This post was originally published on this site
The stock market is detached from Main Street — that is what I hear from investors most often these days. Many are puzzled, while others are convinced that this is a sucker’s rally. There is merit to both bull and bear cases.
The bear case is well-understood, the bull case is not as apparent to many investors. Please see “Why it’s not so crazy that stocks are rising even though 26 million people are out of work.”
Investors need to dig below the surface of the stock market. When they do so, they will find that the big money is in the $5.1 trillion hideout of large-cap tech stocks, which will be tested this week.
Let’s explore with the help of two charts.
Two charts
Please click here for an annotated chart of the Dow Jones Industrial Average ETF US:DIA, which tracks the Dow Jones Industrial Average US:DJIA.
Please click here for an annotated chart of the S&P 500 ETF US:SPY, which does the same for the S&P 500 Index US:SPX. It is compared with six securities.
Note the following:
• The first chart, which is monthly, should always be the starting point for any analysis under present stock market conditions because it is longer-term compared with a daily one.
• The first chart shows that the stock market has rallied to the bottom band of the resistance zone. Historically, the bottom band of the resistance zone is a key point to watch. The chart shows The Arora Report called on Jan. 22 the coming coronavirus drop in the stock market.
• The second chart shows the year-to-date performances of Apple US:AAPL, Amazon US:AMZN, Microsoft US:MSFT, Alphabet US:GOOG US:GOOGL and Facebook US:FB. These companies together represent a market cap of $5.1 trillion.
• The second chart shows that four of those stocks fell into the Arora buy zones during the stock market dip, providing investors opportunities to buy them at attractive prices.
• The second chart compares the SPDR S&P 500 ETF Trust with the iShares Russell 1000 Value ETF US:IWD.
• The second chart shows that small-cap value stocks have underperformed S&P 500 by 9.1% year-to-date.
• Investors are hiding in the five stocks shown on the second chart.
• Apple, Amazon, Microsoft, Alphabet and Facebook are about to report earnings. Investors’ expectations are high. More important than the earnings will be what the companies say about the future. I will be carefully listening to the conference calls. It is important for investors to remember that CEOs are highly incentivized to keep their stock prices high.
• Human beings tend to suffer from confirmation bias. The people who are putting big money into the five stocks mentioned above are not any different. Expect them to look at the earnings reports with the bias that they want the companies’ stocks to rise.
Ask Arora: Nigam Arora answers your questions about investing in stocks, ETFs, bonds, gold and silver, oil and currencies. Have a question? Send it to Nigam Arora.
An example
Take the example of Amazon stock. It is no secret that the stock has benefited from the coronavirus-led shutdown in both of its major business segments, retail and the AWS cloud business. However, investors are ignoring the following risks in Amazon stock:
• A sky-high valuation.
• As shown on the second chart, good news from the coronavirus is already discounted in the 27% gain year-to-date.
• The coronavirus crisis has shown that competitors such as Walmart US:WMT and Target US:TGT have caught up with Amazon, and in many ways are better able to take advantage of the future because of their physical stores.
• Amazon had to rush to hire thousands of new workers. This should raise costs.
• Amazon had to cut back on non-essential goods, which provide higher margins.
• Amazon is becoming simply too powerful and will come under more regulatory scrutiny.
The test
What happens next to the stock market will depend on this $5.1 trillion hideout cave holding strong or crumbling. Beware that the impact on the stock market will not be about the facts but will mostly depend on the confirmation bias of investors. Please read “Wall Street wants you to believe everything is peachy” and “This 25-year stock market chart shows investors are under a spell of bullishness.”
Answers to your questions
Answers to some of your questions are in my previous writings. You can access them here.
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.
