Posted November 10, 2023
By Zach Scheidt
Don’t Fall for the FOMO Rally
Stocks have staged an impressive rally lately.
The S&P 500 climbed higher eight days in a row before ending yesterday in the red.
One more day in the green would have made it the index’s longest hot streak since 2004.
Keep in mind this rally happened right after stocks fell below key support levels, a textbook sign of a breakdown.
Now, this has been one of the most abrupt and brutal market rebounds that we’ve seen.
And I want to go on record saying that I do not trust this rally.
Below is a short clip from my Live Income Call that I host for my Income Alliance members where I explain why this rally is happening for all the wrong reasons.
If you watch until the end of the video, I explain how to position yourself to profit when this short-term rebound inevitably runs out of steam.
The last time we caught up on our call, the market was in the process of breaking down, and not just a little bit.
It was breaking through some really important support levels and in a pretty bearish spot.
So we were “bearing up,” as they say in the hedge fund management world, putting up bearish positions to profit from the market’s fall. But a funny thing happened…
After the S&P 500 sliced through its 200-day moving average, a textbook breakdown, the selloff just reversed course abruptly.
Part of that was because Jerome Powell held interest rates steady and adopted a more dovish tone during the last Fed conference, which gave investors reason to be more confident.
Then we had inflation readings that came in better than expected, which was even more good news for the economy.
And then a weak jobs report further indicated that the Fed could keep its dovish stance, sending stock sharply higher.
This has been one of the most abrupt and brutal market rebounds that we’ve seen. Bearish sentiment on Wall Street turned on a dime and gave way to frantic buying.
Now I want to go on the record saying I don’t trust this rally because it’s happening for all the wrong reasons.
Stocks are trading higher on FOMO, or the fear of missing out. In other words, investors don’t necessarily have a good reason to buy; they just have less of a reason to sell.
We’re not seeing tremendous strength in the economy, which doesn’t bode well for stocks in the long term.
What we’ve seen from corporate earnings this quarter supports this observation. Earnings are okay, but they’re not great.
If anything, forward guidance from executives is weakening. That’s not what you’d expect to see before a bull market run.
To me, it indicates that we’re seeing a reflexive bounce back rather than something you’d want to have confidence in.
The fourth quarter is also typically a strong time for stocks, so the market rally may be supported more by seasonality rather than reality.
Back at the hedge fund, I learned through experience that some of the strongest market rallies happen within the context of an overall bear market.
That’s because investors get fearful that they’re going to miss out.
Also, when sentiment is so negative, many investors set up short positions. When the market rallies, they’ll have to start covering their short positions.
This helps support a short-term rebound, driving the market higher. But once the buying is exhausted, we can roll over.
Now, I don’t have a crystal ball that tells me what exactly the market will do next. And you should be extremely skeptical of anyone who says they do.
But looking at the fundamentals right now and given my experience trading the market, I want to caution you not to trust this rally.
It reminds me of another phrase from my hedge fund days: “Respect the price action, but don’t defer to it.”
In other words, stocks are moving higher right now, and we have to respect that fact. But it doesn’t mean we defer completely to it.
You don’t want to buy stocks that are still vulnerable, putting yourself at risk when stocks trade back down.
For now, I’d prefer that you use the market rebound to set up bearish positions on weak stocks that will trade lower after the rally is over.