Today, it may feel small-minded to discuss stocks and investment opportunities amid atrocities unfolding in Ukraine. I'm mindful of the tragedy and endorse donating generously to humanitarian efforts to help the Ukrainian people.
With that said, within the next week the market has all the ingredients for a significant short to intermediate-term bottom, albeit after a potential final flush. Either way, with the S&P 500 down 12% year to date, the bottoming process has developed well and the market may be close to a healthy trading rebound.
Sentiment has been particularly dour and volatility is high due to various uncertainties. Commodity inflation and precarious supply lines following the war in Ukraine have the market on edge with extreme headline risk. Yet, stocks are now discounting a lot of bad outcomes, which could trigger a strong relief rally even on a modest resolution of issues.
With hedge funds at low levels of risk exposure, defensive positioning is a crucial ingredient for a durable bottom. Goldman Sachs estimates hedge fund positioning at a multi-year low net-long exposure.
Market players have been ruthlessly selling overvalued stocks and tech shares, encompassing baby-out-with-the-bathwater action. It's important to note that fewer stocks may join in the rally when the market bounces. So, buy shares in fundamentally sound companies, which are the most likely to rebound strongly.
As the end of the quarter approaches, another critical catalyst in spurring a rally is pension funds rebalancing portfolios. J.P. Morgan estimates that the significant underperformance in the markets this quarter will lead to net buying of $230 billion in stocks over the next few weeks. The firm projects the rebalance will be the largest quarterly buying since 2020, when stocks fell precipitously due to the pandemic.
Add in corporate buybacks as a beneficial ingredient for bottoming. The first quarter saw a record amount of announced corporate buybacks. This year could witness close to a trillion dollars in buybacks. On the flip side, there's been a paucity of equity issuance and IPOs this year.
Meanwhile, a strong economy and job market is a sound fundamental basis for a bottom following a deep pullback. Worries that the Fed will hike rates seven or more times hence causing a recession seem premature. So, just getting the first quarter-point hike out of the way on Wednesday will be a relief.
High energy prices is a popular complaint and in the past has portended recessions. Since the economy's energy intensity is far lower than in previous years, high gas prices won't be as significant a headwind. Plus, fewer people commuting to work, more efficient vehicles, and higher wages help cushion the full impact. Nonetheless, oil prices have dropped around 25% from the peak.
The calendar could be an important factor for a durable rally, since March is often an inflection month, when major tops or bottoms are formed.
Lastly, the war in Ukraine is devastating but hopefully not intractable. Reports of Russia running low on military supplies might portend light at the end of this very dark tunnel.
I see a combination of ingredients for a rally, so my trader instinct senses a tradable bottom in the short term. Well-known concerns have discounted stocks to reasonable levels where buying oversold, fundamentally solid, companies and index ETFs should be rewarded.