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“I haven’t bought anything all year.”
I had an interesting conversation with my nephew Brandon in July 2022.
At the time, stocks were in the midst of their worst bear market since the Global Financial Crisis in 2008.
Which made his answer so surprising: he hadn’t bought anything yet…
…which in hindsight was a mistake, as stocks would soon start a massive bull run a few months later.
And I see many people making the same mistake today.
Looking Out For “Peak Pessimism”
As the Wall Street Journal noted in July 2022, investors had rarely been so “pessimistic” about the outlook for stocks.
This made sense at the time; the Federal Reserve was raising interest rates at their fastest pace in decades, inflation was near a 40-year high, and Russia had invaded Ukraine a few months prior
But as often happens when the outlook for markets looks hopeless, stocks were near a bottom.
In fact, the Nasdaq surged +36% over the next 12 month:
That begs the question: if stocks were at their cheapest level in years, why were investors - including my nephew - not buying?
There are a few reasons for this. And it will help you put the current pullback in stocks into proper context.
Investors Are Rarely Rational
There’s a concept in economics known as a Veblen good.
It’s defined as luxury good where the demand for the good increases as the price increases. A few examples of Veblen goods include luxury watches, designer clothes, and fine jewelry.
But for many people - including my nephew - stocks are also a Veblen good. When stocks are at their cheapest, people are often too afraid to buy. This concept was recognized decades ago by technical analyst Walter Deemer who said:
“When the time comes to buy the dip, you won’t want to.”
My nephew is not the only one who fell into this trap. For instance, I see the same phenomenon with my Patreon Portfolio investment research service. When stocks are rising and nearing all-time highs, my member count goes through the roof.
But when stocks are falling and near multi-year lows, people usually cancel their memberships and throw in the towel.
Part of the reason for this is it feels bad to buy when stocks are falling. But if you’re able to fight this urge - and even take the opposite approach - you can make a lot of money.
And we may be approaching one of those times right now.
Our Current Market Pullback
Stocks had hit the skids the last two months.
After one of the best starts to a year in history, the S&P 500 has given back -9% of its gains:
Rising US government bond yields, high valuations, and recession fears are the key reasons for this pullback.
While I know this will surprise some people, I think we’re nearing “peak pessimism” for stocks… much like we were in July 2022.
And there are a few data points that support this theory.
Keeping An Eye on Sentiment
There are three key reasons why I think we're near a short-term bottom.
First is market sentiment. At present, the CNN Fear & Greed Index - which is a reliable sentiment gauge - is currently at 16...
...signaling "extreme fear" in the market. The last time this measure was so fearful was in October 2022...
...which was also the bottom for the S&P 500 in the 2022 bear market:
Second is seasonality. Back in August, I warned on a few occasions that stocks were entering into a "seasonally weak" period of the year.
For instance, I said this in the August 6, 2023 issue of "Let's Analyze"...
"I mentioned on my Instagram channel that stocks will likely take a “breather” over the next three months. This makes sense considering the S&P 500 is having an above average year, delivering a solid +17% gain year-to-date, but also because we’re entering into a “seasonally weak” part of the Presidential Market Cycle." - Robert Ross
I mentioned upcoming weak seasonality again on August 23rd, 2023 in the Patreon discord:
And I'm here to remind you again that seasonality is still working against the market for a few more weeks. The stock market is tracking the presidential election cycle nearly perfectly:
And while August through November is typically weak during these cycles, they typically cap off the year with a rally.
I don't usually put too much emphasis on seasonality or "analog charts" like the one above, but it's hard to ignore them this year with such a strong correlation.
Lastly, the market's technicals also warrant a near-term bottom. The S&P 500 is close to its 200-day moving average - a key level of technical support - for the first time in nearly a year:
My thinking on this will change if the index cuts through and stays below the 200-day MA (green line). However, with stocks oversold on the 14-day RSI and the S&P 500 near the key 200-day MA, I expect a bounce as opposed to the start of a new bear market.
Don’t Miss the Market’s Turn
Buying stocks during a pullback is easier said than done.
When the short-term trend is lower, you often need to buy while stocks are still falling. This can be painful as nobody likes to see their account lose value, even for a few weeks.
But if you’ve been waiting on the sidelines, I think now is a good time to start averaging into your long-term positions. And keep in mind you will never time the bottom perfectly. Instead, you need to tolerate short-term losses in your positions for long-term gains.
Because as Walter Deemer said, you really won’t want to buy when it’s best to. The market is not here to make you feel “good” about opening positions.
And in my career, I’ve made the most money when I bought stocks when it felt like hell (like in March 2020 or October 2022).
So if it feels bad to buy, just know that’s probably a good thing.
Stay safe out there,
Robert