Investors learned several lessons this week. First among them was that stocks, on occasion, can go down as suddenly as they can go up. We also began to realize that it may take longer than expected before this pandemic is put to rest.
During the last two weeks, I have been warning investors to shuck those rose-tinted glasses and take a more realistic view of exactly where we are in this pandemic-relief world. That advice is starting to sink in. This week, the Biden Administration, Chuck Schumer, the Senate Majority leader, and even Dr. Anthony Fauci, the nation’s top infectious-disease expert, gave investors a more sobering look at the future.
The distribution and delivery of vaccinations, according to President Biden, was going to take longer than he expected. How much longer is still anyone’s guess. At the same time, Senator Chuck Schumer admitted that the Democrats $1.9 billion relief package might not see the light of day if he waits around for Republicans to get on board. And finally, Dr. Fauci said he was concerned about the impact of some new coronavirus mutations on the existing efficacy of the present vaccines. None of the above should have surprised investors, but in a bull market hope springs eternal, so the bulls were buffeted by the news.
For some reason, investors assumed that the relief package was a done deal and would be passed in the blink of an eye with bipartisan support. Schumer’s comments that he sees something passed in “4-6 weeks” was not part of the bull’s agenda.
What’s more, it now appears that in order to accomplish at least half of what President Biden wants in his package, the Democrats will have to resort to passing relief measures through a special Senate process called budget reconciliation, which would not require any Republican votes for the legislation to pass.
That news, combined with fresh doubts and concerns about the pace of vaccinations and new coronavirus strains, created a selling frenzy on Wednesday that saw the averages lose more than 2% by the close of trading. Thursday (January 28, 2021), markets sprang back to recoup most of those losses, but then fell again on Friday. This kind of volatility is usually a sign of a topping pattern, although not always. I believe a 3,250 on the S&P 500 Index bears watching. A meaningful close below that level would usher in another cascade of selling that could result in a 10-15% correction.
The good news is that this week’s sharp sell-off did reduce some of the frothiness that has been building up among many small-cap stocks. An interesting sideshow to that trend, which has also caught media attention, was the meteoric rise in GameStop and other heavily shorted stocks.
This video game vendor was the subject of a what is called a “short squeeze.” That’s when a number of sophisticated investors (usually hedge funds) borrow and then sell stock of a company (the short) betting the stock will fall in price. Usually, the pros will keep that position, and when they judge the stock has fallen far enough, will buy back their short and bank the difference.
However, there is a new breed of retail investors populating the stock market. This week, they decided to turn the tables on these short sellers. They discovered the power of the little guy through several social media services—like Reddit— that small investors could join together and combine purchases of options that could run up the stock price of down-and-out companies. They targeted GameStop and successfully forced those who shorted the stock to cover at much higher prices. It worked so well that now the latest trend among these traders is to identify additional shorts that can be exploited. The hunt is on and one of today’s picks happens to be silver, a much-shorted precious metal.
Last week, I advised investors to begin raising cash in some high-flying stocks. Many of the stocks that saw the worse declines on Wednesday were in that category. Those kinds of washouts are usually a warning sign of further weakness in the overall market.
Hopefully, some readers did take my advice and are happier for it today, so continue to take more profits as we enter February. There is definitely a 10-15% decline in the cards somewhere up ahead, in my opinion. Whether that happens at this level, or somewhat higher is immaterial. When it happens, in a week, two weeks, or in three, I will be buying that dip with the cash I am slowly raising now.