Folks, don’t get too bearish. It’s not a good look when the cycle backdrop remains positive technically. Over the past few week’s I’ve discussed the technical reasons why I remain positive on the market overall, despite the sell-off that developed in May. Certainly, the headlines have been worrisome and many very level-headed clients have told me they are very concerned about a deteriorating economic and fundamental backdrop.
Now, the technical backdrop can also be interpreted with a very defensible negative spin. So why do I remain optimistic?
The first reason is that my long-term cycle work remains bullish for equities. I view the most recent pullback as part of a normal, healthy unwind, or retracement of the surge that developed in Q1. Investors worry about prices, but time is an important part of any correction and the weekly indicators I use to monitor shifts continue to point to a choppy, zig-zag pattern through Q2 into Q3. There are positive divergences that have developed over the past 1-2 weeks that support my call for an oversold trading bounce, a bounce that is now underway.
First, focus on the behavior of semiconductors, which often lead market turns. Semis were very oversold from a trading standpoint heading into last week and their performance relative to S&P 500 index began to improve even the though broader market remained weak. That kind of action always gets my attention.
Semiconductor ETF – SMH
Bottoming at the 50-62% retracement support band
Interestingly, the SMH Semiconductor ETF (see chart) began to show signs of bottoming at a support band that often seems to be important, a 50-62% retracement of the prior move. This week’s rebound reinforces my view a price and relative performance shift is underway that investors should watch closely.
I don’t expect to head straight to new highs, but I do believe the bulk of the correction is now done and a zig-zag pattern into Q3 should complete the broader consolidation. As I noted above, don’t get to bearish, at least not yet. The technical behavior in the market is likely to signal a change in market sentiment well before the fundamental backdrop is reported to be improving.
Among sectors, the broad market sell-off in May has quickly shifted headline sentiment deeply into negative territory but a correction following the Q1 surge is not surprising technically. After pulling back for 4-weeks, most pro-growth, pro-cyclical industry groups are oversold tactically with technology, notably semis, beginning to rebound. The long-term relative performance trends for technology remains positive with a short-term upturn underway.
