Stocks Are Getting Bought, but Not Overbought Yet

To teach a kid a lesson, keep it simple. Tell him in plain language what he did wrong, and give a simple punishment that fits the offense. Right? Throw the ball in the house and break something, you clean it up and work to replace it. 

Adults make it complicated. We have a convoluted legal system with infinite loopholes and even more shades of gray. So it’s funny to hear about an adult getting a kid’s punishment. In 2012, a Cleveland woman made the obvious bad choice to “go around” a stopped school bus. Instead of just giving her a ticket, the judge ordered her to stand at the scene of the crime with a self-made sign for two days. It read: “Only an idiot would drive on the sidewalk to avoid a school bus.”

Simple right? So, how many times have you had to say: “let me break it down for you?” Simple direct language does the trick. As a writer, I’m often guilty of “too many words.” It makes the reader miss the message. All day, every day, the financial media debates bull or bear. They have people on who think the world is ending or just getting going. But no one just tells it like it is. But I will: 

  1. Markets are going up because of big buying.
  2. This is happening in growth industries.
  3. It will continue to go up until the sellers show up.
  4. They aren’t here yet, so the party will keep going.

Here are the details. Starting at the top, the Mapsignals Big Money Index (BMI) measures huge trading in stocks and exchange-traded funds (ETFs). It looks at 5,500 stocks each day for above-average buying and selling. Signals happen on about 100 stocks a day – less than 2%. But this 2% is extremely powerful and drives markets. It’s like 2% of the population holds 90% of the wealth. Or 2% of pro athletes dominate all the stats. The truth is: this the juice is in the outliers.

So, when I see big unusual stuff happening within the unusual stuff, I must pay attention. It’s like when LeBron James is outplaying LeBron James! The BMI is at 72.5%. This means that 72.5% of all big trading signals are buys. It’s measured on a 25-day moving average to keep it smooth. This is a lot of buying, and it makes sense that markets would push higher. When demand outstrips supply, we all know that prices go up. 

If you’re worried that markets are overbought and will fall, don’t be just yet. Based on decades of our data on thousands and thousands of stocks, 75% is when we start getting overheated, and 80% is officially overbought. The sellers come to town thereafter. It can be the next day, or weeks after, but they always come. We’re not overbought yet.

It also matters where the buying is happening. If buying was all utilities, telecom, and staples stocks, it shows that investors are defensive. Those are “safe-haven” sectors where investors look for lower volatility and higher dividend yields. It’s the blankie and pacifier trade – and it’s usually when the boogey-man comes.

There’s no boogey-man in sight because big money is buying juice. Health care saw explosive buying last week. Discretionary consumer stocks got bought bigly too. Tech and financials also saw healthy buying.  

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Let’s dig down another layer and see what industries are juicing. We talked about software last week. It’s still getting bought. 

Health care saw 106 buy signals. In fact, it’s the biggest health care buying we’ve seen since summer. I wanted to see what buying like this means for the sector. I went back three years to see prior instances. The left chart shows net buys to sells for health care. If there is more buying than selling on a day, then there’s a green bar. More selling means a red bar. See how it’s picking up recently?

The table on the right shows what happens after we see buying like this. There were 14 prior times with multiple days of 20-plus health care buy signals per day. The average forward six-month return for the Health Care Select SPDR Fund (XLV) was +4.3%. Of those instances, 78% (11 out of 14) were positive with an average XLV six-month gain of 6.1%.

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You should know that 40% of the health care buying last week was biotech. So similarly, I wanted to look at unusually large buying in the industry group of biotechnology. The chart left is a little different than above. The green bars show periods when buying in biotech is 1.5 times bigger than average. The table on right shows the 12-month forward returns of SPDR S&P Biotech ETF (XBI). Of the seven times, five were positive with an average return of 5.9%.

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Often, it’s better to just hear it like it is. Like when a (judge confirmed) idiot jumps the curb to avoid a school bus. Ahead of a quiet week, there is stuff going on we need to know. Buyers are here, and I expect higher prices. When we overheat will be the time to lighten up risk. Keep it simple. Like Einstein wisely said: “Everything should be made as simple as possible, but not simpler.”

The Bottom Line

We (Mapsignals) continue to be bullish on U.S. equities in the long term, and we see any pullback as a buying opportunity. Weak markets can offer sales on stocks if an investor is patient. 

Disclosure: The author holds no positions in any stocks mentioned at the time of publication.