Sunday, December 23, 2018

What just happened in the stock market?

Preface: Explaining our market timing models
We maintain several market timing models, each with differing time horizons. The "Ultimate Market Timing Model" is a long-term market timing model based on the research outlined in our post, Building the ultimate market timing model. This model tends to generate only a handful of signals each decade.

The Trend Model is an asset allocation model which applies trend following principles based on the inputs of global stock and commodity price. This model has a shorter time horizon and tends to turn over about 4-6 times a year. In essence, it seeks to answer the question, "Is the trend in the global economy expansion (bullish) or contraction (bearish)?"

My inner trader uses a trading model, which is a blend of price momentum (is the Trend Model becoming more bullish, or bearish?) and overbought/oversold extremes (don't buy if the trend is overbought, and vice versa). Subscribers receive real-time alerts of model changes, and a hypothetical trading record of the those email alerts are updated weekly here. The hypothetical trading record of the trading model of the real-time alerts that began in March 2016 is shown below.

The latest signals of each model are as follows:
  • Ultimate market timing model: Sell equities*
  • Trend Model signal: Bearish*
  • Trading model: Bullish*
* The performance chart and model readings have been delayed by a week out of respect to our paying subscribers.

Update schedule: I generally update model readings on my site on weekends and tweet mid-week observations at @humblestudent. Subscribers receive real-time alerts of trading model changes, and a hypothetical trading record of the those email alerts is shown here.

What is the market discounting?
The velocity and ferociousness of the recent US equity market weakness caught even bears like me by surprise. My social media feed has been filled with extreme bearishness. Opinions are now becoming bifurcated. Either the decline is the signal of something big, or the fall in stock prices represent a buying opportunity for fundamentally oriented investors.

It is impossible to make a buy, hold, or sell decision without some understanding of what the market is discounting. In other words, what bet are you making if you decide to buy or sell stocks here?

Further analysis reveals that investors are discounting only a mild US slowdown in 1H 2019, but no recession. From a technical perspective, both the US and global markets have violated well-defined uptrend lines, just as they did in 2015 and 2007. It remains an open question as to whether the trend line breakdowns will result in just a mild pullback, or a deeper bear market. (Please note that the curves and arrows drawn on the charts are only stylized, and do not represent technical projections or targets).

The full post can be found at our new site here.

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