While the market has been resilient and many of our long positions have continued to tack on gains, the time now seems right to take additional defensive measures in the expectation of a mild correction and limited upside potential over the next four months. As NASDAQ’s Best 8 Months winds down there are a few negative data points that indicate stock market weakness is on the horizon.
We are by no means suggesting that the big bad bear is coming. But the 10-15% correction we outlined in our Mid-Month Update is becoming increasingly more likely. We have yet to get the 3-5% rally from mid-June – only about 1-2% so far – though it is still possible for a little more upside in early July before the summer doldrums hit and the market is vulnerable to the lazy, hazy, low volume days of summer. Add to that a horrible Q1 GDP number with the final reading revised lower, down to -2.93% and there is cause for concern. Bond rates continue to drift lower, indicating capital is flowing there and not into stocks as much as it was.
Sentiment remains dangerously high Investors Intelligence Advisors Sentiment survey has reported over 60% bulls for four straight weeks after reaching a multi-year high two weeks ago. Similar lofty readings were recorded in August 1987, December 2004, October 2007 and at the end of 2013. Further excessive bullishness is seen in Weekly CBOE Put/Call Ratio declining to 0.47 last week, the lowest since January 2011. Traders and investors are most likely fully invested leaving little cash on the sidelines that actually wants to own stocks.
July may be the best month of Q3, but that’s not saying much when you consider the abysmal record of August and September. NASDAQ and Russell 2000 are rather negative in midterm Julys. Should NASDAQ’s Mid-Year Rally materialize this year, it would make an excellent opportunity to take profits. Use any rally into early July to unload underperformers, take profits and put on a little more defense. At a bare minimum, consider not chasing this thin rally and wait for the fatter pitch later in the summer or fall.