By Jeff Saut, Chief Investment Strategist RJF, Monday 22 October 2018
My friend and mentor Ray DeVoe use to say that going over old reports can be an exercise in humility, as you cringe while reading some errant forecast of another time. “How could I have been so stupid?” is the unsaid reaction. On the other hand it can be an ego trip, as you proudly go over some forecasts that were right on target. Then the unsaid comment is, “Why didn’t I capitalize on this more?” or, “Why didn’t I continually pound that theme, it was so obvious.” But then you realize that it wasn’t that obvious at the time, and that generally, conventional wisdom was running in the opposite direction. The reports that were off-base will not be covered in this missive, yet they seemed to be reasonable projections at the time. However, one set of reports that were correct will be mentioned only because they were so much against the conventional wisdom of the time.
So, we officially joined Raymond James in 1999. At the time stocks were soaring. Then on September 23, 1999 there was a Dow Theory “sell signal.” We wrote about it and got hammered by financial advisors as to why we had turned negative. Our response was that it was not Jeff Saut, or even Raymond James, but Dow Theory suggesting the best had been seen and discounted. By the way, we looked like an idiot as the stock market headed higher into the spring of 2000. However, the stock market peaked in March 2000 and declined by some 50% into November 2002 where stocks began their bottoming process. Said process was complete by the spring of 2003, which was when a Dow Theory “buy signal” was registered. From there the S&P 500 would gain more than 100% and we were bullish.
That Bull Run lasted into the fall of 2007 and everyone was bullish with the D-J Industrials making new all-time highs. Yet on November 21, 2007 there was another Dow Theory “sell signal” and we wrote about it again and listened to the “cat calls” from all the bullish participants. This time there was no “forereach” (no more upside like between September 1999 and March 2000) as stocks began to slide and by March 2009 the S&P 500 had surrendered roughly 56% of its value. Yet, most stocks actually bottomed on October 10, 2008 when 92.6% of stocks made new annual lows. At the time we were writing that the bottoming process had begun and on March 2, 2009 we were on Bloomberg TV saying, “The bottoming process that began in October of last year is complete and we are all in!”
More recently, after all three of our proprietary models for all of 2017 were wildly bullish in mid-January 2018, our intermediate- and short-term proprietary models flashed sell signals and we recommended raising some cash on a trading basis. The subsequent decline saw the S&P 500 (SPX/2767.78) lose about 12% of its value into the February 9, 2018 undercut low, which we told participants to buy. From there the SPX would rally 16% into early October, when our short-term models flashed another sell signal on October 2. 2018, and we advised participants to sell trading positions. While our long-term prop model flipped bullish in October 2008, and has never turned bearish since, our short- and intermediate-term models are currently conflicted. Indeed, the intermediate-term model remains constructively configured, but our short-term model is still on a sell signal. Quite frankly, our instincts told us the equity markets bottomed on a trading basis on October 11, 2018 at ~2710, but last Thursday surprised us as the SPX lost a large 62 points from Wednesday’s intraday high into Thursday’s intraday low. This has left the SPX vulnerable to further downside.
We see it as one of two potential possibilities. First, prices could consolidate in a pretty narrow range into the mid-November energy peak often mentioned in these reports. Given the current level of energy, that is a distinct probability. However, there is still a lot of negative energy out there and if prices stay around the recent lows of 2710 – 2730 (basis the SPX), then we could experience another spell of panic selling that would take the SPX to new reaction lows. If this is a selling stampede, they typically last 17 – 25 sessions and we are 12 sessions into this one. Sometime such stampedes last 25 – 30 sessions, but it is really rare to see one go more than 30 sessions. Quite frankly, we feel much better about equites after the mid-November energy peak.
On a more positive note, it is worth mentioning that at the low of 2710, which we though would be the bottom, a rare bullish signal was registered. The two-session two-step decline that occurred last Wednesday and Thursday lopped some 5.3% off of the SPX for one of the largest two-session declines in the last 50 years. Moreover, the SPX has lost 7.8% from its all-time high into its recent ~2710 intraday low. In the process the Relative Strength Index (RSI) fell to a VERY rare reading of 17.6. A reading of below 30 is considered to be an extremely oversold level. However, over the last 30 years the RSI has only traded below 20 six times and every one of those times stocks have been a “buy.” Accordingly, while we are conflicted on a short-term trading basis this is not the best place to be selling stocks. But again, we feel much better about stocks after the mid-November energy peak.
What remains amazing to us is that many Wall Street pundits, who NEVER saw the January – February or the October 2 to now declines coming, have rushed to publish a plethora of reports telling us what to do now! Maybe I’m Amazed (Amazed) at these false prophets who talk out of both sides of their mouths so that whatever the various markets do they can say, “See I told you that was going to happen.” As often stated in these letters, we make calls. Most of the time they turn out fairly well, but when you take a stand, you are going to be wrong and wrong more often than you would expect. As the brilliant Peter Bernstein wrote:
After 28 years at this post and 22 years before this in money management, I can sum up whatever wisdom I have accumulated this way: the trick is not to be the hottest stock-picker, the winning forecaster, or the developer of the neatest model; such victories are transient. The trick is to survive. Performing that trick requires a strong stomach for being wrong, because we are all going to be wrong more often than we expect. The future is not ours to know. But, it helps to know that being wrong is inevitable and normal, not some terrible tragedy, not some awful failing in reasoning, not even bad luck in most instances. Being wrong comes with the franchise of an activity whose outcome depends on an unknown future. Maybe the real trick is persuading clients of that inexorable truth.
The call for this week: We were certain about the January peak and subsequent decline into the February 9 undercut low that we were sure was the bottom. We were also certain about the short-term sell signal of October 2, 2018 and clearly thought the oversold low of ~2710 on October 11, 2018 was the low, but now we are not so certain. As stated:
“Quite frankly, our instincts told us the equity markets bottomed on a trading basis on October 11, 2018 at ~2710, but last Thursday surprised us as the SPX lost a large 62 points from Wednesday’s intraday high into Thursday’s intraday low of ~2755. This has left the SPX vulnerable to further downside.”
We continue to like the action in the Healthcare sector. This morning the pre-opening futures are relatively flat (+4) as the Saudis say the Khashoggi killing was a huge mistake and the prince was not aware of it. For whatever reason, Friday was an inside day in the charts, which is rare on an option expiration, so traders will be sensitive to the SPX’s intraday high (2797.77) and low (2760.27) from Friday.
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