This could be the week the market actually powers higher with conviction but it could also be the setup for a needed decline. Whichever outcome we get, it should be exciting or at least set us up for some excitement ahead.
The most volatile six weeks of the year begin the week after August option expiration, which is next Friday. The lows for the second half of the year are typically made in September and/or early October with the latter half of October positive ahead of a normally strong November.
As we close in on Q4, fund managers are going to have to make some decisions. Those decisions will begin to be implemented almost immediately after Labor Day. Right now, those managers are cramming the rest of their vacation time into the last two weeks of August.
The decisions they will need to make are what stocks do I need to sell to raise cash, how much cash should I keep on hand and what positions do I want to add for the normal Q4 rally.
With the markets moving slowly sideways at historic highs they will have to decide which stocks have peaked and therefore become sell candidates and which have bottomed and have become buy candidates. They will also decide which momentum stocks they want to add to give their portfolio some momentum going into year end. This is window dressing for the longer term.
The reason September is so volatile is that October 31st is the end of the fiscal year for most funds. That means they need to execute their portfolio restructuring in September and early October. The stocks they have in the portfolio at the end of October is what they report in their yearend statements and advertising promotions.
This is why market activity picks up after Labor Day. It is back to work but far from business as usual. It is the most active six weeks of the year for fund managers.
The three major indexes have traded at new highs over the last week but none of them are in breakout mode. They are moving up very slowly and consolidating after every minor gain. Investors have no conviction the rally will last but they are willing to buy the minor dips. The bears have gone into early hibernation. There is no conviction on the sell side either.
Volume is very low with only 5.5 billion shares traded on Friday and only about 5.9 million for the daily average all week. Friday's volume was the lowest since New Year's Eve.
The S&P gained a whopping +1 point for the week, the Nasdaq +11 and the Dow +32. That is hardly an exciting performance. The four weeks of consolidation at the highs is about over. The low volume and low range sideways movement is a compressing spring. We are getting ready to head in some direction at a high rate of speed but that direction is unknown.
Technically the overbought markets have actually consolidated in place and the overbought conditions have faded. The momentum indicators are fading as well, which would seem to suggest the next direction is down.
However, the dips are being quickly bought despite no real momentum to the upside. The normal seasonal weakness has yet to appear and this is confounding traders.
The S&P closed at 2,184 with initial resistance at 2,187 and support at 2,175. This is a tight range and a breakout to either side could trigger a follow on effect where traders move in the direction of the trend.
The Dow has three lines of converging resistance at 18,600 so the path higher is going to be a struggle, but not impossible. If we could get a dip back to 18,000 before the end of September that would be a great launch point for the end of year rally.
The Nasdaq is only 14 points above the July 2015 high at 5,218 so it is far from a breakout as well. It is a new high but a cautious one. The biotech sector and the chip sector have been the biggest supporters. Now that Nvidia has reported earnings we could see the semiconductors rest and take profits. The biotechs have completed their monthly bout of profit taking but I am not sure they are ready to rally again. There are far too many of them in self destruct mode including VRX, MYGN, GILD, etc.
The Nasdaq futures are up +8 on Sunday night so anything is possible.
The Q2 earnings cycle is fading. There are only three Dow components left to report and CSCO, AMAT are the tech highlights for the week. We have mostly retail stocks reporting and those have been a mixed bag this cycle. Last week we saw some retail upside with Macy's and JC Penny's but we need to see that continue this week.
The economic calendar will be focused on the FOMC minutes on Wednesday and the Philly Fed Manufacturing Survey on Thursday. The Fed's Jackson Hole summit the following week always seems to move the market because of the number of banking officials all gathered in one spot. News headlines always seem to erupt.
I continue to be cautiously long while the indexes are making new highs. We have closed about a third of our positions over the last two weeks and we could lose some more if the market weakens. However, in order to have good entry points for the next cycle we need to see at least a minor retracement in the market. It is not fun. It is like going to the dentist. It is a necessary evil and you always feel better a day later and ready to face the world for another six months .
I recommend keeping your stop losses tight and plan to reestablish positions on any September dip. Market lows for the last six months of the year tend to happen in Sept/Oct. Remember the Boy scout motto, "Be Prepared."
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