Catch-22 Data Hits Tuesday
Before we begin to examine the recent bottom in the stock market, investors
were greeted with an eye-popping nugget of economic data Tuesday morning. From Reuters:
The Commerce Department said on Tuesday durable goods orders, items ranging
from toasters to aircraft that are meant to last three years or more, jumped
22.6 percent last month after an upwardly revised 2.7 percent increase
in June. July's increase was the largest on record and far outpaced economists'
forecasts for a 7.5 percent advance.
While the record spike in durable goods was heavily impacted by aircraft orders
and there were some concerning items in the report, a 22.6% gain is a 22.6%
gain. The never seen before print on the economy falls into the good news/bad
news category. The good news is the economy appears to be moving away from
a tepid state. The bad news is today's report will spark chatter about the
Fed possibly pulling their first rate hike forward.
Risk Is About Probabilities
A reasonable standard for "how much to invest" is based on the probability
of producing successful outcomes. Charts can help us monitor and assess investment
probabilities. For example, the weekly chart of the S&P 500 (SPY) below
shows a period with a very poor risk-reward profile.
August 7: Not A Good Look
The chart below shows the S&P 500 as of Thursday, August 7. The August
7 profile has similarities to the 2008 profile above, which told us the probability
of bad things happening was higher on August 7 than it was on July 1.
Probabilities Account For All Outcomes
When we say "the probability of bad things happening has increased", it does
not imply the probability of good things happening is zero. Therefore, we use
charts not as a forecasting tool, but rather a tool to monitor the probability
of investment success. The same concepts are used to manage risk and reward
in countless businesses. From Encyclopedia
Britannica:
Actuarial statements about the life expectancy for persons of a certain
age describe the collective experience of a large number of individuals
but do not purport to say what will happen to any particular person. Similarly,
predictions about the chance of a genetic disease occurring in a child
of parents having a known genetic makeup are statements about relative
frequencies of occurrence in a large number of cases but are not predictions
about a given individual.
Support Called For Patience
Using a probabilistic approach, after the close on August
7, we noted some patience was in order to see what happened at a nearby
area of possible support. The chart below is dated August 7.
Stocks did hold support and rallied 22 points on Friday, August 8. The big
rally enabled the S&P 500 to post a gain of 6 points for the week.
Weekly Gains Provided A Reference Point
Stocks were green again the following week. The rally allowed us to add the
lower blue trendline in the August 15 chart below, which set guideposts on
the high end near 1968 (dotted-blue line) and on the low end near 1940 (solid
blue line). Commentary on the chart from August 15 can be found in this video
clip.
Morphing Into A More Favorable Look
After a 16 point gain on Monday, August 18, the weekly chart of the S&P
500 was looking less and less like the scary 2008 chart shown earlier.
In fact, if we compare the August 18 chart above to a more favorable period
for investors in 2009, we can see some similarities, which spoke to improving
odds of investment success.
Looking at the chart below as of Tuesday, August 26, another bullish hurdle
was crossed when the index broke above 1967.
Investment Implications - The Weight Of The Evidence
Does the present day chart mean downside risks have left the building? No,
the present day chart has been telling us the probabilities of success have
been improving. Consequently, our market model has reduced cash and incrementally
added to our stock positions (VTI) several times since the August 7 intraday
low.
Our approach from here will be the same; monitor the charts/probabilities
and make adjustments as needed. Would a monitor and adjust approach have helped
in 2008? You can decide after watching this video.
"Because things are the way they are, things will not stay the way
they are."
- Bertolt Brecht
