Lead-Lag Live

David Keller on Sentiment Shifts, Defensive Sector Trends, and Gold's Strategic Importance

• Michael A. Gayed, CFA

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Unlock the secrets of market sentiment and trends with expert insights from David Keller. Discover how shifts in sentiment and investor psychology drive market movements and learn about the most effective methods for measuring sentiment—from survey data to the VIX and the all-important price action. David reveals the biases lurking in sentiment surveys and highlights the critical role of trend following in making informed investment decisions, essential knowledge for anyone looking to stay ahead of market corrections.

Explore the recent outperformance of defensive sectors such as utilities, real estate, and consumer staples, juxtaposed with the strength of cyclical sectors like energy and industrials. We'll dissect how these trends from mid-July to mid-August signal a defensive investor stance and examine the seasonality of market trends, particularly the weak months of August and September. Special attention is given to individual stocks like SMCI, shedding light on recognizing trend reversals and managing the risks tied to market corrections.

Finally, gain a strategic edge with our discussion on gold and silver investments during market inflection points, and understand why low-correlation assets are pivotal in turbulent times. We'll highlight the irregular market dynamics of 2024, the dominance of mega-cap stocks, and the evolving relationship between stocks and bonds. David also shares invaluable advice on maintaining a long-term perspective, using inverse ETFs wisely, and counteracting behavioral biases through consistent routines and systematic analysis. Don't miss this comprehensive guide to navigating market sentiment and trends!

The content in this program is for informational purposes only. You should not construe any information or other material as investment, financial, tax, or other advice. The views expressed by the participants are solely their own. A participant may have taken or recommended any investment position discussed, but may close such position or alter its recommendation at any time without notice. Nothing contained in this program constitutes a solicitation, recommendation, endorsement, or offer to buy or sell any securities or other financial instruments in any jurisdiction. Please consult your own investment or financial advisor for advice related to all investment decisions.

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Speaker 1:

My name is Michael Guy, a publisher of the Lead Lag Report. Joining me for the rough hour is Mr David Keller. David, introduce yourself to the audience. Who are you? What's your background? What have you done throughout your career?

Speaker 2:

What are you doing currently? Yeah, good to join you, michael, and I appreciate all the work you do to put out good content, empower investors to make better decisions. I appreciate you. So I've been at StockCharts at Redmond Washington for almost five years now. Before that I ran the technical research department at Fidelity Investments and before that I was at Bloomberg in New York working with institutional investors on how to use charting and technical analysis in their investment decisions.

Speaker 2:

I come to technical analysis and market analysis from the mindset of a psychology, sort of behavioral background, so I see market movements as just representing shifts in sentiment. I think trend following works because the herd tends to gravitate to particular trades in particular places, and I think no better time than in the last month or two to recognize what happens when we have those changes. We call it change of character when the trend reverses from one to the next, and so, for me, technical analysis and a good investment process is all about minimizing your own behavioral weaknesses, recognizing how you're hardwired to make poor decisions, and then having a set of routines, tools, capabilities, resources surrounding you to help make better decisions and take advantage of when trends change and when we have inflection points. I would say arguably. We've certainly seen one of those here recently All right.

Speaker 1:

So let's get into that. And when we talk about psychology of sentiment, can psychology, can sentiment, be quantified, or is it one of those things where there's some data that might suggest there's a change in mood, but it's more a gut feel?

Speaker 2:

So there are different ways, sort of different levels to how you can measure sentiment. I mean one which is probably the most direct representation but probably the least meaningful data-wise would be survey data. Right, because surveys have an inherent weakness built into them which is you're trusting that people are being honest with you and with themselves and reporting their accurate place and reporting their accurate play. So things like the AAII survey, the market vein survey, the name exposure index, are all weekly surveys of investors for the most part, where they're actually just telling you here's how I'm positioned, here's what I'm thinking. The next level of that would be looking at positioning data, something like the VIX, looking at volatility or looking at the put-call ratios, which is actually measuring market positioning in some way, or the changes of positions as measured by volatility, and then sort of inferring or implying how sentiment is changing, as implied by the movements in those underlying measures. But then the third one which I would argue is why technical analysis kind of makes sense is price right?

Speaker 2:

Price is sort of the best arbiter of sentiment and when people are optimistic or pessimistic or euphoric or despondent, I would say there are tools in the technical analysis toolkit that help you capture that, particularly when the market has a certain frame of reference, when sentiment is in a certain sort of position, I think of the mosaic has a particular look and feel, and then things change, right? You list out all the things that have changed in 2024 from April to August. Quite a few things, and so I think recognizing changes in sentiment as measured by price is probably the most important thing we can do. And so a trend is in place until proven otherwise when the trend changes. That's why I think trend following is an appropriate approach for most medium-term, long-term investors, for sure.

Speaker 1:

You had put a post out about the AI survey and said this week showed. Then from last week it showed dynamic rotation with bullish down to 41%, bearish up to 38%. As I recall, the survey there looks at the questions around how do you think stocks will do in the next six months? There's a timeframe aspect to it. Does that matter? I mean, or is old sentiment survey data, even though it might be framed as longer term, ultimately just really about recency bias based on the most recent price action?

