Markets have rallied over +28% since hitting their market lows in October 2022. Following market movements daily to weekly provides a lot of insight into the near-term and immediate trends in the market. And the current trend has been upward, with investors catching on to the FOMO train. While the positive price action movement shows that the bulls are in charge, it is quite a different tale if you zoom out and look at markets for the last two years. For 2023, the S&P 500 provides 13.81% on an annualized return. For 2022, the annual return is -19.44%. From a two-year perspective, a portfolio invested in the S&P 500 with a buy-and-hold strategy has performed poorly, with a +4% return.
If we compare the Nasdaq over the last two years, you are looking at a negative -2%. And one of the worst-performing indexes is the Russell 2000, where a two-year investment would have you at a -10% on your returns.
Big Picture
Markets are still in the current pullback, with the S&P 500 giving back more than 2.5% of its yearly gains. All major indices have closed the week with three straight weeks of underperformance. This aligns with what we discussed in our last blog, where our quantitative algorithms and machine learning systems identified weekly bearish signals that looked troublesome for the markets. As we quote from our concluding section of that blog:
Are we looking at a pullback that may impede the move to new highs? The initial setup looks corrective, with August as a consolidation phase. However, if the pullback is impulsive and downside pressures start mounting, the next support level for markets is at the 4311 region. For now, one should be patient and allow the market to unfold. If the pullback follows a corrective fashion, the next buy-the-dip opportunity could be here in the coming weeks. The only issue we have is weekly bearish signals triggering on all major indices. And with the overbought conditions in the current rally, there is a high probability that markets will move lower, and we see a test of support near the 4311 region.
Markets did what we expected, and the S&P 500 closed out this week at 4369. Can markets head lower? Potentially, it will be very crucial here on out with how markets respond to this support area. The RSI levels are near the levels where markets have turned around (if only momentarily). We can see this in early 2022 and in the October lows of 2022.
Market Breadth
Market breadth is in a precarious state. When one of our key intermediate data points (Stocks up\down 25% quarterly) turned over to the bullish side (June 2023), markets rallied higher. With the recent pullback, this indicator is now where there could be a bearish cross-over. Historically, a bearish cross-over could indicate more downward pressure or sideways price action movement for the coming months.
Market Sentiment
Only recently, we blogged and discussed how our current market sentiment indicator has been highly elevated with investor greed. Typically, market sentiment does not stay this elevated for months. But that is clearly what has occurred in the past few months, starting in late May. Additionally, a steep drop in market sentiment from Extreme greed to neutral or fear follows suit. We can see that in the chart below as market sentiment took a nose dive in August.
Market Outlook
The economy has had some positive news lately, with retail sales and industrial production all coming in positive. However, U.S. financial markets are taking a hit this August. While August has historically been one of the worst-performing months of the year for stocks, the recent rally starting from late June has markets in overbought conditions. We discussed this on several occasions in our prior blogs. Our last blog outlined that all major indexes signaled a bearish weekly sell signal. Let's examine what the indexes have done since receiving that weekly bearish signal. At that time, we noted a "potential" weekly bearish signal and a confirmed bearish signal.
SPY
SPY price action has confirmed the weekly bearish signal triggered on 8/7/23. And SPY has trended lower to where it now looks ready to challenge upcoming support at the 429 region. This is a critical area, as a break of this support region will send it lower to the next support at 414.
QQQ
QQQ also confirmed the weekly bearish signal it received on 8/7/23, and it has moved lower to where it also looks to test support at 349. Like SPY, this is critical support, and any break of support will send QQQ lower.
IWM
IWM has been in this trading pattern for an entire year. Since July 2022, IWM has been trading around the 193 and 181 region and has had trouble breaking out above resistance at 193. The bearish weekly signal on 8/7/23 has sent the index lower to where it now is on critical support at 181.
TLT
While the stock markets have rallied this year, we wanted to focus on the fixed-income markets. Looking at TLT for the past five years, the U.S. Treasury market has grossly underperformed. If you invested in a 10-year or 20-year U.S. Treasury at any time in the last five years, you would have lost money. Bond investors know that inflation is key in driving the bonds market. Look at TLT for this year alone or when, back in late 2021, pundits suggested that fixed income was an excellent investment. Anyone investing during these periods would have suffered some severe losses.
Concluding
Markets are right now near or at critical support. And the reason why the setup is vital is that any decisive break of support could also trigger the bearish monthly signals. Historically, monthly bearish signals on all major indices will constitute a break of the rally that started in the October 2022 lows. The current price action has been corrective, which suggests that we should see a continuation of the rally. However, the price movements over the next couple of weeks will clarify whether the rally will continue.