Coiled Spring Capital Mid-week report 2/8/24

Being flexible when positioning in the stock market, is paramount. We have said many times that tops are a process. Meaning, strong trends don’t die easily. And while parts of our signaling methodology have been screaming caution the last week or so, we still have not committed to the short side. In fact, we keep finding ourselves dipping our toes back into single stock longs as the momentum is clearly alive and well.

There have been quite a few snaps of momentum where it seems like the market is finally going to turn down and then reverts back higher in an aggressive fashion. Is this melt up behavior or underinvested funds using any weakness to bid back up stocks? It’s hard to say exactly what’s going on but we know there is quite a bit of chasing occurring. This is evident in the concentration into the large and mega caps.

This crowding phenomenon can be showcased by the declining McClellan Summation Index (MSI) that continues to push lower. This is a measure of breadth and indicates that less stocks are trading higher despite the index making new highs. This is unhealthy and unless reverts, we fear this can pull the market lower, but timing that eventual turn has been very difficult.

We wrote this last week in our Macro Report that sums up how we’ve been approaching the market. Importantly, we have NOT been short and continue to stay on the right side of the market. For our “free” readers who don’t subscribe to the premium content, we did an extensive review of some of the large caps to come to the conclusion that the market was not ready to turn down.

While our work suggests poor breadth can be a problem for the indexes, this study from FundStrat suggests otherwise:

But then there is a very savvy market veteran that is calling for much lower stock prices as the goldilocks scenario that is currently being priced in, is fraught with risk and the potential for disappointment. This something we have discussed in the past as a risk for the market. When too much good news is priced into stocks, the downside risk to disappointment grows, and clearly this is the case today. Maybe back in Oct ‘23 we could stomach some disappointment but with stocks trading at an elevated multiple and forecasting significant earnings growth this year, it’s not inconceivable that we are setting ourselves up for failure.

But interestingly enough estimates for Q1 have jumped up almost +6% since companies started reporting. This actually hasn’t been reflected in the out Q’s. Does this mean that when analysts get around to raising their numbers for the year, the bar will be that much higher? It seems so, and that is a bit scary and sets up for an even bigger potential disappointment should the trajectory be too aggressive. In the meantime, though, better numbers are equating to higher stock prices, and that implies that investors are buying what the management teams are selling.

There has been quite a bit of attention directed toward bond auctions recently, much more than any time in our career. With good reason as there is real concern over the US deficit hitting escape velocity and foreign purchasers of US debt demanding higher yields to compensate for the added risk of holding US paper. There have been a few poor auctions over the last couple of months that have derailed the stock market. Today was the US Treasury’s biggest-ever 10-year auction. Surprisingly, the $42B auction priced lower than anticipated on stronger demand. This is quite bullish because treasury yields have likely been pricing in potential lower demand. Remember what we always say, the macro trumps all. If the macro doesn’t cooperate and remain out of balance, then risk markets will be sent spiraling. Today’s successful auction allayed some of those fears and the SPX tested 5K.

Circling back to our comment above regarding staying on the right side of the market, despite our thinking the market was close to turning down; we follow price first and we conduct rigorous analysis of price. We don’t just look at the surface area of the index, but examine the underlying drivers of the index price. We aren’t some Elliot wave service that literally examines the SPX and the wave count, with Fibonacci zones for reversals. Sure, we use Fibonacci extensively in our work, but only to identify key zones for reversals or continuation. We don’t try and tell you where gamma levels are and that 0DTE option flows are driving index price. We literally study price. And when price looks the way it does and how we explained it in our last report, then there is only one conclusion to be had. We bring this up because we unsubscribed to one of our macro providers today. While we think their fundamental work is top notch, it’s completely flawed. They have been calling the stock market rally since the beginning of last year as the MOAB (Mother of all Bubbles) and have avoided being involved in some of the biggest single stock rallies in a generation. Today, they are saying that the macro data is accelerating, and that they are buying the dips in these bubble stocks. WHAT??? Not only are they unapologetic in their response to changing their tune, but they are telling their subscribers that when the data changes they change. Sorry, but what a farce. Buying dips in NVDA after the stock is up 500% from the low 14 months ago is absurd.

This is why we follow price. Price has kept us on the right side of the market since Oct ‘22. Price has been telling us that the macro was accelerating. Price has been telling us that AI was going to be revolutionary. Price told us that inflation was going to subside and Powell would pivot. Price has been telling us that earnings troughed and were going to reaccelerate. Price is what pays, not opinions. Next.

If you are tired of listening to false prophets and want to actually make money in the stock market, then you should seriously consider subscribing to our premium content.

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