Will Stocks Ever See a Down-Day Again?

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The bulls won another round last week as the month of October kicked off with an up-note in the stock market. Trend followers, algorithms and under-performing fund managers last week all favored hitting the buy button, and while we most certainly want to continue to respect the primary up-trends in many areas (until broken), in the near-term yours truly remains whistling a cautious tune.

Will Stocks Ever See a Down-Day Again?As such, allow me to reiterate my top three near-term risk factors for the U.S. stock market.

  • The Federal Reserve will begin shrinking its $4.5 trillion balance sheet. Although the balance sheet reduction will take place in baby steps, in the past when the Federal Reserve removed part of stimulus, stocks didn’t like it too much in the near-term.
  • Corporate earnings season will kick off in earnest the second week of October.
  • The tendency for a seasonal volatility spike for stocks in the month of October cannot be ignored.

So you know, from a sentiment perspective after speaking with a host of institutional investors last week I have not heard such bullish complacency in multiple years.

While this alone is no reason to sell your entire portfolio and head for the hills, combined with my aforementioned risk factors, it does increasingly paint a more somber picture for near-term stock market bulls.

As such at this juncture it hardly matters whether we look at the S&P 500’s SPDR S&P 500 ETF Trust (NYSEARCA:SPY) or another major U.S. equity index, most of them look at risk of a pullback in the near-term.


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Moving averages legend: red – 200 week, blue – 100 week, yellow – 50 week

Before looking at more equity-related charts however, let me say a bullish word on the price of oil and energy stocks as a sector. The price of oil along with plenty of energy stocks had a good month of September.

While according to my proprietary trend-measuring scanners these assets still only remain near-term bullish, we are getting closer to possibly seeing them also turn medium-term bullish. If and when that  happens and Nymex Crude Oil can sustainably overcome the $53 area, we could see oil trade with a $60 handle into year-end as the trend following crowd will be forced to chase oil and energy stocks higher. This trade idea could also be expressed using an equity ETF such as the United States Oil Fund LP (ETF) (NYSEARCA:USO).

Such trend changes as we may witness in energy stocks and the price of oil can be taken advantage of with a high-probability income-generating strategy using options.

For those unfamiliar with this powerful income strategy I am holding a special webinar for InvestorPlace readers on Oct. 12 at 7 p.m. Eastern, 4 p.m. Pacific. Click HERE to register.

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Moving averages legend: red – 200 day, blue – 100 day, yellow – 50 day

Moving over to the stock indices, last week the Dow Jones Industrial Average pushed to the very upper end of its trading range and thus also became further “overbought” from a momentum perspective.

Again and to be clear, this alone is no reason to liquidate your portfolio but it does make this juncture in my eye an awful reward-over-risk spot to buy new long positions.

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Moving averages legend: red – 200 day, blue – 100 day, yellow – 50 day

To wit, the small capitalization stocks, i.e. the Russell 2000 or the iShares Russell 2000 Index (ETF) (NYSEARCA:IWM) last week saw its RSI (relative strength index) in blue at the bottom of the screen reach’overbought’ readings last seen in the year 2003.

In summary, while I continue to like things like biotechnology, energy and select large-cap technology stocks into year-end, for the here and now I aim not to chase stocks higher until a consolidation phase of sorts has come to pass.

Also, both historical and implied volatility for the stock market remains near record lows.

This too, for the near-term, continues to favor taking some near-term profits in positions and/or buying protection via the options market OR even shorting some SPY ETF or IWM ETF or futures or whatever works within your portfolio … in small size.

Check out Serge’s Trade of the Day for Oct. 9.

Today’s Trading Landscape

To see a list of the companies reporting earnings today, click here.

For a list of this week’s economic reports due out, click here.

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