As we kick off the last four days of the third quarter of 2021, the big question is whether the indexes can continue to build on the powerful V-shaped bounce that kicked in after a sharp drop a week ago. Stocks were able to fully recover their losses in just four days but do they have the juice to keep on running as we look ahead to third-quarter earnings?
The market has undergone some standard corrective action from around the start of the month. It picked up steam last Monday with the Evergrande debt crisis serving as a convenient excuse, but this market has had good underlying support, and the dip-buyers quickly showed up. What has been most positive about this market throughout several weeks of corrective action is the ongoing interest in stock-picking. Retail investors have been active in a number of speculative themes and have not been at all discouraged by the corrective action in the indexes.
The action of the last few weeks was triggered in part by the large disparity between the indexes and secondary stocks. The indexes and some key big-cap stocks have been extended while only about 40% of all stocks have been trading over their 200-day simple moving average. This disparity has been building since late February, and the last few weeks has helped to close the gap to some degree.
The market still has a couple more weeks of negative seasonality to deal with, but we should start to see positioning in anticipation of some strong earnings reports. One positive about the recent corrective action is that it has helped temper expectations, and that will help to prevent a "sell the news" reaction to some degree.
There are still plenty of macro negatives for the bears to growl about. The Evergrande situation is not fully resolved. There were new reports about China dealing with power shortages as it makes a better effort to deal with pollution, interest rates have spiked the last few days following the latest Fed policy statement, and the debt ceiling issue is far from resolved in Washington.
It isn't difficult to craft a bearish argument for this market, but that helps to create a "wall of worry" dynamic that can actually be a market positive. When the market fails to embrace the negative thesis, the folks with idle cash slower put it to work out of fear that they will be left out. This pushes the market higher and causes more fear of being left out.
I continue to see good stock-picking, and that will be my primary focus. If selling becomes more correlated and persistent, then I'll be more concerned.