Speaker 2:

So you hit Michael on the problem and I studied psychology as an undergrad. You went through survey design and the first time I actually created a survey and surveyed students at Ohio State and used the results, I immediately saw all the flaws in any sort of survey, because subtle differences in how you phrase a question can have dramatic results in the conclusions of the survey data. So I think there's sort of often an inherent bias that goes into the wording of the question, how it's portrayed. So when you ask people are you bullish, bearish or neutral for the next six months? Versus the next six weeks, versus the next six hours, how dramatically different would the results be? I don't know because I haven't really experimented and seen the results of that, but I would tell you that that idea of looking out six months is probably not a mindset I think a lot of respondents probably have. When they're answering that question. They just think, are you bullish, bearish or neutral? And they attribute their own timeframe of meaning right, if I'm focused always on the next couple of days and then you ask me what I think six months out, I'm just thinking about, I would argue most people are probably just reacting to how they see their space, their sort of blinders on perspective, on their book or their portfolio or their timeframe of reference.

Speaker 2:

So you know, I would say probably the shift that we've seen and you're right, it's a dramatic shift from over 50% bulls to now down toward 40 and an increase in bears and the spread between the two, almost favoring bears over bulls for the first time since April. I think that still has value in terms of the change and that's why I would not say the actual value necessarily means as much as the change in the rotation. And I think when you see the shift in that it looks very similar to major corrective periods like in August, september of last year. But the big defining moment was not just that the sentiment changed it, that it continued to get more and more negative. Where some more and more bears come out, bears outnumbered bulls for more of a protracted period of time and that would be, I think, the bear case. Going into August, into September of this year would be sort of more of the same.

Speaker 1:

What tends to be a better tell on sentiment surveys or actual relative movement, and it's a bit of a layup question, right, I'm showing on the screen here a post you said you put out on the 9th. It's not just about the VIX. One of the ways to gauge investor sentiment is to watch defensive sector performance. I often talk about this from the standpoint of utilities as the quintessential defensive sector, but also consumer staples, also healthcare REITs in my research can be defensive, can be offensive. It seems to kind of play both sides, depending upon whatever moment in time. But talk about the movement of defensive sectors and why that has consequences.

Speaker 2:

Yeah, and obviously, wiggle, you've done a great job with this. One of your Dow award winning papers was based on relative strength utilities, which I absolutely love because it really speaks to the rotation of investors and getting a message back from which sectors are outperforming or underperforming. And what I like about that way of thinking is it really is more thinking like a professional money manager, where you're all in right, you're fully invested in stocks and you just have to be somewhere. So when the markets get uncertain, when you have elevated uncertainty and elevated volatility, you immediately want to rotate to things that are going to cushion the blow. If you think the market's going down, you want to be in things that are going to go down less, which means you go low volatility and you go for a higher dividend component or higher income, meaning you're going to get at least some sort of income from the stock, even if the price is deteriorating. And chances are the price is going to go down a lot less than the broader averages, which are more geared toward higher volatility growth stocks, particularly in 2024. So one of the big, I guess, arguments for the bull case through mid-July was the fact that defensive sectors really did not mount any meaningful stretch of outperformance, little spurts like in the April pullback, but not to the degree that it would really feel like investors are getting defensive. But if you look at what's happened on the chart that you showed us in the last four weeks, these are three sectors utilities, real estate and consumer staples that have been three of the worst performers. They've been consistent underperformers for 12, 18 months and now all of a sudden they're all starting to rotate higher.

Speaker 2:

I would say. On top of that it's also some of the cyclical sectors like energy, industrials, materials all outperforming as well. So that shift in relative performance I think tells you a great deal about again what I call a change of character. I think the market had a certain look and feel from kind of the April low to mid-July, I think mid-July now to mid-August you're getting a very different sense of things and I would say the leadership is maybe still in question. But I would say if you forced me to say where is the leadership, I would say defensive areas of the market. Easy, I mean, that's an easy answer. Representing it again, what that implies is that investors are taking their foot off of the gas and stomping on the brake and I think that has ripple effects that play well to the seasonality in August and September as well, which I think is the timing of this is also pretty meaningful.

Speaker 1:

Do you think that's more of a tactical rotation or is that late cycle economic behavior? I mean, maybe it doesn't matter from a trading perspective, but from an asset allocation perspective. If it's the latter, then there's bigger shifts that one can make in a portfolio.

Speaker 2:

And again, I think the seasonality is a big part of the picture for me. So if you look back for the last couple of years and as a statistician you would never look at two years and then say, well, the third year is probably going to be the same that's not really statistically significant. But if you look back over large periods of history August and September, particularly going back to the financial crisis, like 08, 09, august and September the weakest two-month period out of the 12. And so we're entering a period where you normally have had a major summer peak, which we've had pretty much every year for the last four or five years. We've often had a major low and that has been magnified in the last couple of years. We've had a major low in September, october. Pretty much our time in August has been kind of weak. So we're entering that normal seasonal period where we tend to have weakness and I don't buy the argument that this is an election year where it's going to be different. I think where we're at with the Fed cycle, with the economic cycle, it certainly feels like the seasonal playbook is playing out magnificently here in Q3. And what that also implies is they usually have a pretty significant low September and October, because November is actually one of the strongest months, if not the strongest month out of the 12. So I think on your tactical timeframe you see weakness at least I see weakness now and I see this as a continued downtrend of lower highs and lower lows until proven otherwise. I think the market's guilty until proven innocent.

