Welcome to the year of the speculator.
2024 has been a dream for adventurous investors who managed to catch lightning in a bottle and ride the mega-caps and semiconductors to outrageous heights.
But I'm starting to see signs pointing to lower prices in the very near future...
No, I'm not tracking the next big market meltdown...
But I do expect the upcoming pullback to awaken more than a few hibernating crash callers. Most folks are way too comfortable with the nice, steady ride higher the major averages have posted over the past four-plus months. Even a standard drop of 5% will undoubtedly spook the herd and cause a little panic selling.
We'll get into what I'm seeing in the markets that are prompting me to take this defensive stance. But first, I want to discuss why I've been so focused over the past several weeks on prepping for a potential drawdown, in spite of the relatively strong performance of the major averages.
First, I believe it’s important to mentally prepare for changing market conditions. It's all too easy to allow routine corrections to sneak up on you if your trading is on autopilot. If you can map out potential scenarios that don't involve the market simply melting up every single day, you might have a shot at preserving your capital while other folks throw good money after bad.
Of course, you're more than welcome to bury your head in the sand and insist that some of the most overbought names on the market can't possibly ever go down, let alone string together multiple losing weeks.
Just remember...
Drawdowns have happened before. They will happen again. This time is no different.
Next, it's always a good idea to keep at least one eye on any emerging trends that could become new leaders if a market shift were to occur. If we do experience a broad pullback heading into the end of the first quarter, where can we pivot to maximize our returns? Which stocks or sectors will be the new outperformers?
With these ideas in mind, let's check in on some of the caution lights I'm seeing that could spark some downside action.
I promised myself I wouldn't gripe about semiconductors this week since I've lately mentioned the sector every single week...
Apologies in advance, but I'm going to break that promise right now. Don't worry - I won't ruin your entire day.
Here's the quick and dirty recap: I'm beginning to see cracks among the streaking semis despite a hot start early Monday morning. NVIDIA Corp. (NVDA) bulls were hard at work propping the stock up in the early morning hours ahead of potential AI news out of the company's highly anticipated GTC Conference. But the rally failed to break above last week's highs and the stock dropped back below $900.
I know we've been talking about the speculator's paradise among the big tech names for weeks - and I'm certainly not trying to bash anyone who's made money on the long side of the semiconductor trade.
But the trend is clearly getting long in the tooth as we settle into a seasonally weak period for stocks. The fact that NVDA has essentially gone nowhere for the past two weeks is a recipe for more downside action following that ugly bearish engulfing candle we first mentioned earlier this month.
To be clear, I'm not calling for a huge semiconductor meltdown. I'm sure you've read the countless stories about the incredible growth in the sector. I have no issue with these bigger picture ideas. My main gripe is that stocks don't move higher in a straight line forever - and I don't think there's much to be gained betting on additional upside action right now.
In addition to the semis, we're also seeing other stocks and sectors find lower prices following some hotter-than-expected inflation data hitting the wire last week.
Yes, we still have the Federal Reserve hot on inflation's trail. We're set to hear more from Powell & Co. following this week's meeting. But investors are already betting that we're not going to get relief in the form of rate cuts early this summer.
Case in point: the chances for a June rate cut are sneaking below 50% early this week. If we do hear hawkish comments from the Fed on Wednesday, it's not difficult to imagine a scenario where speculators back off - or even begin to aggressively take profits.
Rising yields are already causing problems with small-cap stocks and growth names. Rates are putting pressure on these potential rotation trades, which have encountered stiff headwinds recently.
The small-cap Russell 2000 looked ready to explode higher less than two weeks ago. Now, it's red for the month and looking to test round-number support.
If the rusty Russell can't bounce soon, it could have much bigger problems. I recently told you about what was at the time a beautiful base breakout - and how the small-cap index was about to clock new two-year highs and erase a major portion of its bear market drawdown.
Today, the Russell is officially on false breakout watch. Again, failure here could lead to a sharp move lower. That would be a punch in the gut of this potential catch-up trade in the making as these rate sensitive stocks reset...
Can Crypto Keep Up?
Much like growth names and smaller stocks, crypto is also finding lower prices across the board.
As of this morning's drop, Bitcoin is now down more than 10% from its all-time highs posted less than a week ago. Volatility is the name of the game in crypto. But we are also seeing a big drawdown materialize just as some of the frothier areas of the stock market are beginning to pull back.
During the 2022 bear market, I lumped crypto in with the struggling tech-growth trade. That's because the two groups attracted similar traders and generally behaved the same (although the magnitude of crypto's moves was much greater).
Now, as we watch the semis, tech-growth, and crypto struggle early this week, it makes me think the speculative money is finally switching to profit-taking mode.
This downside action probably isn't the beginning of a major crash. But it is a great time to reassess your positions, take some profits off the table, and plan your next move while most investors panic as those scary red numbers appear in their accounts.
The Daily Reckoning