Temporary Decline In Reopening Stocks

Finally, A Breather

The market came into Wednesday’s trading session very hot. Finally, we saw a pullback as the S&P 500 fell 1.16%. Finally, small caps underperformed and tech outperformed. Russell 2000 fell 1.26% and the Nasdaq fell 0.82%. Reopening trade isn’t over though. This is just a pause. 

Negative news on the day were indoor restaurant and gym closures for 4 weeks in Minnesota and the closure of NYC schools. The latter caused Zoom stock to rise 3.3%. It was down prior to that announcement, so this was a big reversal.

Most wouldn’t invest based on this though because we are a few weeks away from vaccines starting to go out. Speaking of vaccines, on Thursday morning, Oxford announced its COVID-19 vaccine was proven to be safe among all ages. That’s the phase 2 trial results. Phase 3 trials are ongoing. Why invest in any work from home or online retail stocks when the new normal we have gotten used to will be over within a few months? Your runway is shrinking.

Market Had Been Overbought

It appears that the market was extremely overbought before Wednesday’s small decline. The chart below shows this was the 4^th time in the past 4 years where over 90% of S&P 600 stocks were above their 50 day moving average. These readings have historically led to strong long term results. 

It makes sense because investors probably buy small caps all at once after they see a positive cyclical catalyst. It’s only the beginning of the run. Some investors are still bullish on small cap value through 2021. That can obviously change if the trade gets overheated. It comes down to individual valuations for those who buy individual stocks.

The chart below shows the reverse as when 61% or more S&P 500 firms are above their 200 day moving average, the market only rises 2.8% per annum. The market does better after it is oversold than when it is overbought. However, it can stay overbought for longer than it can stay oversold. 

That obviously has something to do with the great track record of U.S. stocks. But it’s also because fear creates panic quickly, while optimism grows slowly. Stocks take the elevator down and the stairs up.  

VIX Finally Falling

VIX is currently at 23.84 which is very high for a euphoric market. That’s because of how quick this rally has been. Furthermore, up until the recent vaccine news, the economy was at risk of being in trouble for a while. Many claimed we shouldn’t expect a vaccine for years. 

Now we have an effective one. We just need to have it widely distributed. Furthermore, some are claiming the vaccine will keep people who get it immune for decades. That’s much easier than needing to vaccinate people every 6 months.

As you can see from the chart below, the VIX’s nearly 190 day streak of above 21 closes is the 3^rd longest since 1990. It's amazing that we are this close to the prior streaks above 21 because this was the quickest bear market ever. It is considered by some to not even have been a bear market as they call it just a crash like in 1987.

As an aside, the decline in the VIX is good for CBOE stock because the VIX is not a good hedge when it is high for a long time. Its stock is up 13% since its bottom on October 28^th. More importantly, the last 2 streaks ended at the beginning of the past 2 bull runs. 

Could this be a young bull market? It’s certainly a young expansion. Personally, I’m bullish on the reopening stocks and bearish on the secular growers. And the 10 year yield will likely hit 1.5% in 2021. It’s currently at 85.8 basis points. Investors are probably worried about the near term uncertainty in the economy.   

Review Of Wednesday’s Action

Top news in individual stocks was the scathing short report on JOYY by Muddy Waters Research which called it a fraud. The firm states JOYY has fake transactions on its live streaming platform. This sent the stock down 26.48% on Wednesday. Nio was down 3.3% following its earnings report. This stock is a massive bubble that’s close to popping.

Tesla had a massive 10.2% rise as expected. Some investors predicted it would hit a record high after S&P Global announced it would be added to the S&P 500. Tesla is up 19.3% in the past 2 days. It’s at $486.64 which is below its record high of $498.32. 

This stock trades at 121 times next year’s EPS estimates. We know the stock is expensive and the firm is losing market share in Europe, but don’t let the facts get in the way of a good story. This stock will likely rally to close the year.

Reopening stocks had a bad day. Small cap value index was down 1.3% while the Nasdaq 100 was down 74 basis points. It’s a pretty bad sign for the Nasdaq 100 that it can’t even rally when Tesla goes up double digits. We are approaching 3 months without a record high. We don’t see this hitting a new record for a few quarters. 

It probably won’t hit a record in 2021. Cloud index was down 33 basis points because Zoom isn’t in CLOU. Regional bank index crashed 1.7%. With the recent decline in the long bond yield, the index is only 2.1% off its recent high. Oil services ETF fell 74 basis points.

Conclusion

We got a breather on Wednesday, but the long term trend is higher for small cap value. Within the next few weeks, the vaccines will be distributed which is the next positive catalyst for these stocks. Even without the vaccines being distributed, cyclical stocks have had a good week. The trade is to buy banks and energy stocks while selling software stocks.