Hands down, this is the best day of 2022. There have been better days in terms of percentage performance, but considering the negative economic news this morning, it's quite noteworthy that money is rotating into aggressive sectors at the expense of defensive sectors.
At our MarketVision 2022 event on January 8th, 2022, I presented the following S&P 500 chart and where I thought we were heading. I gave my prediction for 2022 and here it was on the S&P 500:
That's a pretty darn accurate forecast from a time in which we had just enjoyed an all-time high. Also, keep in mind that I don't offer many bearish forecasts. But I saw this one coming. One key signal was the bearish rotation into defensive sectors in December 2021 as the S&P 500 surged to a new all-time high. End of story.
But it's now time to write the next bullish chapter of this secular bull market. Wall Street is accumulating beaten-down growth stocks and today it was obvious. We had just received the May ADP employment report this morning and it showed a miss. The economy was worse than we thought. Buying growth stocks as the economy shows signs of weakening makes little sense. But it's also what bottoms are made of. Just like at the top when it made no sense for money to rotate to defense, it makes no sense now to rotate to aggressive stocks. Yet that's what Wall Street is doing.
Could we see another low in the S&P 500? I'd say yes, though I would lower the probability to perhaps 20-25% chance. If you'd asked me the same question yesterday, I'd probably have said 50-60% chance.
So let's take a look at today's action. With the surprisingly disappointing news this morning, let's check out how the aggressive sectors (XLK, XLY, XLC, XLF, and XLI) reacted vs. the defensive sectors (XLV, XLP, XLU, XLRE):
Aggressive Sectors:
After bad economics news surfaces, the aggressive sectors are all up nicely and have mostly traded in positive territory today, despite the Dow Jones dropping 300 points this morning - before turning positive.
Defensive Sectors:
The S&P 500 has been rising, and we normally see aggressive sectors outperform during a rally. That aggressive outperformance, by itself, isn't necessarily reason to become overly bullish. Most bear market rallies will see that. However, in this particular case, we've already rallied to key resistance levels AND we received bad economic news. The initial pre-market reaction was negative as futures turned from positive to negative. We were setting up for the next leg lower. And then we weren't. Money rotated into "risk on" areas of the market, a signal I look for at market bottoms.
Now, there's always the "other side of the story" and we have a big nonfarm payrolls report on deck. A big miss there and perhaps we see more of a normal response tomorrow with aggressive groups dropping. There's also a negative divergence on the NASDAQ hourly chart as it attempts to move to a new high:
It would seem the closer we get to 12300, the bigger the short-term downside risk. But even if we sell off from here, I believe the groundwork is being laid for a MAJOR market bottom ahead and that's important to keep in mind.
One stock is really catching my eye on the long side and I'll be writing about it tomorrow in my Friday EB Digest newsletter. To subscribe for FREE (no credit card required), CLICK HERE.
Happy trading!
Tom
