In the 27 years I’ve been actively trading the markets, I constantly run into people who insist that stock markets always go up. While they are correct when you step back and look at the 100-year chart, they are incorrect when you break it down into smaller time frames. For 12 years from 2009 – 2021, the market was on the biggest bull market rally ever seen. This was fueled by carefree spending by the government and central banks to stabilize a struggling economy. During that span of time, everyone was a market genius. You could have bought just about anything and made money, something I witnessed back in the 1999 market surge as well! However, nothing lasts forever. Looks like it’s time to pay the piper.
One of the foundations of my longevity in the markets has been the mantra “The trend is your friend, until the bend at the end”. It’s such a simple saying yet is critical in keeping you on the right side of the trade. To help align this article with its title, let’s look at the weekly chart of the S&P 500 ($SPX) to set the big picture.
In this chart, you can see that the only real break in the trend from 2009-2022 happened as a result of the Covid pandemic, a black swan event. Then things began to change. Beginning in January 2022, there was a significant pullback in the markets, leading to a 27% drop in the S&P in just 10 months. From there the markets rallied again. The big change this time was that the rally lacked momentum and could not break the January 2022 highs. This is a classic “Stalling” of price action and brings into question the long-term trend. On the chart above, its clear that something is different starting from 2022, but is the bull market actually over? Let’s look at smaller time frames to see.
Looking at the last 3 years of the S&P, it’s pretty clear that there is no real direction. While there have been some fantastic fluctuations in price, and abundant trading opportunities, the markets feel range bound for now. Let’s look closer.
Looking at the last year of trading, the change begins to emerge. One of the classic definitions of a trend is: For an uptrend, you need a series of higher highs, and higher lows. For a downtrend, you need a series of lower highs, and lower lows. The uptrend officially broke where the vertical red line is placed. That was the first time the uptrend broke a pivot low. At that point, one of 3 things can happen. Prices can go up, down or sideways. When you factor probability into the equation, the picture gets clearer. The odds of it bouncing back up decrease significantly because the market is making new lows. Therefore, the buyers are not buying like they used to, this increases the probability of price decline. The second option is that price traverses sideways for a while until it finds interest and pushes in one direction or the other. What we are witnessing now is the third option: Prices going down. From the July peak, the markets have been making a consistent series of lower highs and lower lows, the classic definition of a downtrend.
Its worth noting that this is not a call for catastrophic declines from here. Merely that the sentiment has changed, and that going to cash or shorting may be the highest probability choice. While the macro picture has me feeling bearish overall, the price charts give me measured targets to shoot for. Based off the above chart, the most logical target for this current slide is right around the 3,800 on the S&P. From current levels, that would equate to a little over an 8% decline. I’m sure you futures traders can break down the reward potential for a 336-point drop in the S&P!
As to when and where to short, that’s up to you. At a minimum, you should be listening to what the markets are telling you and have stops in place. Yes, markets are built to go up over time, however getting out of the way of a 5%, 10%, 30% decline in the market will dramatically increase your rate of return over time. Trading them short may compound those returns even more. Happy Trading
On the date of publication, Merlin Rothfeld did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
