Since I wrote about the 2019 forecasts last week and how it was a difficult year for predictions, I thought it made sense to make a few predictions for 2020 this week. It also helped that I was already doing some research for Seeking Alpha and their year-end discussion on 2020.
Looking at the chart of the S&P 500, we almost have the opposite scenario that we had last year. At the end of 2018, the index had fallen sharply and was hitting oversold levels we hadn’t seen since 2015. Now the index is overbought and the indicators are hitting levels not seen since early 2018—right before the trade war started.
If you recall, I was bullish for the first quarter of 2019, but I thought the rally would fade when the long-term moving averages came in to play as resistance. The resistance never materialized and the S&P blew right back through the 104-week (two years of data) and 52-week moving averages.
Now we are well above those two moving averages and I am a little concerned that we may see a pullback in the first quarter of 2020. The sentiment indicators for the overall market are skewed toward the optimistic side currently, but they aren’t at alarming levels. If the market continues to rally over the next few weeks, the indicators could approach the levels that I consider alarming.
In this case though, I would think a first-quarter pullback for the S&P would stall at the 52-week moving average. This time the trend line would act as support. We saw the index pull back to the 52-week back in May and then the rally resumed.
The chart above is one I have shared with my subscribers over the past few weeks and it shows how the S&P has moved above a trend line that had connected the highs from the last few years. That is another reason I think we see a first-quarter pullback in the overall market.
As for sector outlooks, I was going through my list of preferred stocks over the weekend and the two most represented sectors at this time are financial stocks and tech stocks. My investment philosophy includes using fundamental, sentiment, and technical analysis and the list of preferred stocks are ones that meet the fundamental requirements I have for stocks. My belief is that the fundamentals tell us what stocks to buy while the sentiment and charts tell us when to buy.
So that list of preferred stocks is simply a list of stocks that meet the fundamental portion of my process, meaning that, in my opinion, the financial sector and tech sector are displaying some of the best fundamentals right now. As of December 16, these two sectors are the two leading sectors so far in 2019.
To get a little more specific, two industries within those sectors really stood out—banks stood out in the financial sector and software companies stood out in the tech sector. Since the beginning of 2019, the bank ETF has performed very similarly to the overall financial ETF. The software ETF has lagged the overall tech ETF as the semiconductor industry has been more of a leader this year.
Obviously I recommend that investors have a plan in 2020—I always recommend having a plan because you need to be ready to make changes should the market and economic environment change.
Here are some basic rules investors can use to help protect themselves from bear markets.
- If the S&P 500 breaks below its 52-week moving average, lower your equity allocation by 5-10%.
- If the 13-week moving average for the S&P makes a bearish cross below the 52-week, lower your equity allocation another 5-10%.
- If the 52-week moving average crosses bearishly below the 1o4-week, lower the equity allocation another 5-10%.
What these changes can do is protect you from a big downturn in the market. If we look back to 2007, investors would have lowered their equity allocations in November 2007, at the end of 2007, and again in July 2008. Taking these actions wouldn’t have completely protected investors, but it would have shielded them from the really big drop in late 2008 and early 2009, at least to some degree.
If the breakdown never materializes as we saw at the end of 2018, that’s okay, you would have still had some exposure to the market as it stormed back. We never really know when a bear market is going to hit and when it is a fake out. I would rather take some actions to protect my portfolio and be faked out than not take any actions and then get crushed.
This is the approach I take with my own portfolio and it is what I recommend for my subscribers as well as my friends and family.