Preface: Explaining our market timing models
We maintain several market timing models, each with differing time horizons. The “
Ultimate Market Timing Model” is a long-term market timing model based on the research outlined in our post,
Building the ultimate market timing model. This model tends to generate only a handful of signals each decade.
The
Trend Asset Allocation Model is an asset allocation model that applies trend-following principles based on the inputs of global stock and commodity prices. This model has a shorter time horizon and tends to turn over about 4-6 times a year. The performance and full details of a model portfolio based on the out-of-sample signals of the Trend Model can be found
here.
My inner trader uses a
trading model, which is a blend of price momentum (is the Trend Model becoming more bullish, or bearish?) and overbought/oversold extremes (don’t buy if the trend is overbought, and vice versa). Subscribers receive real-time alerts of model changes, and a hypothetical trading record of the email alerts is updated weekly
here. The hypothetical trading record of the trading model of the real-time alerts that began in March 2016 is shown below.
The latest signals of each model are as follows:
- Ultimate market timing model: Buy equities (Last changed from “sell” on 28-Jul-2023)
- Trend Model signal: Bullish (Last changed from “neutral” on 11-Oct-2024)
- Trading model: Bullish (Last changed from “neutral” on 15-Oct-2024)
Update schedule: I generally update model readings on my site on weekends. I am also on X/Twitter at @humblestudent. Subscribers receive real-time alerts of trading model changes, and a hypothetical trading record of those email alerts is shown here.
Subscribers can access the latest signal in real time here.
Diversity wins
As the S&P 500 continues to grind upwards, it’s been led by a trio of sectors, financials, industrials and technology, which has becoming an emerging leader. I interpret this as a constructive sign, as the diversity of both value and growth stocks indicate the bull move.
Strong bullish leadership
Financial stocks led the way with the onset of earnings season after the major banks reported their results. While the pop in share prices was encouraging, relative strength is evident in regional banks and overseas in Europe, which is the confirmation of a broadly based move.
The industrial sector began to exhibit positive relative strength in July. The combination of financial and industrial relative strength is a signal of a cyclical revival.
A study by SentimenTrader found simultaneous strength in financial and industrial stocks tends to be intermediate-term bullish.
By contrast, the technology sector appears to be just starting a recovery, as evidenced by better relative strength and improving relative breadth (bottom two panels).
I interpret the profit warning by ASML and the earnings beat by Taiwan Semiconductor (TSMC) as bullish signs for the important semiconductor group and sets a positive backdrop for the NVIDIA, which is expected to report earnings on November 20, and other AI-related plays.
ASML’s CEO stated on the earnings call, “While there continue to be strong developments and upside potential in AI, other market segments are taking longer to recover. It now appears the recovery is more gradual than previously expected.” Translation: the company is experiencing slower-than-expected growth in non-leading-edge machinery, but the leading-edge AI is strong. TSMC’s CEO confirmed the overall strength in AI on his earnings call, “We continue to observe extremely robust AI-related demand from our customers [read: NVIDIA] throughout H1 2024, leading to increasing overall capacity utilization rate for our leading-edge three-nanometer and five-nanometer process technologies.”
From a technical perspective, the Semiconductor Index fell to successfully test a rising trend line and its uptrend continues. Relative performance is holding up above a key relative support zone — all constructive signs for the group and the technology sector in general.
In the meantime, the relative performance of defensive sectors are all flat to down, which is an indication that the bulls are in control of the tape.
Strong momentum
The S&P 500 has been up for six straight weeks, which is an impressive display of price momentum.
Nautilus Research pointed out another exhibition of momentum. The Dow is up 50% from its bear market low. If history is any guide, the next month should see strong returns, followed by a pullback in the following month.
Not only is price momentum evident at the index level, the momentum factor, which measures whether high relative strength stocks continue to rise, has been strong. The accompanying chart shows the relative performance of different price momentum ETFs, which have all been rising since early September.
Key risks
Even though the path of resistance looks like it’s up, equity bulls shouldn’t sound the all-clear just yet. They face a number of key risks.
Forward 12-month EPS estimates revisions have been flat while the S&P 500 forward P/E is elevated, which is a concern as we are still early in Q3 earnings season. While the percentage of companies beating EPS estimates was above their five-year average, the sales beat rate was subpar.
The Fed may be considering a pause in its rate cut cycle at its November meeting. As both CPI and PPI have been reported for September, estimates of PCE, the Fed’s preferred inflation metric, should be relatively accurate. The Cleveland Fed’s core PCE nowcast rose to 0.26%, which is an unwelcome sign of inflationary regression and a possible reason for the Fed to pause in November.
As a consequence, inflationary expectations, as measured by the 5-year breakeven rate, rose from a bottom in early September to an elevated, but not overly alarming rate.
As well, Treasury yields have risen since the Fed announced its half-point rate cute, which is bound to pressure equity valuations.
In conclusion, the tactical bullish set-up that I outlined last week triggered a buy signal. Diverse leadership by financial, industrial and technology stocks points to further gains in stock prices. Investors should be aware of the key risk of earnings disappointment during Q3 earnings season, and signs of resurgent inflation may lead the Fed to put its November rate cut on hold.
My inner trader is maintaining his long position in the S&P 500. The usual disclaimers apply to my trading positions.
I would like to add a note about the disclosure of my trading account after discussions with some readers. I disclose the direction of my trading exposure to indicate any potential conflicts. I use leveraged ETFs because the account is a tax-deferred account that does not allow margin trading and my degree of exposure is a relatively small percentage of the account. It emphatically does not represent an endorsement that you should follow my use of these products to trade their own account. Leverage ETFs have a known decay problem that don’t make the suitable for anything other than short-term trading. You have to determine and be responsible for your own risk tolerance and pain thresholds. Your own mileage will and should vary.
Disclosure: Long SPXL
For our fellow readers who are interested in EM equities, Argentina may be worthy of your time. The story of Javier Milei is well known by this point. Despite relentless attacks from lefts/socialists inside and outside Argentina Milei is doing his job as Argentina is slowly getting out of a deep hole. Its equity market has performed the best among all markets in the world since Milei assuming office. This is just the beginning and it surely will encounter bumps going forward. But if Milei can pull it off it carries enormous ramification for Latin America. So as usual, observe the time series and take action one step at a time.