Stock Market Risk Now is to the Downside.

The reasons are not important. Trend reversals are. And we may be in the midst of a trend reversal now. To be clear, I am not saying that we are definitely going down. I am saying that the chances of going down now are more than 50% at this time.

I will do my usual set of assessments using the usual set of trends and indicators. Starting with the major market trending heat map.

The IWM which is the small caps Russell 2000 index ETF has been weak for a while. Now it is decidedly bearish. Price has now fallen below even the 200-day SMA. I thought it important to review the IWM over a long period of time to see what price has done when below the 200-day SMA.

Above is a picture of the IWM daily chart over 5 years. The yellow curve is the 200-day SMA. We can see that this level has held several times. The first time it broke well and meaningfully below that level was where I have marked the arrow with a 1 on it. We can see that prior to that price break, there were several times when price held.

Then the horizontal line with the number 2 below it represents a period price was very choppy and all below the 200-day SMA. Then there was another break at the arrow marked 3.

Finally, I have 4 arrows showing times when the price touched the 200-day SMA which turned out to be support off which price bounced back above this level. That is from April 2024 to now.

So, what is going to happen this time? Will that 200-day SMA end up being a support again or will that level break this time? I do not make predictions. So, my simple answer is I do not know.

I will say though that I am preparing for price to break down and stay under the 200-day SMA for a while. Why? Not because I am making a prediction but because that is the right risk mitigated approach to take to the stock markets right now.

If price does not go lower and bounces off from that 200-day SMA then I can always go back in the markets. Yes, I have to be cautious about tax implications on selling with capital gains. And it may be unnecessary if the price bounces back from here.

Risk mitigation does not always mean I have to sell. I can buy protective puts and hedge my portfolio to make it neutral temporarily. That way I do not sell with capital gains and having a tax burden.

Why am I paying so much attention to the weakest market like the small caps. Because I do not see how the SPY and QQQ keeps rising when the IWM keeps dropping. Even though these markets are different, market sentiment can be influenced by one market and spillover to the other markets.

Here is how the short-term, medium-term and long-term summary looks like.

I am still holding out that the SPY and QQQ are only at risk to be bearish. Friday’s price action may actually qualify them to be already at bearish levels. We can see though that the IWM and MDY (S&P 500 mid cap) are bearish in all time periods.

And here is how the % stocks under 20-day SMA for the 3 major markets that I trade look like.

We can see that all of them deteriorated over the last week. And the IWM is again the worst.

Here is the trending heat map for the SPX sectors.

When the XLP (Staples) and XLU (Utilities) are the best-looking sectors, it is not a bullish signal for the SPY. Those are the defensive sectors where money gets transferred when the streets perceive risk.

Having said that, aside from the XLI (Industrials) and XLY (discretionary) most other sectors look neutral. The SPY price itself is below the 20-day SMA but remains above the 50-day SMA. So, the classification as neutral or at risk to the downside seems about right for now.

So, with all these assessments, my posture is to be ready for some more downside. I have some IWM puts in place for that. But I still hold all my positions in my investment portfolio. No long positions in my trading account.

NVDA releases earnings Wednesday after market close. This could be a catalyst for what we think of future growth for the overall markets. Remember that the market pricing is a future earnings discounting mechanism. So, if there is any whiff of slower earnings, markets will be more risk off.

While this quarter’s earnings have been quite good, the guidance for future earnings have not been strong enough. And I get a sense that the earnings trajectory could be either stalling or worse reversing to some extent. Note that these reversals are not easily discernable and can only be confirmed with time. I use an earnings tracker that shows that earnings growth expectations did not move up this week. I will be watching for what it says next week. The tracker gets updated on a weekly basis.

That’s it for today. Take care.