The Byrds, a 1960s pop music group, incorporated the words of the preacher in Ecclesiastes into their best known hit song, which was set to music that is as iconic and memorable as the biblical lyrics.
And a time to every purpose under heaven
“To everything there is a season
A time to be born, and a time to die
A time to kill, and a time to heal
A time to laugh, and a time to weep”
The recent passing of Senator John McCain, President George H. W. Bush, and myfather-in-law, General William A. Gantt, provided for at least one of the presiding ministers at the funerals to quote these ancient words once again. Death, the uninvited guest, can cause us to have moments of reflection as an event, no matter how long anticipated, suddenly arrives. In the cases of these three men, which served their country with distinction, the moment of their passing followed the opportunity for a long goodbye during their declining health. The lifetime of service of Senator McCain and President Bush is well known, but that of General Gantt almost not at all, because the military recognized that the General’s gregarious and affable nature, and personality, could be put to good use — covertly. The General’s service could be considered representative of countless others, which would suddenly disappear for periods of time during unannounced travel to foreign and hostile countries on Cold War missions, which were never discussed upon returning home to family. And now, years later, after our long goodbyes we honor them in a singular moment at their funeral for their service, as they pass away, and intoour memory. So what does all this have to do with the stock market?
Major stockmarket tops are in like manner as the long good bye, as opposed to a singular moment when a major bull trend finally expires as measured by an index. Capitalization weighting and the math involved in stock indexes can obscure the degradation occurring in many dozens of underlying stocks, as a stock index approaches its terminal peak. Major tops are processes, as opposed to events. Since October the stock market has begun to display some characteristics, which in the past have been precursors to bear markets. The process of declining underlying strength in objective measures of supply and demand is continuing. For example, a bear warning signal was recently completed as the TATY indicator declined into the caution zone surrounding the 125 level, and has now stalled out near the red zone not once but twice.
The effects ofthe favorable seasonal period, which occurs roughly from Halloween to Easter each year, must begin to show up as strengthening numbers in an array of supply and demand indicators soon, or the triggering of the recent bear warning may give way to more episodes of actual bear behavior. Even newly minted major bear markets can sometimes linger near all-time highs for weeks before getting down to the business of wealth destruction, as recognition slowly gives way to panic selling. The capital preservation drill is an exercise in avoiding the panic episodes of mindless selling, which often occur as bear markets mature. The early innings of a new bear market can be sneaky and very difficult to diagnose, but the late innings not so much.
Objective measures of supply and demand have changed enough since October to slant the strategic big picture toward favoring a developing bear market. The shifting strategic picture implies we must begin to make a turn toward protecting profits and portfolios, as opposed to trying to maximize profits. So the bottom line is given the developing strategic picture, a time has arrived for new tactics tobe implemented to address the arrival of new and potentially harmful circumstances. Please take a look at the attached exhibits, and then read on for a briefing on our tactical plan for changing strategic circumstances.
The first chart above should be very familiar, as it is the S&P 500 weekly in red and blue candle format, and the supply and demand indicator, TATY, overlaid in yellow. Last week this chart showed divergences, which this week I have not included. The important information on this chart is that the indicator has stalled out again just above the red zone. I have been giving the bull trend the benefit of the doubt, because although the indicator has labored near the red zone, it hasbeen painting our rising bottoms — until Friday. The rising bottoms and the potential arrival of the positive seasonal pattern demanded that I respect that another assault on new highs was still possible. However, with the collapse of the rising indicator bottoms on Friday, it is becoming more obvious that another successful assault on new all-time highs is becoming a declining probability. So, hard evidence has now developed that the strategic big picture is likely shifting toward a developing bear market. Only a strong resurgence in the supply and demand measures would likely halt this shift toward a bear trend.
The tactical picture must now account for the changing strategic picture. The second chart below is the S&P 500 on a daily chart with Fibonacci retracements of the decline from the all-time high at 2941 to 2603 shown. The recent rebounds have encountered resistance at the common 62% retracement level. As the chart shows,there have been two trips up to this zone, and both failed to go higher. So now we have TATY stalling near the red zone, and the price struggling around S&P-500 2800 after a “long goodbye” type negative divergence during most of 2018. A picture seems to be emerging, does it not? Well analysis is all fine and good, but what does all this mean for portfolios?
Alexander and I have been fortunate recently to have a number of potential clients decide to entrust us with their wealth. Most of these new clients have portfolios, which are coming over to us, but which have not yet arrived. We are trying to complete these transfers for obvious reasons given the shifting big picture. Unfortunately, most of these accounts have been loaded up with high commissions, and high trails to the selling brokers, under performing mutual funds. Even if the market was still strong there would be lots of work required to clean up these incoming portfolios. In these cases, tax considerations notwithstanding, rallies will be used to exit these underperforming products into strength. Given that mutual funds are dinosaurs, which can be sold only on the market close, up days will be critical to get the best possible price for clients. Ditto for individual underperforming stocks, as we will do our best to get as favorable prices as possible. The decline this past week may have been strong enough to put in a short term bottom, so another substantial rally soon in this volatile environment is a good possibility. A rally above S&P 500 2800 would be a huge gift at this point, but for now 2800 appears to be strong, and now tested, resistance.
For clients already in our managed ETF model, we will be peeling off some of your VOO and QQQ into residual episodes of strength, with an eye toward both of those ETFs going ex-div around the 15th. Any rally attempt from current levels will likely linger until after the ex-div date. Alexander and I like dividends, so we always check potential sell candidates to see if an ex-div date is looming near term.
In summary, the positive seasonal trend of years past has not yet shown evidence of having arrived yet this year, but evidence that the supply and demand balance under the market is weakening is emerging. If this pattern continues, then portfolios will need to be re-configured for preservation of capital. Are we on the cusp of a “winter of discontent”? In the days and weeks ahead critical risk and wealth management decisions will be required.