The intra-week range on the S&P 500 was only around 7.85%, compared to the 12+% ranges that we saw over the previous 4 weeks. We can also see a gradual decrease in trading volume on the S&P500 index ETF (ticker is SPY), indicating that the first wave of panic selling is over and the daily volatility has started to die down for now. However, don’t get complacent here, as there is a high probability of volatility returning for round 2 before this is all over.
Cash is still king
One week ago, when the stock market sky rocketed in a dramatic 20% fashion I wrote about how we should avoid buying stocks due to the fear of missing out (FOMO). With the S&P 500 closing in the red for the week, our strategy has shielded us from this week’s selling. As the market continues to find a solid bottom, we want to maintain our large cash position while we wait. I would not recommend adding additional capital to any fixed income at this point, because yields are already at an all-time low which means that bond prices are at historic highs, and therefore the risk/reward is not favorable right now. Sitting on a large cash pile will give you the protection and agility to take advantage of the lower equity prices when the time comes.
Market correction potentially half-way done
We are now six weeks into this market correction. If you’ve read my previous posts, you’ll know the shortest corrections last around 13 weeks, meaning we could be halfway to getting over this slump. However, keep in mind that this correction could also last a lot longer depending on the Coronavirus severity and how soon we get good news regarding a vaccine. Given how far market prices have dropped already, it definitely isn’t a bad idea to start deploying your cash slowly as we head towards the 13 weeks mark.
Maintain a long-term optimistic view, always
The stock market is entirely probability based and forward looking, meaning it’ll have priced in the most likely worst scenarios way before those scenarios materialize in reality. This causes investors to miss buying the bottom and leaves them doubting the recovery due to all the negative news still surrounding them. I want to reiterate a point that I talked about previously, there has never been a market crash where we recovered from. Unless you believe that the economy will never bounce back from this virus, then there is not much to fear in times of pessimism like now. The only factor you should be considering in market selloffs is how you time your investments so that the risk/reward is heavily skewed in your favor going into the next 3-5 years. If you’re a long-term investor, it is crucial to focus on a weekly view of market prices instead of focusing on the daily volatility within the market.
Market action to expect over the next few weeks
The Bull/Bear spread this week was around -15%, indicating a slightly negative sentiment outlook. This does not give us a clear buy signal for stocks, since we want to see a much larger negative sentiment before deploying the majority of our cash. As we head into April, the US government is expecting the confirmed cases to peak by the end of the month, meaning we could be getting more bad headlines before anything good. In addition to the virus, we should be getting worse economic data going into Q2 and Q3, but this should be already priced into the market. The market will likely take a short break from the extreme volatility that we saw over the past month, and continue to trade within this bottom range. However, I expect at least one more wave of heightened volatility before we can reverse the trend and make another bull run.
Your strategy should be to monitor market sentiment closely and dollar cost average down during the next wave of selling. Generally, a good rule to follow is to invest on Thursdays and Fridays because you have fresh sentiment data (Bull/Bear spread every Thursday) and a week’s worth of market prices to help you determine the risk/reward of your investment.