Speaker 2:

And then you just look for signs of the recovery. And if you go back to April, may of this year, if you go back to September, october, november of 23,. They all had clear kind of exits to that pullback phase. Right, you had a pullback of two months, three months, and then you had this nice rotation higher where we're below the 50-day moving average. We go back above the 50-day. We draw a trend line from the previous highs. Those trend lines are all broken to the upside. So I think the exit of this corrected period is usually pretty straightforward. I think a lot of times we spend too much time trying to pinpoint a low, as if that is really going to help our returns. I'm happy being patient and waiting for the market to tell me to get back in. I'm just not seeing that here yet today.

Speaker 1:

I love this post, a quote from Peter Drucker. In every major economic downturn in US history, the villains have been the heroes. During the preceding booms, the leaders become the laggards, the laggards become the leaders. Talk through SMCI. I think this is kind of an instructive chart because sentiment always also lags right, because it's based on what's happened in the past. And it's funny when you look at the chart on SMCI, how the center for AI only recently seems to have been turning a little bit more sour.

Speaker 2:

That's right and it's funny when you compare SMCI to other growth stocks others in sort of that AI trade, smci kind of a leader in rotating lower and sort of hitting that peak and then started to taper off. For me, technical analysis is so valuable because you're not guessing A lot of people think of using charts as predicting the future, crystal ball kind of work. It's really more about following trends, which, again, and knowing what I do about you and your work, I think it's very focused on the evidence the market provides back to you. We can speculate what might happen, but at the end of the day let's look at the phase the market is in. Smci was in a clear uptrend in the beginning of 2024, accelerating to the upside, making new all-time highs.

Speaker 2:

That was sort of the perfect example of the AI frenzy, the euphoria that surrounded that trade, and I was taught working at Fidelity years ago there's plenty of money to be made on the left side of bubbles. You just have to be really careful about recognizing when it's no longer played, because the whipsaw afterward can be painful and the immediate drawdown can be pretty painful. So I think the key for SMCI relative to other growth stocks is it just wasn't going up when so many other things were sort of continuing to push a little bit further into May and June. Now what you've seen is SMCI kind of breaking down, really accelerating and breaking below support, and that's why I scan for stocks like an SMCI making new three-month lows. It's a very simple, very easy screen to set up on a stock charts or some other platform to use, but there's so much value to be gained in recognizing when stocks have been a certain phase and then they're different, and for me, breaking a new three-month low, breaking out to a new three-month high, those are the kinds of things, actionable moves, that I want to pay attention to.

Speaker 2:

So I think the recent breakdown in SMCI is just sort of the latest, confirming that rotation away from the AI optimism and sort of the general optimism in the growth phase. I would argue, though, again as a long-term, when I've had people ask me what do I do with NVIDIA and SMCI and others, I think with good companies, with the opportunity to participate in something like AI? That is a fantastic theme that will undoubtedly be transformational for years and years, but which stocks and which companies will actually capitalize on that theme and actually benefit the most is sometimes a lot less clear than we think. For me, the charts showing that rotation is what's most important. That's why SMCI is a broken chart until proven otherwise.

Speaker 1:

There's a question on the YouTube side from Titus. I'll show it here. The financial news networks are hyping up the significance of retail numbers as being more important than DPI. What do you guys think? I will say that I don't think any of these numbers mean diddly squat. And I say that because we know what's going to happen. The numbers are going to come out, algos are going to trade off it, then retail is going to trade off of it with a delay, then people are going to get whipsawed, then there are going to be revisions and everyone's going to forget about that original headline.

Speaker 2:

I don't disagree with you and I would say, michael, that what's different now and again, I think one of the biggest changes of character we've observed is when the market went down on bad economic data. I think that was a big shift. Went down on bad economic data right, I think that was a big shift. The mentality had been the Fed's doing great, everything's good, inflation's coming down, economy's slowing. But the most recent sort of run, you actually saw the market kind of rotate lower on a bad economic print, which was very different. That was a different look, which is okay. Now we're nervous that the economic data is actually getting worse. That was obviously more of a jobs number.

Speaker 2:

I would say that now that we have sort of transitioned as a cohort of investors from confidence in the Goldilocks scenario, confidence that the Fed's actions are having the desired effect, now you're getting all the rumblings that obviously the Fed is way behind the curve and was not aggressive enough, and now it's obvious. That all seems obvious, I feel like at one point and it's completely unclear not too long previously, and so I think now that we're in the mindset of the Fed needs to start being aggressive. You're starting to see messaging relating to that aggression, with the Fed starting to lower rates. Maybe they lower 25, but now they're definitely going to lower 50 or however. The expectations have changed. I think that makes much more of a laser focus on that September meeting, about a month out from now. So I think it's going to be a lot of noise between now and then. I think that's where the proof is going to be in the point change well again.

