So far in 2020, there have been three major phases of market development. In January and February, we had standard bull market action as many folks wondered how the market could keep hitting new highs as COVID-19 raged in China. In late February, the collapse began as market players finally understood the extent of the health and economic crisis that was developing.
In late March, the third phase began as massive fiscal and monetary stimulus drove the action and traders and investors figured out that some stocks would be major winners in the post-pandemic economy.
The countertrend bounce has now started to fade. The S&P 500 is essentially at the same place it was a month ago, on April 14. There have been some major winners since the March low and some very robust pockets of momentum. That momentum has fizzled in the last two days and there were some of the hardest hits to leading stocks in a while.
So now what?
The big issue now is whether this flattish, rotation action will serve as consolidation and provide the foundation for the market to continue to work higher on a wave of Fed-created liquidity or whether this is just a very big countertrend bounce that is going to fizzle out and lead to more downside.
Most market pundits and strategists have been wrong about the market recently because they failed to recognize how much of a divergence there would be between the stocks that benefit from the COVID-19 crisis and those that will suffer from it. One very stark example can be seen when we compare the KBW Nasdaq Bank Index (BKX) to the iShares Nasdaq Biotechnology ETF (IBB) . These groups are at the opposite ends of the spectrum, with banks close to retesting the March lows and biotechnology hitting new all-time highs on Tuesday.
It is likely that this sorting out process is going to continue in the weeks to come, but many of the leading names have become extended, while many of the lagging names are closer to some key support. Rotation action is going to continue but the gap between winners and losers will likely close to some extent.
The easy mistake to make in this environment is to be dogmatically bullish and bearish and to focus on indices rather than sectors. The real action in this market is not going to be in the DJIA or S&P 500. It is going to be in key sectors like technology, financials, biotechnology, etc.
If you want to make money, you will need to watch for the transition into the winners of the new, post-pandemic world. While the great bulk of the market will be in a bear market, the is a new emerging economy that will attract aggressive money.
This morning we have a mild start, as the recent momentum continues. There is no major new flow right now, but concerns about how easy it will be to reopen the economy are causing negative sentiment.