Have bulls been truly tested this year? Lately the answer has been no
“…extremes in optimism are flashing as multiple equity benchmarks and exchange-traded funds (ETF’s) are trading around psychological round numbers...The recently outperforming Russell 2000 (RUT – 1,969.98), which I highlighted last week as having much more short-covering potential among its components relative to SPX components, is making a charge at the 2,000-millennium level for the first time ever. With 1,982 representing double its March closing low and 2,001 the site of its round 20-percent year-to-date gain, this index is susceptible to a huge speed bump as profit taking creates potential resistance.”
- Monday Morning Outlook, Dec. 21, 2020
The general theme in last week’s discussion was that many sentiment indicators are displaying extremes in optimism that make the market vulnerable to pullbacks. On one hand, the bulls have not been truly tested to give them considerable pause or panic and unwind positions. On the other hand, multiple benchmarks are trading around psychological round numbers, which could be short-term speed bumps or peaks ahead of a decline.
The Russell 2000 Index (RUT - 2,003.95) is perhaps one of the more interesting of those benchmarks, per the excerpt above. It notched a gain last week in this typically positive period for equities, particularly small-cap stocks. In fact, the index comes into the last trading week of 2020 right at its namesake 2,000 level.
Meanwhile, the Dow Jones Industrial Average (DJI – 30,199.87) continues to trade in a sideways pattern just above the 30,000-millenium mark, which it first touched in late November. Nothing in the DJI chart below would spook bulls, however, as it has not strayed too far below or above the 30,000 level, despite multiple touches of this major psychological area.
“… if you are looking for an area that the SPX might have to move below before risk grows of an unwind of the growing enthusiasm we are seeing at present, I think the 3,550-3,580 area is a good starting point.”
- Monday Morning Outlook, Dec. 7, 2020
The same can be said for the S&P 500 Index (SPX - 3,703.96), since its first touch of the 3,700 level in early December. As a reminder, I do not think bulls will get nervous about a potential breakdown in equities. That is, unless and until the SPX breaks below the 3,550-3,580 area, with 3,550 a round 10% above the 2019 close and 3,580 representing the September peak.
Also, if you want to identify potential support at levels above 3,550-3,580, the 3,620-3,650 area is a range on which to focus. Just above the 3,620 level was last month’s close and is 61.8% above the March closing low, which I find interesting given that 61.8 is a key Fibonacci number. Meanwhile, find 3,650 significant not only because it marks a half-century level, but it is the current site of the SPX’s 30-day moving average, which has historically been supportive during major rallies, such as advances in early 2019, October 2019 to January 2020, and May 2020 through August 2020. This trendline marked last week’s low, per the chart immediately below.
Apparent progress on a congressional stimulus agreement, and a Thursday morning announcement that the European Union and U.K. have finally reached a Brexit trade agreement, were not enough to push equities significantly above levels that have capped rallies.
For what it is worth, S&P futures hit a low of 3,596 in pre-market trading last Monday, as the market was trying to digest news of a new COVID-19 strain in the United Kingdom. After experts predicted current vaccines will protect against the new strain, the market quickly recovered. Moderna (MRNA) is studying its vaccine’s effectiveness against the new strain.
In fact, I would not expect a lot to happen this week, with the expected timing of the MRNA study to be released in the first week of January, which also coincides with the much-anticipated Senate run-off election in Georgia (which will determine whether Congress is controlled by Democrats or Republicans). Investors will begin to posture for the new year in that first week of January, and much of that posturing may be related to the results of the run-off election and the vaccine news.
Todd Salamone is Schaeffer's Senior V.P. of Research
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