Stocks have entered a bear market.
As I've noted over the past few weeks, the likelihood of increasing volatility in the markets has increased. Of course, the invasion of Ukraine by Russia accelerated the situation. But the truth is that the Federal Reserve's push toward higher interest rates set the whole selling cascade in motion.
That said, at the moment, investors should be focused on two things:
- Risk management, and
- Preparing for the next bull market
We've been managing risk actively by raising cash through being stopped out of open positions, as well as reducing our exposure to new stocks. At the same time, we've employed inverse ETFs (see below segment on SDS) for protection. Meanwhile, I continue to look for stocks with solid management and products, which will lead the way higher in the next bull market.
NYAD In Bearish Territory
The New York Stock Exchange Advance Decline line (NYAD) has broken through all recent support and continues to fall. Because it is well below its 200-day moving average, it is signaling that we are in a bear market.
Of course, given its oversold state (RSI near 30), a bounce could occur at any moment, given the potential for some sort of diplomatic breakthrough or other Ukraine-related issues – although there are no guarantees that anything will happen anytime soon on that front.
Moreover, the Federal Reserve is now in a difficult position given the rally in bonds, which has brought the U.S. Ten-Year note yield (TNX) back below 2%. This means that the bond market is suddenly more concerned about economic fragility due to the unknowns of the Ukraine situation than inflation. Of course, that can change at any moment, which is the hallmark of bear markets – constant uncertainty and price volatility.
In addition, a bear market in stocks can end at any time. Thus, while falling stock prices are daunting, investors should be prepared for a quick resolution, especially if the Federal Reserve changes its position on interest rates quickly, as it did in 2018 and again in 2020.
What to Do
The real question is what we do now.
First, we follow our trading plan, which is built on owning stocks which have the potential to rise in price. In this market, few stocks are rising. As a result, we have fewer stocks in our portfolio, and that number may decrease due to sell stops being hit. On the other hand, we are building our cash reserves for when the market reverses course and conditions become more favorable.
Meanwhile, we have our Rainy Day Portfolio, including the ProShares Ultrashort S&P 500 ETF (SDS), which is doing quite well at the moment.
Bottom Line
The bottom line is that this is now a bear market, meaning that the number of stocks that are likely to hold their value or rise in price will be reduced.
That's okay. When things get better, I will start tapping into my BUY list again. For now, stick with the Rainy Day Portfolio as we wait for the market to bottom.
Finally, I recorded a Your Daily Five video this morning which will be posted on YouTube this afternoon by StockCharts.com, which will have more details on how to navigate this market.
To get the latest up-to-date information on options trading, check out Options Trading for Dummies, now in its 4th Edition – Get Your Copy Now!
#1 New Release on Options Trading
Good news! I've made my NYAD-Complexity - Chaos chart (featured on my YD5 videos) and a few other favorites public. You can find them here.
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.
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