Top Advisors Corner

At the Edge of Chaos: Don't Fight the Fed; Straddle the Fence, Trade One Day at a Time.

 | 

It's a decades-old adage, made famous by the late Marty Zweig: "Don't fight the Fed." And the market rally on 8/27/21 proved once again that it has stood the test of time.

In fact, just as I noted last week, the wall of worry that had built up due to the fear of an abrupt QE taper was likely an algo fake out, which set up a nifty short squeeze that took the major indexes to new highs though the market's breadth remains less than required to deliver an all-clear signal. As a result, this remains a market that can't be avoided on the long side altogether, but not a market that can be traded too aggressively.

Good Enough for Now, But Not Necessarily Good Enough

Stock traders breathed a sigh of relief on 8/27/21, when Fed Chair Powell announced that a bond purchase taper could start before the end of 2021, but that rising interest rates would not likely follow for some time. Still, the Chairman added that the central bank would continue to monitor COVID-related developments.

Interestingly, he did not mention what the Fed may do in case of an extension of the currently rising geopolitical tensions, which could be the next big influence on global decision-makers and the market action in the next few months. In fact, history shows that markets tend to rally during times of major conflicts, as central banks are forced to print money to fund war efforts. He also failed to note that tapering of any type is still likely to take money out of corporate trading accounts and that the financial system won't likely enjoy having less money to trade stocks, since they can't make any interest with the Fed's current zero-rate stance.

In other words, in a zero interest rate environment, the only way that companies can diversify their funding streams is through the stock market. The way they do this is by selling bonds to the Fed and deploying the funds into stocks. So it's not hard to figure out that, if the Fed shuts off the funding for companies that rely on stock profits and dividends for operating capital, there will be negative repercussions.

Certainly, stocks rallied in response to Powell's benign comments, but once the initial reaction settles down, investors will still have to stay fluid and consider making adjustments to expectations and strategies. And it would be folly, as a trader, not to lean toward trading the long side as long as the trend remains up. Yet it's not a great idea to lose sight of the fact that any rally could end as quickly as it started. Moreover, unless it is reversed, despite Friday's excellent advance-decline ratio, the general slack in the market's breadth continues to create uncertainty and a generally choppy trading environment. See below for details.

So here is what we have:

  • Rising geopolitical tensions
  • Inflation becoming "sticky"
  • Supply chains becoming harder to manage
  • The Fed having itchy taper trigger finger but trying to soft-shoe the market
  • The stock market breathing a sigh of relief but still quietly on pins and needles
  • The Fed hoping it can wean the market from QE without causing a crash
  • The market's breadth remaining on the soft side

And here is what we can do:

  • Don't fight, but don't trust the Fed
  • Trade one day at a time
  • Focus on companies in go-to niches
  • Balance risk management/income/capital preservation with short-term opportunities to trade
  • Shorten time frames on holdings
  • Consider option-related strategies to hedge any stock market bets and produce income
  • Take profits in positions that have gained 10-20% or more
  • When buying stocks, purchase small lots
  • Keep somewhat tighter-than-usual sell stops in the range of 5%, rather than 5-8%
  • Never let a winner turn into a loser
  • Consider contrarian strategies, such as I describe in my latest Your Daily Five video.
  • Be ready to switch from cautious to outright bearish or bullish rapidly.

"The edge of chaos is a transition space between order and disorder that is hypothesized to exist within a wide variety of systems. This transition zone is a region of bounded instability that engenders a constant dynamic interplay between order and disorder." – Complexity Labs

You can see my latest BUY list here.

Amphenol Makes the Connection

Sometimes it pays off to look deep under the market's hood.

While mainstream tech companies have been slaves to the headlines lately, a little known manufacturer of electronic components and connectors, Amphenol (APH), has been under steady accumulation of late and seems poised for what could be an extended breakout.

There is little glamour in making cable connectors, antennas and printed circuit boards. But glamour and money aren't always related, and usefulness tends to override glamour in the end. So the fact that Amphenol's products are part of the backbone of the automotive, broadband, IT, commercial aerospace, mobile network and military equipment sectors, along with strong management, means that the company has thrived during the recently difficult times.

Specifically, Amphenol has been able to beat earnings estimates for the past five quarters in a row. Moreover, it's grown both its earnings and revenues at over 20% over the last year while paying out a T-Bill-crushing $0.58 (0.78%) annual dividend. Its most recent quarter (Q2-2021) delivered record sales registering over 30% growth year-over-year, while order growth was nearly 60%. In addition, the company predicted 14-16% growth for Q3 as it continues to deliver on strong sales growth.

The price chart clearly reflects the company's well-established growth credentials, as Accumulation/Distribution (ADI) and On Balance Volume (OBV) are both showing positive money flows. In addition, the stock just broke out of a multiweek trading range and is likely to consolidate at some point in the short-term. However, unless something dramatic happens, the consolidation period is likely to be a good opportunity to enter the shares.

I own shares and options in APH as of this writing.

SPY Call Option Volume Rises

The Bulls are getting more bullish but the bears don't want to let go.

Although options players continue to tightly hedge against a stock market crash, the volume in SPY call options is starting to rise suggesting that market-makers and algos are being forced to buy stocks in order to hedge against losses. This is a positive for now. At the same time, however, the now familiar pattern of more puts being bought just below the most current strike price remains in place, although that is starting to change as well. What it means is that we may be near a turning point in option trader behavior which could lean to a more bullish dynamic for stocks.

To get the latest up-to-date information on options trading, check out Options Trading for Dummies, with its 4th Edition releasing on September 28, 2021 – Reserve Your Copy Now!

Market Breadth: NYAD Misses Out on New High Once Again

The New York Stock Exchange Advance Decline line (NYAD), the most accurate indicator of the stock market's trend since 2016, continues to diverge from the market indices by failing to make new highs to confirm theirs. So that leaves traders in a difficult position yet again.

It's not unfixable, however, since one or two more days of positive breadth could erase the divergence.

The market could be on shaky ground.

Once again, the Nasdaq 100 index (NDX) made a new high to close on 8/27/21.

Meanwhile, the S&P 500 (SPX) also delivered a new high. Interestingly the Accumulation Distribution (ADI) for both NDX and SPX is suggesting that money is moving into the indexes.


Joe Duarte

In The Money Options


Joe Duarte is a former money manager, an active trader and a widely recognized independent stock market analyst since 1987. He is author of eight investment books, including the best selling Trading Options for Dummies, rated a TOP Options Book for 2018 by Benzinga.com and now in its third edition, plus The Everything Investing in Your 20s and 30s Book and six other trading books.

The Everything Investing in Your 20s and 30s Book is available at Amazon and Barnes and Noble. It has also been recommended as a Washington Post Color of Money Book of the Month.

To receive Joe's exclusive stock, option and ETF recommendations, in your mailbox every week visit https://joeduarteinthemoneyoptions.com/secure/order_email.asp.

Joe Duarte
About the author: is a former money manager, an active trader and a widely recognized independent stock market analyst going back to 1987. His books include the best selling Trading Options for Dummies, a TOP Options Book for 2018, 2019, and 2020 by Benzinga.com, Trading Review.Net 2020 and Market Timing for Dummies. His latest best-selling book, The Everything Investing Guide in your 20's & 30's, is a Washington Post Color of Money Book of the Month. To receive Joe’s exclusive stock, option and ETF recommendations in your mailbox every week, visit the Joe Duarte In The Money Options website. Learn More
Subscribe to Top Advisors Corner to be notified whenever a new post is added to this blog!
comments powered by Disqus