Hold your Horses

Feb 01, 2021 | Michael Tse


Time to set expectations for a correction?

It is evident to all investors that markets never move in only one direction. A trend can only go on for so long before it eventually reaches a point where sentiment changes course. Some technical analysts believe this change can occur when large upward movements in stock prices are promptly followed by a pullback. It is akin to hitting a ceiling. We are already seeing more speculative markets such as cryptocurrencies encounter such pullbacks. These types of assets are a good reflection of investors’ appetite for taking risk, and it can be useful to monitor their price movements. The pullback of Bitcoin from $42,000 to $30,000 may be signaling a period of profit-taking may be ensuing for all risk-assets. These patterns are normal and healthy for markets and encourage investors to review portfolios and take profits on potentially over-extended stocks. If the overextended stocks are of a large enough size, this selling pressure could trickle to the broad-base indices and turn investor sentiment more bearish. The chart below illustrates the key support level of the Dow Jones and shows the potential of a pullback to 29,000 before we make our next leg up.

Predicting when the actual market correction is going to occur and the magnitude of it is not an exact science. We believe technical analysis should not be used as a crystal ball, but rather useful to set expectations. As a long term investor, it is important to focus on a well-balanced diversified portfolio during all market cycles. This ensures the portfolio is capturing growth during the market rallies while managing volatility during the pullbacks.  Despite what may occur in the short term, the market’s fundamentals remain constructive for long term investors with record low-interest rates, increasingly more fiscal stimulus, and an eventual post-covid economic recovery driven by pent up demand. Overall, we would feel any market corrections could be an opportunity for underweighted equity investors to add to their stock positions.