Speaker 1:

Certainly, sector performance would suggest that they're late to the cutting cycle. Right, I will say, um, one of the more fascinating things to me about this is, I feel like, from a behavior perspective, everyone's lost their damn mind. Um, and that's in my professional cfa charter. No, no, really, because it's we. We went like wasn't soft landing. I thought that was the narrative, what Three weeks ago? And now that's gone, I mean, I and we went from they're going to gradually glide path wise. Lower rates 25 basis points per meeting. Now we might need an emergency rate cut if Japan gets even more out of control. Can we talk about just attention spans? You know? I mean, you've been in business for a long time. It's going to drive you crazy that people, just like increasingly, are just flipping their opinions in a second.

Speaker 2:

Yeah, two things I would say about that. I mean number one it's amazing how quickly the sentiment shifted right and we saw that in some of the sentiment data. You've seen that in terms of the general dialogue related to markets. And again, I feel like not too long ago the investment community was just super confident that this rise and exponential rise in growth stocks and the soft landing was an obvious foregone conclusion and it's just going to work. What I would tell you is that charts have been called the truth serum for the markets. One of my analysts at Fidelity, mark Dibble, shared that with me years ago and I love that one.

Speaker 2:

And if you look back at the charts, you can see, or if you look back at the data, you can see, how rarely it has been that the Fed has actually perfectly timed this sort of thing. And again, there's not a ton of observations, but I would not say it's been a. You know it should be a foregone conclusion that they're going to get something like this right. There's also a perceived you know. I think there's a lack of respect for the lag between actions that have fed governors that the fed governors would take and the actual market ratchet right. We assume that things are just going to happen right, like they lower rates and then the next moment everything's better. I mean it takes time when you're borrowing things and when companies need to raise capital and all these things they take time. So there's such a lag. There's a months and months and months lag between a little thing they would do and you're betting on reactions that can't even be priced in for quite some time. So I think now you're sort of everyone waking up and I think again on the left side of the bubble there were very clear signs of euphoria. I mean just the rise in certain assets, the sector I mean the dominance of a small number of stocks that were getting bigger and bigger, the general dialogue, assuming that this was going to be a pretty easy transition. I just don't see a transition like this as a particularly comfortable thing. What the Fed does and what we do as investors, interpreting the Fed is really easy when we're in a rate hike cycle and very easy when we're in the middle of a cut cycle. But in the transition it is very hard to time and very hard to anticipate. But again, for me, that's why following the trends are so meaningful.

Speaker 2:

And the other thing I would say, michael, if I can have a moment, is you mentioned the narrative, and I think narrative bias is just one of the most common behavioral biases that I've seen and certainly I think a lot of people are guilty of that in 2024. You have a particular narrative and whether that narrative is what happens when rates do a certain thing, or what the Fed will most likely do, or AI is the next, obviously is huge and transformational, or it's Bitcoin and blockchain or whatever, you have this particular narrative and you position yourself based on that narrative. All right, here's what's going to happen with the Fed, here's how they're going to do it and here's how I need to be positioned. The market never performs exactly what your narrative is going to be.

Speaker 2:

We're not, generally speaking, that good at predicting the future, so when things start to diverge from your narrative, it is very hard for us as individual investors, and even as professional investors, to admit that we were partially wrong and there was something we missed, or that something did not play out exactly as we want, and we way too often stick with our narrative as opposed to updating our narrative, updating our reality based on the market behavior right and updating it based on the changes in sentiment.

Speaker 2:

So for me, I think if you were caught on the wrong side of things here in the last month, go back. This is a perfect opportunity through the course of this year to go back and really look at some of the rotations we've observed. Think about what you saw and what you thought at an inflection point. What could you have looked at, what could you have observed that would have helped you understand that your previous narrative was no longer appropriate? But especially now, you find people very reticent to let go of a narrative that they're already buying into and particularly positioned for. You got to recognize when the evidence changes.

Speaker 1:

It's a question from Bruno. I'll show here. Uh, dave, slv and gold. Silver and gold came to test breakouts. Any thoughts to those setups and commodities in general? Thanks, man you.

Speaker 1:

I saw you actually post something about goal, about the message I'm always talking about well, I'm saying since, like, like, actually really technically, since october I've been saying gold is sending a warning. I was very loud about saying that in april. I'm saying it again now I I say that not to be overly dramatic, but gold is not correlated. So big players are clearly positioning there because they're worried about something.

Speaker 2:

But let's talk about gold and silver. No, 100% right, and what I've been found with money managers gold is an out-of-benchmark bet, right. So if you're owning gold, you are deciding not to own stocks in your benchmark and that's why a lot of them are very hesitant to do so, because you have to explain to a client or a shareholder. Here's why I'm owning gold in this portfolio. But, to be honest with you, the reasons why you own gold in a lot of ways I would argue the same reason why you own low volatility stocks like Consumer Staples or REITs or something like that it's because you don't want to own something else. And if you have capital that you have to deploy, but you want to be in a store of value. I mean, as much as we can debate the practical uses of gold, it is a pretty decent store of value and, to your point, a relatively low correlation to equities. And so, if you're concerned about equity downside, being in a relative safe haven like gold has been pretty good. And what's interesting is again the rally goal, the improvement in gold and silver, and I probably think of them two of them in a very similar way, probably too much. I should get a little more nuanced in my thinking, but I tend to just think of the precious metals trade.

