Technically Speaking: The Bull Market Is On Shaky Ground

Last week’s sell-off left the “bull market” on shaky ground.

The big question for investors at the moment is whether the 11-year old bull market is ending or is this just a “pause that refreshes?” 

While the optimistic “hope” is that this is just a pause within a continuing “bull market” advance, from a money management standpoint getting the answer “right” is vastly more important to long-term investing outcomes.

The easiest way to approach this analysis is to start with the following basic premise:

“Bull markets are born on pessimism, grow on skepticism, and die on euphoria.” -Sir John Templeton

Euphoria Has Been Evident

There is little argument that “euphoria” has not been evident in the market recently. From excessive levels of call-option buying by small traders to chasing the most shorted stocks in the market. As I noted just recently in “No One Is Bearish:”

  • Fund managers’ allocation to cash is down to 3.8%, the lowest since March 2013. Such was just before the “taper tantrum” era under former Federal Reserve Chairman Ben Bernanke.

Bull Market Shaky Ground, Technically Speaking: The Bull Market Is On Shaky Ground

  • Allocations to stocks and commodities are the highest since February 2011.

Bull Market Shaky Ground, Technically Speaking: The Bull Market Is On Shaky Ground

Bull Market Shaky Ground, Technically Speaking: The Bull Market Is On Shaky Ground

The point here, of course, is that when everyone is “in the pool,” it doesn’t take much to create a reversion.

The Value Trade Is No Longer A Value

Such is what we begin to see last week, as the previous favorite “momentum” trades were swapped in a massive rotation to “value.” Given the massively overbought extremes in the “value” plays, that rotation is likely going to be akin to “jumping from the frying pan into the fire.”

Small-cap value is more extended currently than at any point over the last 20-years using weekly data. With the index well into 3-standard deviation territory, extremely deviated from long-term means, and grossly overvalued, the eventual reversion will be brutal.

Bull Market Shaky Ground, Technically Speaking: The Bull Market Is On Shaky Ground

The same is seen in the weekly chart of the Russell 2000 index which picks up the Mid-cap exposure as well. With valuations in these stocks well ahead of even the most optimistic economic outlook, the risk of disappointment is high.

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