For most of this week the broad stock market (and other financial markets) seemed stagnant and reluctant to make any definitive directional moves. This was likely mirroring investor uncertainty about the standoff between President Trump and the Democrats over the funding of the border wall and the resulting government shutdown, now in its 28th day - the longest on record. Despite investor's worries about the shutdown, however, the recent soft (dovish) tone from the Fed seems to be giving a buoyancy to equity markets and holding off a strong downturn. Another worry on Wall Street for most of this week was the unresolved "trade war" standoff between Trump and China. That changed dramatically yesterday when news of U.S. officials considering the lifting of some tariffs on Chinese products caused an abrupt 250 point spike in the DOW around 2:45 pm EST. The market fell back down within minutes, but the DOW still closed the day with a 163 point gain.
Today China extended an "olive branch" back to the U.S. by offering to significantly boost its purchase of U.S. goods over a six-year period in an effort to re-balance trade between the two superpowers. Could this be the end of "trade wars" with China? We shall have to wait and see. Wall Street, however, is not waiting to express its enthusiasm for this potential easing of trade wars. The DOW gained over 300 points this morning. This, of course, is not good news for our short position which we entered yesterday, but it would be premature to bail out of this trade on today's rally. Our stop loss for this trade was tentatively 25,100 in the DOW and 2,700 in the S&P 500 and we have not exceeded those levels yet. The fact that equities are rallying so strongly to news of a possible lifting of tariffs and a possible end to trade wars shows just how volatile this market is, and volatility works in both directions. In other words, we are still in a reversal zone for this market (through next Friday), and the market could still top out and reverse back down. If instead the rally continues (especially past our stop loss points), we may have to switch to the idea that new medium-term cycles started with the market's lows on Dec. 26. In that case, we would need to bail out of our shorts with a small loss and look to go long for what would likely be a strong rally for many more weeks or even months. To refresh the readers memory on the two basic scenarios still possible in the broad stock market, I am copying an excerpt from my blog on Jan. 1 below which is still valid:
1) Our preferred scenario [ is ] the DOW and S&P 500 starting new medium-term cycles from their Oct. 29 lows. In this scenario, both indices have turned bearish because they have broken below the Oct. 29 lows that started their cycles. This means that they will likely continue lower over the next 6 - 14 weeks to their final bottoms, and we should be looking to sell short at the top of any short-term rallies (such as the one we are having now).
2) Because of the strength of last week's steep rally on Thursday and Friday, it's possible that last Wednesday's [ Dec. 26 ] deep bottom (21,712 in the DOW and 2,346 in the S&P 500) was the start of new medium-term cycles in these two indices. In other words, the current medium-term cycle could have started then and not on Oct. 29 as described above. This scenario would be bullish, and the rally that started last week could continue for several more months (with corrective dips along the way). Such a rally could easily make new all-time highs in one or both indices, and our trading strategy now would be to look to go long on any short-term dips.
So how will we know which scenario is playing out? Well, if Scenario 1 is valid, then the current sub-cycle rally would be short-term and could get to the 24,500 level and possibly as high as 25,600 in the DOW before turning down.. If we get to those levels in a strong reversal zone and the market seems to be stalling, that may be a good spot to sell short. On the other hand, any break above the Nov. 28 high of 26,277 would suggest that Scenario 2 is playing out.
Note that our current stop loss level for the DOW (25,100) is considerably below the 26,277 level mentioned above.
Holding my short position in the broad stock market for now.
A brief note on precious metals and crude oil:
Gold and silver finally seem to be pushing lower towards the sub-cycle correction we have been waiting for. We are still looking to buy the bottom of that correction soon.
Crude oil is edging higher this week and is likely taking its cues from the broad stock market's rally, but it too is in a strong reversal zone so any new high could easily be the top of another correction. We are also looking to go long in this market soon.