The US stock market saw a violent rally off its recent lows, before reversing on Friday.
This comes right after the market printed some of the most oversold conditions we’ve seen since 2020.
A market relief rally was almost inevitable following these kinds of extreme oversold conditions.
Even in February 2020, with a pandemic spreading and global economies shutting down, the stock market rallied by 10% following extreme oversold readings.
The million-dollar question now is:
Will today’s stock market show enough strength to undo the damage it did during this sell-off?
The S&P 500 has broken below all of its key moving averages, along with some very important levels of technical support.
So as traders, we cannot have the same approach here as we had in all the recoveries throughout 2024.
In all previous cases, it was likely the index would recover back to all-time highs.
Now that the market has broken down below these structures, we have to consider the possibility that sellers could take control.
We’re watching 3 big risk factors that are influencing our positioning at Bravos Research today.
The first will determine the depth of the correction we should expect: the risk of a recession.
Factor 1: Recession Risk
We’ve been seeing recession headlines left and right since the beginning of the year.
The most efficient way to assess whether these fears are justified is by looking at the bond market.
Bonds give us a much deeper understanding of what is truly happening in financial markets, beyond news headlines from media outlets.
US government bond yields are currently at the exact same level they were at in late 2022.
This means we’ve been in an environment with relatively stable economic conditions, at least from a financial markets perspective.
We haven’t seen big jumps in bond yields like in early 2022 (due to hot inflation), nor significant declines like in 2020 (due to recession).
Over the last few months, bond yields have been essentially flat, not reflecting major recession concerns from bond investors.
This contrasts sharply with past recessions.
In 2008, bond yields moved aggressively lower in the months heading into the great financial crisis.
The same pattern occurred before the 2001 recession…
Bond yields moved down in the months leading up to it.
Today, that’s definitely not the picture the bond market is painting.
This is further confirmed by looking at government data.
Total employment in the US economy has continued to grow steadily over recent months.
Typically, heading into and during economic recessions, you see the job market roll over.
That’s when things get more dangerous for S&P 500 performance.
You see, the stock market’s performance is generally tied to the strength of the job market.
A deterioration in the job market would make us more worried about a significant correction in the S&P 500, similar to 2001 and 2008.
But we’re not seeing evidence of that right now.
On the other hand, stock market corrections that occur outside of economic recessions are typically fantastic opportunities for investors to buy the dip with a 6-12 month horizon.
So yes, the stock market is at a discount right now.
Given we don’t believe a recession will happen in 2025, we think by year-end this will have proven to be a buying opportunity.
Naturally, we want to emerge from this correction with a higher allocation to stocks than we had going in.
However, in the short term (1-3 months), we have to consider 2 other factors to be prepared.
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Factor 2: Tariff Policy Risk
While the current sell-off might not be driven by a real threat of recession, there is a justified explanation for this volatility – the current administration’s tariff policy.
Uncertainty on economic policy has spiked to the highest level since the COVID pandemic.
Eventually this will subside, likely making this a buying opportunity for stocks.
But there’s absolutely no guarantee we won’t see additional uncertainty before all of this cools down.
This brings us to one of the key indicators we’ve been watching closely: homebuilders.
Homebuilders are an exceptional leading indicator of the market and are particularly sensitive to Donald Trump’s tariffs, as we recently covered.
They began underperforming following Trump’s election as investors priced in the impact potential tariffs could have on lumber from Canada, which would affect the US homebuilding sector.
This underperformance foresaw the market decline ahead of time.
One thing we wanted to see on this stock market bounce was a big outperformance in homebuilders, suggesting concerns around tariffs are dissipating.
We haven’t seen that yet in the recent move up.
If anything, homebuilders have continued to underperform despite the recent stock market rally.
To us, this suggests that the tariff concerns behind the initial correction have not been resolved yet.
Factor 3: Technology Stocks Risk
The third key risk we’re watching is something flying under the radar for most investors because of the noise around tariffs: technology stocks.
For context, the top 10 stocks in the S&P 500 currently make up 37% of the index.
The average going back to 1990 has been around 24%.
We’re in a situation where a few extremely large technology companies make up a disproportionate part of the market, and there’s evidence this might be unwinding.
The technology sector’s performance relative to the S&P 500 showed impressive results in 2023 and early 2024, but since then, it’s been slowly rolling over.
The overall trend has shifted from upward to generally downward.
The last time we saw something like this was in the first half of 2022.
One risk in today’s market is a steeper underperformance of technology stocks relative to the S&P 500.
If this happens, it wouldn’t be great news for the overall US stock market stability in the near term.
Historically, the S&P 500 tends to follow tech’s lead.
However, if this does play out, it could present an attractive long-term opportunity to re-enter technology at more relatively cheaper valuations.
Our Current Strategy
Overall, we believe this is a buying opportunity for stocks.
But, seeing another dip down and a generally choppy market in the near-term wouldn’t surprise us.
That’s exactly why we currently have a diversified portfolio of trades at Bravos Research, like:
- Gold
- Chinese stocks
- Energy companies
- Utilities exposure
All of these have been extremely resilient in the recent sell-off and could continue to perform well in the short term.
We still have exposure to US stocks, of course, but we’re being a lot more selective in the names we’re adding to our list.
The goal for us in 2025 is to achieve similar or even better performance than in 2024.
Last year, we had a total of 85 winning trades (out of 129) at a 16.65% average gain.
On the losing side, we had an average loss of under 4%, helping us to significantly outperform the S&P 500.
Our real-time Trade Alerts are concise and include all necessary details:
- Long/Short position
- Allocation weight
- Entry and Stop-loss levels
- Reasoning for the trade
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