The equity markets are in a long-term bullish trend but are not currently offering a good risk-reward entry if you want to go long.
Despite all the bullish comments you might be hearing from the mainstream media, refraining from buying or adding to positions at these current levels is the most prudent thing to do.
The current risk reward is not good since the markets are vulnerable to a long delayed and more significant pullback.
Entering the market after a correction is always a better way to trade.
Savvy investors and traders wait for these cyclical pullbacks to enter the market and never chase the market at the highs.
From a technical standpoint, the market has reached overbought levels in the monthly, weekly and daily time frames.
More than 91% of stocks in the S&P 500 are trading over its 200 day moving average, which is a long term signal that stocks are expensive.
From these levels, markets generally reach a top, such as in late 2007, or an intermediate term correction, such as in early 2004.
Market sentiment is also a powerful contrarian indicator used to forecast the direction of stocks.
When sentiment is extremely bearish, markets tend to bottom since all the bad news and fundamentals are already discounted, making stocks cheap.
This was the case in late 2008 and early 2009.
When sentiment is extremely bullish, all the growth prospects and optimism for the economy are already priced in, stocks are expensive and reach a top.
The current Investor’s Intelligence survey is displaying a bull/bear spread of 3 with near 50% of the advisers taking a bullish stance and only 17% reporting a bearish forecast.
Bears are at a historically low level that had not been seen in 20 years.
Bullish sentiment is very high. When it previously reached these levels back in early 2004 and late 2007, the market entered an important correction or reached a top.
From a fundamental standpoint, valuations are anything but cheap.
Using the projected fourth-quarter earnings for the S&P 500, the price-earnings, or P/E, ratio stands at 23.
This is in the very high range for this index and thus a bearish reading.
Finally, some proprietary stock scans and algorithms I use for my trading are showing bearish signals.
The stock scan I use to find high-quality oversold stocks throws only 77 buy candidates, which is a very low reading.
In contrast, before the market had a huge rally in July and November of 2009, this scan displayed more than 400 buy candidates.
In conclusion, wait for the dips and get used to buy low and sell high.
Patience to wait for good risk/ reward entries will always pay off.
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