Following a sharp reversal on Tuesday and around four to one negative breadth on Wednesday, the market is now in danger of further corrective action. Technical conditions are still overbought and the potential for negative economic news is quite high, but this rally caused tremendous underperformance as many investors were underinvested and quite skeptical of the strength.
The big move off the June lows lasted long enough and was strong enough to convince many that it wasn't just an energetic bear market bounce. There are many market participants who believe the Fed is threading the needle, that it is battling back inflation and will be able to avoid a recession. The price action over the past month reflects that optimism.
We are now at the juncture where the bullish narrative will be more critically tested. Better-than-expected retail sales news on Wednesday was not sufficient to avoid some selling. The Fed minutes produced a brief uptick in action, but that fizzled out as it became apparent that there really was nothing new in the comments.
The biggest positive the bulls have going for them right now is momentum. This move left a lot of money on the sidelines. Many investors are unwilling to chase straight-up moves, but they do want to buy dips when there is a chance. They need not be very deep in order to trigger some accumulation. However, dip buying quickly loses its appeal when bounces do not hold. Once there are a series of lower lows, then the dip buyers lose their aggressiveness very fast.
There is news here on Thursday morning that Goldman Sachs and Nomura are cutting their estimates of China's growth. This helps with the fears of inflation, but it increases the risk that the US economy will fall into a recession. The reaction of bonds may be a clue as to whether the primary worry of the market is inflation or recession.
I've raised my cash levels substantially and am now waiting for better entry points to develop. I am in no hurry to put money to work right now and am optimistic that better opportunities are going to develop as we work our way through seasonal weakness.