What is a Risk-Off Situation?

Stick with me for a minute. There’s a little intro story that goes with today’s market outlook that puts things into perspective.

This might sound a little bougie, but I went to the club this weekend to play some golf and watch The Masters in the clubhouse.

After a quick nine and a score that would have qualified me for The Masters (if you used my score as a full 18, not nine), I drove my cart to the clubhouse, excited to catch the last few hours of the tournament. I didn’t get to watch much.

“Hey CJ!, Come on over here!”

I made my way over to the patio, where a friend of mine immediately dove into the conversation with the market.

“What the hell is going to happen here? Should I sell everything? My wife is going to kill me.”

I think the last part was because he was supposed to be home knocking things off his “honey do list,” not golfing and drinking on the patio… also not my problem.

He’s an engineer, so he can hang with my market talks easily.

“Matt, we’re already seeing a good old-fashioned risk-off situation,” I said.

“It’s going to take the market for a ride, but it’s also going to create a great opportunity to buy some stocks on sale. As a matter of fact, it’s going on right now as we’re sitting here.”

I pulled out the phone and pulled up the quote and chart for Bitcoin (BTC). On Sunday, Bitcoin had dropped 13% from where it was trading during market hours on Friday, before the attack.

“That’s your first sign Matt, we’re looking at about 5-7% worth of selling pressure on the S&P 500 or Nasdaq 100 next week.”

That’s the risk premium coming out of the market.

I’ve always told people that the market is driven by speculation, not fundamentals. It’s poetic that we’re in the beginning of earnings season because my theory is going to stand a good test.

The “fundamentals” are rolling in this week. Earnings on the banks, transportation, industrial companies, they all start coming in this week. They could all be great, but the fact that the market is now assessing the risks of rising geopolitical risk is going to trump the earnings.

Forget about it if we get some bad reports on top of the risks, that’ll pull the market 10-15% to the downside.

Back to the Bitcoin chart, because it’s going to tell you what you need to know.

btc chart

Sunday’s lows tested the $62,500 price level for the cryptocurrency. This has been the “bottom” for Bitcoin since the beginning of march.

Here’s the catch.

Bitcoin is facing its “halving” on Wednesday. This event is rumored to increase demand, meaning that we will have an implied “bid” in place for Bitcoin.

For that to be derailed by the geopolitical “risk-off” trade would be key and critical for the market in terms of the broadening of current selling pressure.

A glimpse into the equities market’s version of a risk-on asset like Bitcoin is the Russell 2000 Index’s ETF (IWM).

iwm stock chart

Not coincidently, the IWM broke through its 50-day moving average just like Bitcoin last week. The IWM is also sitting on the $200 price level, which has been the bottom for the small-cap index.

Let me say it one more time… A risk-off event will derail the strongest fundamentals, so this is what you watch this week, not the bank earnings.

Though earnings will provide the backdrop for a strong recovery rally that is likely to kick in once the fear factor in the market drops.

Let me round it out for you with a bottom line.

Your critical levels over the next week:

  • Bitcoin @ $62,500 – a break below this level will increase panic selling in the crypto space, which is a great proxy for the equities market.
  • Russell 2000 ETF @ $200 – Round numbered support and the ETF’s bullish 50-day moving average will add some buying support, but a move lower from here will also mean that investors are heading to the hills.
  • The VIX @ 18We talked about this on Friday, a CLOSE above 18 means this market has crossed the line into a fear-based trade which means we’re heading lower, period!

My best approach to managing risks of a market like this is to raise cash by cutting back on profitable positions and preparing the list of stocks that I want to buy when the VIX spikes.

More aggressive traders will protect their portfolios with protective or speculative puts on the IWM or Nasdaq 100 index.

About the Author

Chris Johnson (“CJ”), a seasoned equity and options analyst with nearly 30 years of experience, is celebrated for his quantitative expertise in quantifying investors’ sentiment to navigate Wall Street with a deeply rooted technical and contrarian trading style.

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