Speaker 2:

I think those charts look particularly strong. I think watching gold appreciate and test new all-time highs during the dominance of growth stocks in the Magnificent 7, I think, was a really interesting sort of message earlier this year that maybe the underlying conditions were not as robust as they appeared, because again, gold rallies when other things are probably not. So I think the chart, to go from a technical perspective I mean incredibly constructive. If you look at the GLD what do you call it? Coil pattern a big rally in the consolidation right at new all-time highs that they could break just slightly above current levels really suggests much further upside from there. Full disclosure I own the GLD and and accounts that I manage and the reason is because I feel like again concerned about market downside, particularly with the seasonal weakness being something that's actually doing well and making new highs and gold and silver sort of fit that bill.

Speaker 1:

The retail sector has been a challenging one. I mean, other than Amazon, most retailers. Thoughts have gone sideways. I saw something about Louis Vuitton also showing some weak fundamentals recently, or revenue guidance, so I don't know if you can speak to this, but I'll put another YouTube question up here from Titus again, if you're taking requests apparently we are Can you look at Amazon? It's a strong base, but I'm concerned about jumping in here just in case the retail numbers come in soft. So I want to make this a little bit broader though, because if you're trying to make a trade based on some economic data, do you do that based on the biggest players that are closest to, in this case, the consumer, or do you say you know what? I'd rather take on a broad-based approach, use something like maybe an XRT equal-weighted retailer ETF, as opposed to Amazon as the quintessential play.

Speaker 2:

Yeah, I like that and that's exactly what I was going to suggest. I think, when you're thinking of the levers you can pull as an individual investor, for sure, you have individual stocks, you have ETFs, you have broad indexes and a lot of things in between. I'm kind of summarizing, but I think the actual lever you pull should be based on your conviction on a particular trade, on a particular theme, on a particular idea. The reality in retail, along with most stocks, we tend to think of them as one homogenous group. And, to be clear, some sectors are homogenous, right, like energy stocks, tend to, generally speaking, move together, although there's some differences, like pipelines and E&P stocks, but generally speaking, I mean they tend to move pretty close to the oil prices and if oil is doing well, then energy is probably doing okay. Consumer discretionary is actually a remarkably diverse sector probably one of the most diverse, I would say, along with healthcare, with a lot of different businesses and a lot of different things. And if you look at a heat map of performance over the last week or over the year to date, you will find in a sector like consumer discretionary a lot of green and a lot of red, because there's actually quite a bit of differentiation.

Speaker 2:

I think one of the traps we fall into right now is assuming that most stocks follow the S&P and the NASDAQ, which at times has been true. This is one of those times where it's actually not true at all, and you can tell by the fact that, even though the benchmarks have been coming down over the last month, even though the big names have, generally speaking, been coming down, there are a lot of stocks actually looking very, very good and actually in primary uptrends, I think, unquestionably still going higher. So I think right now, I mean, there's an advantage to being more of a stock picker. So when I would say looking at retail, I think it's all about where your conviction is. I tend to focus less on conviction and more on the conviction based on the charts and so recognizing when the charts are working. I'm going to want to be in those areas, regardless of what sector or theme they represent.

Speaker 2:

I would say, with retail in particular, the reality is something like the XLY is dominated by two or three names, right Sort of the Tesla, amazon, home Depot ETF and then a bunch of other things, which is why equal weighted ETFs, I think, are a really interesting place to be, especially now. Sometimes it doesn't make a whole lot of difference. This is one of those times where it definitely does, and I think an equal rated retail ETF is a way to play that theme. But not over-concentrate on an Amazon. There are enough things you can do that over-concentrate on the mega cap stocks. I'm looking for things that get you away from that.

Speaker 1:

It's an interesting question that maybe we can tie that into market analysis to sort of see if there's something to it. This is from Brad Horn. Please ask, dave, how likely is a soft landing and how wide is the runway? Now I want to tie that into the technical side because is there anything to suggest that the magnitude of outperformance, and maybe the thrust outperformance of consumer staples utilities, indicate the depth of a decline economically? Right, if they're supposed to be anticipating something about the economy, is there something we can gather in terms of the movement size itself?

Speaker 2:

Yeah, really interesting question, I think for sure. I mean for me sort of the way that I think of things technically is you have sort of the big picture analysis and think of it as like the macroeconomic feel right For me, sort of the way that I think of things technically is you have sort of the big picture analysis and think of it as like the macroeconomic feel right For me that's chart of the S&P, the NASDAQ, small caps. There are a couple of things you can look at and get a general sense of things. And then there are sort of the related things, sort of the inner marketplace looking at rates, looking at the dollar, looking at commodity prices and just seeing how they're all related non-US markets and recognizing the differences there. But then I would say you also have the ability to look at breadth conditions, looking at how many stocks are agreeing with what the benchmarks are doing, which right now is actually, while the benchmarks have been coming down, a lot of stocks, as I mentioned, are still in pretty good shape, which is why breadth conditions actually have not been very similar to previous stocks. They've actually remained quite strong even during this sort of initial pullback phase here, july into August, I would say, in terms of timing, a soft landing.

