Always Focus On the Weight of the Evidence

August 11, 2022  |  Michael Reilly

At Rowe Wealth, our approach is to always focus on the weight of the evidence. 

Remain unbiased and follow price behavior. 

Avoid the news and the headlines – the media is not your friend.

Start each day from scratch and gather the evidence.   

We ask ourselves: 

What does the weight of the evidence tell us about current market conditions? 

Are we in an environment offering a greater opportunity or an environment where there is more risk?

And with the S&P 500 breaking above 4200 yesterday, was this just another bear market rally within an ongoing downtrend? Or are we finally seeing the move off the June lows that will set us up for a sustained move higher – and the beginning of the next bull market?

The fact is, we’re never sure if we’ve seen the market bottom until we look back in the rearview mirror. However, we’ve set 4200 as a clear line in the sand for the S&P 500.

But why? 

4200 is an important level on the S&P (as the following charts illustrate).

First, Fibonacci levels – 4200 represents a 68% retracement of the entire move from the index high to the September 2020 lows. In other words, the S&P has regained 68% of its losses between its November/December 2021 highs and its September 2020 lows.

These Fibonacci levels are closely watched by many traders, so a sustained push through a defined Fibonacci level (68%) clears a hurdle that the S&P couldn’t break through just two months ago. 

This time there was enough momentum to propel prices higher that didn’t exist in May and June. That’s one for the bulls.

The 4200 level is also an area of both previous support and resistance going back to early 2021. This is referred to as the Polarity principle. Where previous support becomes resistance and vice versa. 

But regardless of what you call it, one thing is for sure, market participants have made 4200 an important level to watch.

And something else, if the S&P 500 can remain above 4200, being short can be a risky proposition. 

We’re not just watching prices. We’ve got our eye on market breadth. 

See the illustration below, we’re watching participation up and down the cap scale via the advance-decline lines for small-, mid-, large-caps and, the S&P 500.

Until now, only small-caps and mid-caps saw their advance-decline line meet and finally exceed their June highs. 

But with this most recent rally in the S&P index, the A/D line for large-cap stocks and for the S&P has also confirmed higher prices in the index with more and more stocks participating and moving higher.

With more and more bullish evidence continuing to evolve, it’s becoming more difficult to remain exclusively bearish. 

And here comes the “yeah but”…

So let me say it… What about the Fed?

The Fed has made its intentions very clear… 

They haven’t backed down – they want to see Inflation back around 2%. 

That policy calls for additional aggressive monetary moves.. meaning additional rate hikes and a tightening of liquidity. And the fear of pushing the U.S. into a recession (by any definition).

In spite of the obvious, stock prices have been moving off their lows and momentum favors the bulls (right now).

Be alert and cautious. 

The fact is we simply don’t know if the lows are in for 2022 or if we’ll get a retest of the June lows, so it’s going to be more important than ever to keep a watchful eye on both price and breadth.

Until next week, we’ll keep watching, and continue to invest wisely…

P.S. To find out how Rowe Wealth can help you profit through whatever the market serves up next, schedule a free 1-hour consultation with us now.

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