"It is useless to attempt to reason a man out of a thing he was never reasoned into."
--Jonathan Swift
Effectively navigating the market isn't as easy as bullish and bearish -- especially when the main theme of the action is rotation. It is always preferable to trade in the direction of the trend, but sometimes it takes some work to figure out what the trend really is.
If you look at the iShares Russell 2000 ETF (IWM) small-cap index, the trend has been up since the election. The small-caps have been the leading group, with a jump of 17% since early November. By comparison, the Nasdaq 100 ETF (QQQ) hasn't even managed a 3% gain in the same period. It has looked like a completely different market if you have focused on market darlings of the past -- such as Facebook (FB) , Netflix (NFLX) and Amazon (AMZN) . On the other hand, large-cap financials like Goldman Sachs (GS) and Morgan Stanley (MS) look like social media plays rather than investment banks.
The key to dealing with this market is not to view it as a single monolith. It is sometimes said that we have a market of stocks rather than a stock market, but what we really have now is market of themes rather than a stock market.
The secret to playing themes is to expect them to last longer than you think they will. The run in financials, oil, steel and a few other sectors has surpassed what many have thought reasonable. Those that have focused on calling tops in these groups rather than embracing the momentum have had issues. The move in Goldman Sachs may seem totally unjustified if you apply standard measures of reasonableness, but the action there is a great illustration of how momentum works. When momentum is in play, stocks tend to go higher than you think is reasonable.
At some point these themes and trends will reverse, and that is why so many folks spend their time trying to anticipate when that might be. It is human nature to try to predict rather than to just stay with the trend. Many market pundits can't stand the idea of some mindless trend that has no real fundamental support.
The easiest way to find yourself on the wrong side of this market is to focus on things other than the price action. There are structural reasons for trends that overwhelm the most astute fundamental arguments. Stocks often go higher simply because they have momentum and people tend to worry about missing out. Whether it is reasonable or not is irrelevant.
One explanation being given for the continued strength this morning is that the European Central Bank is set to meet on Thursday morning and it is expected they will extend their stimulus program again. The 'no' victory in the Italian constitution vote on Sunday has given Mario Draghi another convenient excuse to continue to prop up the European markets. A big part of the reason there was no selloff on Monday is because of the expected response of the ECB.
Oil is up again, although there is some grumbling about how the OPEC deal already has fractures, and banks continue higher, as European names like Deutsche Bank (DB) and UBS Group (UBS) hold on to yesterday's big gains.
Find the themes that are working and stick with them. That is the name of the game right now. It won't last forever but it tends to last longer than you think.
