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Sometimes, my charts make me feel like Jekyll and Hyde.
The forces of macro liquidity tell us that the stock market (and the bond market too) are likely to top out and head into a bear market beginning in Q1 2018 or shortly thereafter. But this week the S&P 500 broke out above 2,600. Technical cyclical analysis suggests that prices could be headed much higher.
So which is it? Are stocks the next Bitcoin? Or are we staring the bear in the teeth?
How can we reconcile these apparently conflicting views that are coming from the two prongs of my analytical work? Maybe... there really is no conflict. (Cue suspenseful music.)
Here's what you need to know to take advantage of what this market is likely to hold in store for us in 2018.
The Market Is Set to Make New Highs Before the "Liquidity Drain" Begins
First, as you know if you've been following these reports at all, the forces of monetary policy and liquidity will be hostile to the markets in 2018. The Fed's program, which it calls "normalization," is designed to reduce the size of its balance sheet.
That program will literally take money out of the banking system and extinguish it. It means that the Fed's primary dealers, who own and run the markets for their own benefit, not yours, will have less cash available to buy stocks and bonds.
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At the same time, the supply of stocks and bonds will constantly increase. The U.S. Treasury and other governments around the world will continue to issue bonds to finance their deficit spending. By the same token, corporations that have been buying back enough of their own stocks to keep the supply of stocks from growing will do less of that. They might even start issuing stock on balance again to take advantage of these insanely high valuations.
In short, there will be less money around to buy stocks and bonds. But the supply of stocks and bonds will continue to increase, and with prices so historically high, issuers may even step up issuance. The bottom line is that the demand for all kinds of securities will shrink because there will be less money around. And supply will increase as issuers take advantage of high prices.
Assuming that the law of supply and demand hasn't been repealed, we can expect the trends of stock prices to reverse and turn lower next year. As the Fed ratchets up its draining operations to $50 billion per month in October 2018, and the ECB cuts its QE purchases beginning in January 2018, the forces of liquidity will become increasingly negative throughout 2018.
You can read more about how that will work here.
But this week we have seen a breakout in stocks, and my technical analysis now projects that the long-term price target on the S&P 500 has risen to as high as 2,800, up from the forecast of 2,600-2,650 that I have had since June.
Here is a long-term cycle chart of the SPX that I publish weekly in the Wall Street Examiner Pro Trader Market Updates. I could go into much greater detail about this chart, which is based on the work of JM Hurst in his 1970 book on cycle analysis... but in essence, if it holds above 2,630, and it appears that it may, longer-term projections now say that the SPX is going higher.
Now that we are seeing the market in the earlier projected range for a major top, should we act accordingly and aggressively increase the pace of our selling? Or should we pause and hold out for 2,800?
About the Author
Financial Analyst, 50-year charting expert, finance + real estate pro, and market analyst; published and edited the Wall Street Examiner since 2000.