At the beginning of last week, I wrote that a big down day isn’t usually a bad sign for the market on its own. More than 75% of the time, the market is higher 30 days after a more than 2% one-day drop, so it should be viewed as a buying opportunity.
However, one of the important qualifiers in that statement is that the historical odds only look like that after 30 days. Big one-day drops are usually not a single isolated event. It can take a few days for the market to shake itself out, and that is what we saw last week.
Unfortunately, we are probably still going to see some back and forth this week. Traders are going to be skittish while they wait for the Federal Reserve to make a big announcement (the last one for the year) on the 17th. Will interest rates rise and slow things down or will the Fed try to stimulate the economy again?
We lean towards being optimistic, but with the outstanding risks from the omicron COVID-19 variant still causing issues, we will likely still see some big back and forth days.
What to Do Now
Although market volatility is frustrating, it also reveals the hidden value that wasn’t obvious before. If our expectations are correct for the coming week, then tech and retail should be kept off-limits. Once the market settles a little, those sectors will still be attractive.
Frankly, most investors should probably stay on the sidelines until the Fed’s announcement next Wednesday. Finish your holiday shopping, buy tickets to the next Matrix movie, and go to your kids’/grandkids’ holiday program at school.
However, for those of you who can’t resist (we understand), we have a few ideas. We are interested in stocks that were moving against the trend last week. Fundamental strength is still critical, but stocks that were either stable or rose last week are worth a new look because swimming against the current is the best way to identify hidden value.
- Sherwin-Williams Co. (NYSE:SHW): Companies with exposure to home building and construction are looking good right now, and despite a few attempts by analysts to downgrade the stock, SHW continues to move higher. We like the stock at anything less than $335 per share.
- Lennar Corp. (NYSE:LEN): Speaking of homebuilding, Lennar (LEN) is also showing very high relative strength. The underlying fundamentals are strong, and the focus on entry-level homes is a sweet spot right now for the consumers most likely to purchase this year. The stock is just breaking out, so anything at or less than $110 per share gives plenty of room to profit.
- Constellation Brands Inc. (NYSE:STZ): Are you staying at home to avoid the crowds, avoid COVID, or avoid people in general? Beer maker Constellation is ready to support the good times at home. However you decide to celebrate the holidays, STZ has captured a lot of market share over the past two years and tends to do very well when consumers are more inclined to stay home with family rather than going out. We like anything in the $222 per share range or less.
What Else to Watch?
The Fall of a Founding CEO:
In case you missed it, Twitter CEO Jack Dorsey stepped down last week. Shareholders are getting tired of the iconoclast’s leadership failing to outperform (or even match) his competitors in the social media space.
Usually dumping an underperforming CEO leads to a bump in your stock price (e.g., Steve Ballmer at Microsoft in 2014). However, Twitter (NYSE:TWTR) swung in a 13% range on Monday and has continued falling. That’s a little weird – even in tough market conditions.
You should care because tech stocks like TWTR are a good gauge of investor sentiment and risk-taking. If traders are nervous and unwilling to make a bet on TWTR, it’s a bad sign for the market.
Donald Trump’s SPAC is coming soon!
Digital World Acquisition Corp (DWAC) is a “blank check” or Special Purpose Acquisition Company (SPAC) that has supposedly reached an agreement with Donald Trump’s media company to close a $1+ billion-dollar investment. Among other activities, the combined company plans to launch a new social media company called “Truth Social.”
Maybe that’s why Jack Dorsey was fired?
Regardless of how you feel about Trump as a politician (or politics in general), this will be an interesting launch to watch. More than 80% of all SPACs drop in value after their deals are done. Especially when the deal is for a company that has limited operations, experience, or development.
For reasons too complicated (and boring) to explain here, SPACs are designed to have a share price of $10 and usually float within a few percentage points of that benchmark before their deals are complete. However, DWAC has been trading above $40 per share since the deal was first rumored in October.
Assuming the deal closes (filings have not been completed or updated), investors will have high expectations of a firm that hasn’t done much yet. Traders have to be extremely convinced the former president has bottled social media lightning to justify those valuations. Who knows? Maybe he has, and it will be interesting to find out.
What about the Santa Claus rally? If you haven’t heard of it yet, the “Santa Claus rally” describes the tendency for the S&P 500 to rise in the last three weeks of December and the first week of January. There are lots of theories about why it happens or whether it’s just one of those weird self-fulfilling prophecies in the market.
We have debates inside our team nearly every year about how much this phenomenon should be counted on (or whether it’s just funny randomness.) However, this year, the supposed timing of the rally could be just about perfect for our expected recovery from current volatility.
So, watch yourself. Santa is checking his list and we would all love another rally in our portfolio’s stocking this year.
John Jagerson & Wade Hansen
Editors, Trading Opportunities