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In stock market investing, often the hardest thing to do is to go against the crowd.
The prevailing wisdom among stock investors now is to buy when the number of new coronavirus cases slows. Data from Italy, Spain, France, Germany and, most importantly, New York, indicate that new cases may have peaked. Many investors are rushing headlong into the stock market.
In our analysis at The Arora Report, the near-term course of the stock market will depend primarily on the behavior of “naked investors” (more on those later) and secondarily on news related to cures or treatments.
Investors have said there was no warning of the coronavirus. That’s untrue. On Jan. 22, The Arora Report’s call was that the coronavirus could cause a drop in the market. After finding that investors continued to buy stocks, I wrote on Jan. 30 that arrogance and greed among momentum investors “may prove to be dangerous for investors.”
Let’s explore with the help of a chart.
Chart
Please click here for an annotated chart of the SPDR Dow Jones Industrial Average ETF DIA, +7.56%, which tracks the Dow Jones Industrial Average DJIA, +7.73%.
Note the following:
• The chart shows The Arora Report signal to protect long-term portfolios up to 57% on Feb. 19, 2020, when the S&P 500 Index SPX, +7.03% was hitting a new high. The chart shows that the protection was increased up to 86% shortly thereafter.
• Who are the naked investors? The naked investors are those who were fully invested in the stock market at the peak, and many were buying on margin. In spite of warnings, these investors chose to go “naked” — that is, without any protection for their portfolios. This was like going out naked during winter.
• The data we gather at The Arora Report shows that for the most part, naked investors are still fully naked. They continue to believe the best strategy in the stock market is to be always fully invested because the stock market always goes up.
• Data from the 1987 crash, the 2000 technology bubble and 2008’s Great Recession show that naked investors hold on until the stock market rallies 20% to 30%. Upon such a rally, naked investors breathe a sigh of relief that their losses are smaller, and they start selling.
• When the stock market goes about 5% to 10% above the top band of the support/resistance zone shown on the chart, based on past data, the expectation is that naked investors will start selling and, thus, contain any rally absent a cure for the coronavirus.
Watch these stocks
Naked investors are concentrated in two groups: large-cap tech stocks such as Apple AAPL, +8.72% Amazon.com AMZN, +4.77% and Microsoft MSFT, +7.43%, and semiconductor stocks such as Advanced Micro Devices AMD, +11.57%, Nvidia NVDA, +10.04% and Intel INTC, +7.94%. For important clues, consider watching these six stocks to see if their relative strength slows.
To buy or to sell
The sharpest rallies occur in bear markets. In this coronavirus-influenced stock market, it is important that investors use an objective framework of protection bands before buying stocks. Click here for details.
Disclosure: Subscribers to The Arora Report may have positions in the securities mentioned in this article or may take positions at any time. Nigam Arora is an investor, engineer and nuclear physicist by background who has founded two Inc. 500 fastest-growing companies. He is the founder of The Arora Report, which publishes four newsletters. Nigam can be reached at Nigam@TheAroraReport.com.
