over. This is a long term struggle between 2 super powers that will last no matter who is president. As for this week, the market ended on a high note as it is now more overbought than ever (in this bear market). S&P 500 is up 7.95% since May 13th. Technically, from Thursday’s peak, we got a 1.8% intraday selloff, but that’s not enough.
Number of risks facing this market is increasing. Economic data is improving, but stocks are so overbought you can’t be a short term bull. There are 3 risks in the short term. There is COVID-19, U.S. China relations, and the social justice protests occurring across the country. Economic activity can’t occur if there isn’t safety. Plus, these protests could spread COVID-19 just when it looked like America had a handle on the virus.
So far, the stock market hasn’t reacted to these protests. It will this coming week. Traders were too busy watching Trump’s speech on China. Worst case scenario for stocks is when an unforeseen negative event occurs while stocks are overbought. That’s what happened in February as COVID-19 caused an extremely overbought market to decline.
Record Level Of Overbought
10 day equity put to call ratio is 0.53 which has signaled a 5% correction every time since 2004. If the market rallied after reaching that level, all the gains were given back. As you can see from the chart below, 96% of the S&P 500 is above its 50 day moving average which is the highest reading of the 21st century.
When the put to call ratio is below 0.6 and the S&P 500 has increased 6% or more in the prior 10 days, the average return in the next 10 days is -0.86% with only 33% of the readings being positive. Now that we have violent protests which are hurting businesses and potentially spreading COVID-19, the stock market has an excuse to selloff. Despite the increase in buying, the CNN fear and greed index only rose 2 points to 52 which is neutral.
96%above50day CHART
All In On Amazon
S&P 500 was up 0.48% to a new bear market high. This rally has been unlike anything we have seen. It is relentless just like the selloff was. Nasdaq was up 1.29%. Since May 1st, it’s up 10.3%. The Nasdaq is up 5.76% year to date and 25.74% in the past year. S&P 500 is down only 5.77% year to date and up 9.39% in the past year. Big tech stocks are exceedingly popular.
Facebook, Amazon, Apple, Microsoft, and Alphabet are up 15% sine January 20th which is much better than the -8% return of the 495 other companies in the S&P 500. Top 5 firms are about 20% of the index. Add in Tesla if you want to study the stocks popular with retail traders. The chart below shows the average number of retail accounts holding the mega cap growth stocks is much higher than the number holding all other stocks. To be clear, holding these big growth firms is a better idea than some of the speculative firms Robinhood account holders are trading. We can see them speculating on bankrupt companies.
It’s interesting that hedge funds agree with retail traders as they are extremely long Amazon. Generally, it's good to use analysis of firms’ business prospects to determine positioning. However, when you see everyone piling into a stock, just use common sense and get out.
How can Amazon stock go up in the next year if everyone who can be bullish already is bullish? It’s not as if Amazon is buying back stock. Its profits won’t help the stock if it falls 20%. When the stock crashes, people will look for a cause. They might say AWS growth is slowing. However, the cause is simply investors going all in on the stock.
Review Of Friday’s Action
Russell 2000 was down 0.47%. After Shopify stock fell 9.8%, it caught a bid and rose 1.8% on Friday. Amazon was up 1.7% which put it down just 2.2% since its peak. Worst 2 sectors were the financials and real estate which fell 1.21% and 0.8%. Best 2 sectors were technology and healthcare which rose 1.18% and 1.27%. Traders went back to the winners after buying the losers the previous few days.
Salesforce.com Gives Weak Guidance
Salesforce.com stock fell 3.5% after it reported on Thursday. This firm was supposed to be one of the winners of this situation, but it gave weak guidance. Specifically, it reported 70 cents in EPS and $4.87 billion in revenues which represents 30% growth. EPS beat estimates by 1 cent and sales beat estimates by $20 million.
The firm gave “temporary financial flexibility” to customers hurt by COVID-19. This firm which was thought of as impenetrable was impacted by the virus. It gave quarterly EPS guidance of 66 to 67 cents which missed estimates for 75 cents. It gave sales guidance of $4.89 to $4.9 billion which missed estimates for $5.03 billion.
Usually, investors like when a firm gives guidance even if it’s bad because this is an uncertain time. However, Salesforce is held to a higher standard as it is the biggest pure play in cloud services.