Stocks reached new records, but a short-term correction may follow.
The S&P 500 index reached yet another new record high of 5,048.39 yesterday; however, it closed 0.09% below its Friday’s close. The market continued to rally, fueled by advances in a handful of tech sector stocks, with Nvidia leading the way.
Recently, my short-term outlook was neutral because the market seemed overbought and ready for a downward correction. When in doubt, it’s better to stay out of a position than to try to catch a top and open a short position too early.
Although a downward correction is widely expected, the overall market sentiment remains bullish, and the index may reach more records. This morning, futures contracts indicate that stocks are likely to open 0.3% lower, retracing some of their Friday’s advance.
Investor sentiment remains very elevated; last Wednesday’s AAII Investor Sentiment Survey showed that 49.0% of individual investors are bullish, while only 22.6% of them are bearish. The AAII sentiment is a contrary indicator in the sense that highly bullish readings may suggest excessive complacency and a lack of fear in the market. Conversely, bearish readings are favorable for market upturns.
Last Wednesday, I mentioned that “We may have to deal with a correction or consolidation of several weeks of advances. With the season of quarterly earnings announcements coming to an end and a series of important economic data, profit taking may follow.”
The S&P 500 is likely to retrace a part of its recent advances. The market may get back to a month-long upward trend line, which right now, is at around 4,950, as we can see on the daily chart.
Nasdaq 100 Accelerated Towards 18,000
Yesterday, the technology-focused Nasdaq 100 index reached a new all-time high at 18,041.45. Recently, it has been relatively weaker than the broader stock market, but last week, it caught up with the S&P 500. However, Nasdaq’s rally was led by a handful of “FANG” stocks like META, NVDA and MSFT. Last Wednesday, I wrote about the NYSE FANG+ index.
VIX Bounced from 13
The VIX index, also known as the fear gauge, is derived from option prices. Last week, it fell below the 13 level, indicating a lack of fear in the market as stock prices reached record highs. Yesterday, it bounced to 14, extending a sideways move.
Historically, a dropping VIX indicates less fear in the market, and rising VIX accompanies stock market downturns. However, the lower the VIX, the higher the probability of the market’s downward reversal.
Futures Retreats from Record High
Let’s take a look at the hourly chart of the S&P 500 futures contract. This morning, it’s trading along the 5,020 level, retracing some of the recent advance. The support level remains at 5,000-5,020, marked by the recent consolidation.
Conclusion
The recent trading action was very bullish, with some of the tech stocks rallying to new record highs, the S&P 500 index breaking above 5,000, and the Nasdaq 100 index getting close to 18,000. However, in the short term, the possibility of a downward correction cannot be overlooked. A quick glance at the chart reveals that the S&P 500 index has recently become more volatile.
Today we will get a very important Consumer Price Index. It is likely to cause an increased volatility. The expectations are bullish for stocks, considering last week’s downwards revision of the previous CPI release. However, a 'buy rumor, sell facts' reaction may occur thereafter.
On December 21, I mentioned that “in a short-term the market may see some more uncertainty and volatility”, and indeed, there was a lot of uncertainty following the early-December rally and the breakout of the S&P 500 above the 4,700 level. However, the recent weeks’ price action left no illusions of a potential medium-term trend reversal. On January 30, I noted that “The market is overbought in the short term, but predicting a correction is currently very challenging.”. This still holds true; last week, the market rallied even further.
For now, my short-term outlook remains neutral.
Here’s the breakdown:
- The S&P 500 is likely to retrace a part of its last week’s rally at some point.
- The market appears overbought in the short term, but no negative signals are evident.
- In my opinion, the short-term outlook is neutral.