Speaker 2:

I think the other piece of that is looking at rotation, looking at the defensive sectors, as we mentioned, that have done quite well, recognizing that again, I think it's easy to draw conclusions about the markets by looking at the S&P right now. This is one of those weird times where I think you really have to go the next layer down and look at technology as a sector and see what it has done. That's really been the story in the last month. It's just the rotation away from mega cap growth. Looking at the improvement of defensive sectors and recognizing that that means a bunch of investors are essentially less and less pricing in a soft landing and continued improvement in those defensive sectors. Continue rotation to other sort of bond proxies in the equity space, I think sort of gives further and further confidence to the idea that a soft landing is less and less of a reality.

Speaker 2:

But I think what's really I mean, I guess, most encouraging as a primarily an equity and ETF investor is given what's happened right now. If you told me how things were going to play out and what the benchmarks were doing, I would probably say this would be a pretty rough time to be an equity investor because there are probably not a lot of things working and you probably have to be outside of equities to be in any decent position, like in bonds or gold or something, and while those are both doing well, there are plenty of stocks doing really, really well, and I think that's what's kind of counterintuitive. But very encouraging right now is there are stocks that are working. For now it's just been a general rotation to areas of the market that suggest further downside.

Speaker 2:

I think if this is to be a protracted decline and if a soft landing becomes more and more of a mirage for all of us, I think you'll see everything start to struggle a lot more and the relative performance of defensive sectors would probably still hold up, but in absolute terms you'll see things do a lot worse than now. That's why I think breadth indicators are actually really good to look at right now. They've remained quite strong. If they get negative, that would be a pretty good argument for a much further downside and a protracted decline for stocks.

Speaker 1:

You had sent me a note saying If the market didn't indeed top in July, it would be unusual. Now I actually did this study a year or so ago. About 8.3% of the time, going back to the 20s, the S&P tops in July. Now that happens to be 1 in 12. That's not why it just happens to be 1 in 12. But it's not that. It's just when you actually look at it. June is the only month where you've never had a top intra-year of all months.

Speaker 1:

If we are headed for a recession, it would make sense that you probably peaked in July, because markets are supposed to anticipate things six, nine months out. But this point about it being unusual, you kind of alluded to it a little bit earlier. Some things are now starting to be in an uptrend. Yep, I guess the question is, when we say the market, it goes back to which market? Because, as you know, stocks have not really participated to begin with. So is everyone being fooled by the S&P here? And could it still be a bull market in everything else around the S&P for once?

Speaker 2:

That's an awesome question. I would argue that's probably the question for 2024 is trying to understand that. The points that I was making, michael, was if you look back at major market tops from a technical perspective, I have kind of a bull market top checklist seven things I'm always looking for and while no top is exactly the same, there are some similarities with a lot of major tops and there are two that are really thought of as leading indicators and, very interestingly, in 2024, we experienced neither of those. The first would be a rotation down in breadth, if you think of the 2007 peak. To go back in a little market history here, if you think of early 2007, things were actually still pretty good, right, and most things kind of going up. And toward the end of 2007, a lot things were actually still pretty good, right, and most things kind of going up. And toward the end of 2007, a lot of things were rolling over but like a Pepsi kind of Walmart stock was still making new highs in the third fourth quarter, right, like in October, they're probably still going up and eventually, of course, that's the financial crisis and everything rolls over, but toward the end there's a small number of more defensive things that tend to still work, which is why breadth conditions come down, because a lot of things are already rotating lower. A lot of smaller cap names are breaking down, but sort of the big defensive blue chip things are still working. You really didn't have that here because kind of everything was the blue chips were the only thing that I felt like was working for a while, but then everything else started to improve and coming out of that April market low you sort of saw these breadth conditions get really really positive. So breadth was actually very positive in July, mid-july, as opposed to the average major market peak when breadth would be a lot worse because at the end of a sort of accumulation phase people are kind of rotating out of those winners and, as a result, the major benchmarks start to roll over the momentum, sort of hints that things are a lot worse than the price itself would indicate, and then we tend to have a top. We did not have any divergence, market was actually showing quite strong momentum.

Speaker 2:

I would attribute all that to the very unusual and not unprecedented but certainly less common example of what happened in 2024, sort of the dominance of the Magnificent Seven trades. Weird things happen when the mega cap stocks dominate to the degree that they did when there's such a top heavy concentration, when the 10 biggest names are the same as, like the bottom 425, 450 names in the S&P and on a cap weighted version, that's how much these things dominated. So as these things rotated lower, the major benchmarks rotated lower aggressively. But again, if you look at a heat map of year to date returns, you'll find quite a mixed results. Look at the heat map of the last month You'll find quite a bit of mixed results and a lot of green, a lot of things actually doing very, very good. It's just that things that have not done well are the things that are the biggest weight.

Speaker 2:

So that's a long-winded way to say yes. I think looking at the S&P and just leaving your analysis at that is a very narrow view of the market conditions right now. A lot of times that'll get you by just fine because stocks, generally speaking, are following the benchmarks. Now I think the way that the concentration was so magnified and the way that things have rotated, with other areas of the market again doing quite well and I mean like mondaycom making a new 52-week high today on earnings they're out there, stocks are out there doing fine. I think again. To be an astute investor in August of 2024, you need to go layers below and you especially need to get to the sector industry stock level to recognize that there are shifts that are happening that the major banks really are demonstrating very effectively right now.

Speaker 1:

I'm curious to get your take on long duration treasuries. I saw trending today on Seeking Alpha that some of these long duration treasuries look like they're on the verge of a breakout. And it's funny because when I think about bonds I tend to not think in terms of technical analysis formations because it's about getting pulled to par. But long duration treasuries are maybe a different animal because they can have volatility that's akin to equities. What's your take on duration risk here?

Speaker 2:

Yeah, so it's interesting to me. I mean, I guess what I would comment looking at the bond market is it's been so easy for investors to not think about bonds as a legitimate place to be for a while now, particularly as an individual investor. That 60-40 allocation has not been a particularly effective strategy recently because stocks have so dominated bonds over time and certainly in recent history. But going back, obviously that's sort of unusual. Generally speaking, there are times when bonds and the correlations are much different, where stocks and bonds sort of move inversely to one another, and so that tends to work. This is actually, if you look at the last month, 60-40 allocation did pretty well because bonds are actually starting to improve.

Speaker 2:

If you look at just a simple ratio, what I like to do is follow the simple ratio of the SPY and the TLT.

Speaker 2:

That ratio has been in a primary uptrend for quite some time. So, while I agree with you, I probably would not do technical analysis on individual bonds or really interest rates to a degree. I don't think that's a right area for technical analysis. I would say, looking at performance ratios, looking at stocks versus bonds, stocks versus gold banks versus regional banks, hotels versus utilities a bunch of ratios that help you really understand changes in expectations, changing in relationship, expectations for economic growth or the lack of that and I would say, the fact that that stock to bond ratio has dramatically broken down. That ratio is below its 200-day moving average for the first time in probably three, four years plus. That's meaningful and so I think, recognizing that that ratio has been in one particular phase for so long, what happens is a lot of investors sort of forget that it could go the other way and I think, as it has started to, a lot of people are caught underweight bonds and underweight that area of the market, same like they're underweight gold, when they probably shouldn't be. So for now, I think that ratio has rotated lower rates, certainly from a trend perspective, I think, continue to come down and think overall bonds are probably a good place to be, certainly if you've been underway for too long.

Speaker 1:

So about trading strategies, because, if indeed things are going to get more interesting, there's a lot of different ways of executing. I am very allowed in being anti-short because you get whipsawed in high volatility environments. That's why a lot of these inverse funds actually lose money in a prolonged bear market because of the seesawing up, down, up, down, up down. But I'm curious from your perspective. If you're negative on equities or you're nervous outside of being long utilities and gold, is there anything else that one can do? That's not terribly dangerous.

Speaker 2:

So I love your point there on the general benefits of being short. I would argue there are very few of them, particularly on the longer term timeframe. Being short is great as a short term strategy. There's a lot of money to be made playing potential downside on a tactical timeframe. Being short is great as a short-term strategy. There's a lot of money to be made playing potential downside on a tactical timeframe.

Speaker 2:

I'm in my office office, in my home office. One of the charts that I have on the wall behind me is just the long-term trend in the equity markets in the US for a hundred some years, and what you have to remember is if you're shorting equities on any long-term timeframe, anything over a couple of weeks, you are fighting centuries of history of equity markets growing. And the equity markets grow because the global economy has generally been growing, population's been growing, things are getting bigger and faster and better, generally speaking, with some counter-trend moves along the way. But when you're short for too long, it's highly likely you're going to be wrong. The other thing I would always say about shorting is it's great, but you have a limited upside right, because when something theoretically would go to zero, you're pretty much done Again. You can do well if you're in the right side of that, but you're limited. Being long equities number one has been a much better long-term strategy and has much better potential upside, because it's theoretically unlimited right, because we continue to go higher. So what do you do in this environment? I think remembering your timeframe is really important. Then again, going back to sort of investor psychology, I think a lot of times during this sort of environment, investors that are longer term immediately become shorter term, probably unintentionally, because they think, maybe correctly, okay, the market's going down. But this is one of those things we would say you got the market call right, but you didn't get paid for it. So thinking of what that means for your portfolio, think of what your investment horizon is and what sort of move this is, I think is very, very important. The long-term trend in stocks is still quite good and I would say nowhere near not good. I mean, the move that we've had is a short-term, what I call a tactical pullback within a long-term uptrend. Right, look at a monthly chart of the S&P to see how the trend is still totally fine on longer-term timeframes, given what you may see as a month or two move to the upside or the downside. So, recognizing the chart you're looking at the time frame you're looking at and defining your position as a result of that, I think, is important.

Speaker 2:

I've tended to use inverse ETFs as a good way to play a tactical short side on things, but I'm not a fan of using shorts. I don't use options at all. If I did, I'd probably use some option strategy similar to that, but in an individual's portfolio. I think using inverse ETFs on a limited basis and with clearly defined risk parameters, I think could be a pretty good way to do it. Again, I think being wrong is okay. Staying wrong is not okay, and so, if you are going to be short, have a very clearly defined exit strategy. What would the chart tell you? What I ask myself? What would the chart tell me? How would the chart tell me that I'm wrong? And recognizing what that level is, putting it very clearly defined in your trading journal, on your chart, so that you don't fight when the evidence changes against you.

Speaker 1:

Maybe for the last few minutes, dave, just because you had mentioned it before behavioral biases, the ones that are probably most prevalent in today's environment. To me, I think of recency bias and I think of confirmation bias, being the two most prevalent. But has there been, over time, sort of certain biases that are more in the psyche of investors and traders in the moment than now, or are there usually the same types of biases that you see throughout time?

Speaker 2:

Oh, really good question, and I would tend to agree with the ones that you mentioned. Those are pretty common and the narrative bias that I mentioned before, endowment bias is probably one of the most common right about now, which I'll get to that in a minute. Are biases more prevalent in certain markets? I mean, I would tell you, for me it's about the market phase, right. I mean, people have said don't confuse brains with the bull market. Everyone's a genius in a bull market.

Speaker 2:

The way I've sort of thought of it, it's very easy to get away with a lot of bad habits. When everything's kind of going up right, when market conditions are good, when the average stock is doing fine, when your portfolio is doing well. We tend to attribute that to our genius as stock pickers. We're such a great investor, I'm so good at this. Look at how my portfolio is growing. What you have to remember is when the market starts rolling over, that's when all the bad habits all of a sudden are magnified. So things you could have gotten away with, like confirmation bias, which is just ignoring bearish evidence, and you just remain bullish as an example, or a narrative, like you're tied to this particular narrative. As long as that narrative keeps working you're not getting any contrary evidence to ignore. But when things rotate, that's when anything you could get away with in a bull market all of a sudden becomes a huge burden.

Speaker 2:

And I would say the one that is probably most prevalent now, which is not as much in a bull phase, is called the endowment bias. And that is essentially where you have an emotional attachment to something, and it's not just with investing right. It could be something that you have, something that's very, you know, a meaningful personal thing. You have in your garage, something that's in that special box and you would never get rid of it because it has meaning to you. But it has extra meaning to you because of your emotional attachment to that thing. It brings back memories or good feelings or something. We actually do the same things with our portfolio. It's well documented that we think of things that did so well for us right. Home Depot is our best stock and it's just been absolutely crushing it. Nvidia may be a good recent example where it's like you can do no wrong because NVIDIA keeps growing and growing. All of a sudden NVIDIA is down 5%, 10%, 20%. We tend to avoid unwinding our NVIDIA, even though the chart would tell us. The market would tell us this is no longer something helping our returns right about now, or at the very least, we should be lightening up what has probably become a huge overweight in a gross stock like NVIDIA. Instead of that, we ignore it. Because of our emotional attachments to that position, we now identified as an Nvidia holder and that's one of our stocks.

Speaker 2:

And so the way that you fight that is by having documented and consistent routines of analyzing the markets. I have what I call a morning coffee routine that I do first thing every morning. I do a weekly chart routine. Every week. Over the weekend, I do a monthly chart routine. I usually do the first day of every month, and the charts and the techniques are pretty much the same every day, every week, every month.

Speaker 2:

And the reason why I've set it up that way is because the way that you recognize the evidence has changed from supporting your portfolio or your thesis to completely disagreeing with your portfolio or your thesis is because you have a regular process of evaluating that data, and then it's really clear when things change. And so for me, writing it out, doing a video and just saying here's what I'm seeing and here's what I'm thinking and here's why and here's how I'm positioned when the evidence changes, it's really easy to recognize that that has shifted. The way you unwind something like endowment bias or confirmation bias or narrative bias is all about recognizing when the evidence has shifted, and I think that's where investors are probably underweight. We're overweight ideas and themes and narratives. We're underweight raw evidence that the market provides back to us in terms of price action and when the prices, when the market no longer supports your position, that is your sign to get out of it.

Speaker 2:

And as I alluded, I mean, I think, one of my favorite quotes it's okay to be wrong, it's not okay to stay wrong, and that's my fidelity days, that's something we would always talk about with your portfolios. You're going to be wrong a lot, probably more than you want to be. What differentiates the really successful investors from the not so successful ones are the really successful ones are a lot of times wrong as much, if not more, than others. They just know how to admit that they're wrong and cut their losses and move on and when they're right, stay right as long as possible. So I think the evidence again has shifted for a lot of positions and recognizing that shift is the game for investors.

Speaker 1:

As we wrap up, Dave, for those who want to track more of your thoughts, more of your work, where would you point them to?

Speaker 2:

Yeah, this was fun, michael. Thanks for inviting me, thanks for doing this and thanks for doing the show. Yeah, I'm on X at D Keller CMT. I try to share not nearly Michael Guy level of content, but a little bit as much as I can get to every day. And then I host the Closing Bell Show on StockChartsTV, which is our YouTube channel, so you can find me there as well. And marketmisbehaviorcom is my website if you want more info on my process and things that I do to help investors improve their decision-making.

Speaker 1:

Everybody give some support to David. I appreciate those that watch this live. I will have this as an edited podcast under Lead Lag Live on all of your favorite platforms and hopefully I'll see you tomorrow. We've got another two or three lined up, so thank you, david, appreciate it. Cheers Michael, thanks, cheers everybody. Thank you.

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Michael A. Gayed, CFA

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