source: Stock Photo
Over the last year, and even a little longer, the market has been very unpredictable. Not only is that reflected in the performance of major indices like the DJIA, Nasdaq and the S&P 500, but also in various sectors and industries, which have taken turns going through bear stages since the latter part of 2014. This has created a lot of challenges for investors, whom have struggled to hold onto gains as they attempt, for the most part, to categorize the market as either a bear or a bull.
What needs to be understood is even though the indices have been weak over the last year, within a number of sectors there have been bear markets that have off and on even underperformed them.
As mentioned, that goes back to the latter part of 2014, starting with the plunge in the price of oil. At the same time Materials were also down. Going forward that transitioned into Industrials, Financials, Biotech and Retail. This rolling over effect has caused a lot of consternation and confusion in the market, which has resulted in the quick disappearance of gains for those that didn't take money off the table after a temporary rebound in specific sectors.
As MKM Partners chief technician Jonathan Krinsky recently said, this has been a "'rolling bear market" with different sectors taking turns at the bottom of the pile, offset by enough strength elsewhere to prevent the index as a whole from falling 20% from last year's high and enter bear-market territory.'
Because the market hasn't been trading in "tandem," it has allowed it to remain choppy and "tread water" over the last 18 months or so. Consequently, it has hidden some of the weaknesses not apparent at a cursory glance.
With weakness showing in semis and transports, along with ongoing weakness in retail and biotech, in the short term we could see a downward move in the indices. That's also likely because it looks like the rebound in oil prices has hit a ceiling, and is probably going to fall back going forward.
But as a whole, we're going to see a sideways move for the rest of 2016, and possibly further out, until the various sectors and industries move in tandem - one way or the other. Until that happens, it is unlikely there will be a sustainable direction for the market; it will remain choppy.
One of the major reasons for the market performance relates to the future outlook itself, which business leaders make decisions upon. If the way ahead isn't clear, there is more of a defensive position taken while they wait out the lack of clarity in the market.
source: Yahoo Finance
source: Yahoo Finance
source: Yahoo Finance
Bear and bull markets
If you follow commentary on directions of the market, you'll know those thinking in terms of a bull or a bear market, have gathered together data and developed charts to reinforce their own particular biases over the last 18 months or so. The problem is the assumption these are the only options for the market is a wrong one. It's why a lot of investors have lost their gains; they were making decisions based upon a bull and bear being the only alternatives, neglecting the possibility we're now engaged in a sideways market direction.
In a bull or bear market there is a lot more clarity and direction, and those making some investment mistakes can still make money because the overall direction of the market can overcome them. For example, when there is a bull market, we know the tide will raise all ships. Even when errors are made the consequences aren't as dire because the predictable momentum of the market can offset some of it. This is why sentiment can be positive even if gains aren't as high as they could be.
This is also the case in a bear market. With an occasional exception, the bulk of stocks will move in correlation with the downward trend. There are of course temporary rebounds within a bear market, but investing in an obvious bear market, just like in a bull market, can be done without too much concern a surprise will crush our gains.
In a market moving sideways, this isn't the case. It's much more volatile and unpredictable, and when you add to this the rolling bear industries and sectors during that period of time, it sets investors up for some major disappointment if they don't take their gains off the table. I see this being how the market performs at least through the end of 2016.
Understanding a sideways market move
There are a number of reasons a market moves sideway. I want to talk about one of the major reasons, which may be the most important for investors to understand in the months ahead, which is the way entrepreneurs and business leaders analyze and view the future.
Let's go back to the housing crisis when the Federal Reserve began its enormous quantitative easing program. For some time there was frustration over why with all that money in the system, businesses weren't taking advantage of it and investing. The problem was that just because inexpensive capital was available for investment didn't mean the market conditions warranted accessing and spending it. There has to be an obvious path to the future that gives a quality chance at success and profits. If it isn't there, businesses start to hold back on spending. It's as simple as that.
As investors have tested the waters in specific sectors over the last 18 months or so, they are encountering this very element of business. At a time when there has been an apparent bullish breakouts in an industry or sector, other sectors have offset it by participating in a bear market for that particular industry. This has produced the sideways effect. It has also confused many investors who interpreted it either as an overall bull or bear market. That has cost many the loss of their gains, as mentioned earlier.
What we have to understand is the major indices don't necessarily reflect what is happening in sectors or industries; they don't always correlate with one another, and that is the case in the recent past.
In my view and understanding, a sideways market is a reflection of the lack of future clarity by business leaders, whom have become very cautious in how they spend their money and allocate capital. The oil sector is a good example of this.
While some have pointed out the low price of oil has forced oil producers to cut back on CapEx, it's not the whole story. That's of course partially true, but more important is the visibility of market supply and demand over the next year or two, which in spite of many media reports to the contrary, isn't in any way clear. If it was, oil producers wouldn't be afraid to spend more on ways to increase production. It's also not clear on how quickly supply and demand will balance. Capital expenditure is a good way to objectively measure what management is really thinking. I don't care what they say, no matter what industry it is, I only care about what actions they're taking; that is what will reveal the actual future outlook they have.
As for the direction of the market, what needs to happen to reveal whether or not the sideways move is over, is for most of the sectors and industries to start moving one way or another in unison. Until that happens, we're locked in a choppy market.
How to invest in this market - if you must
For those investors who prefer to buy and hold, this really isn't that much of a factor other than adding to positions if a stock or other type of equity investment happens to be within a bearish sector.
Those that engage in a strategy of investing for very short periods of time could do very well under these conditions, as the choppiness and volatility of this market provides a lot of significant price swings. This is probably the best way to play it if you're not into buying and holding.
The key here is to keep stops tight enough so you don't get surprised on the downside, but not so tight it triggers a selling event that takes you out of the market before you want to be. When talking about investing in short time horizons, I mean literally, at tops, for a few days - maybe a week or so. If a quick profit is made, trying to get more out of it by holding on for longer is a way to lose everything that was made very quickly. This is they type of market we're now in.
What is most dangerous now is for those investors that like to invest in fairly short periods of time, by which I mean over a period of several months or so. This is where some decent gains can be made, but if it isn't understood what type of market this is, they can quickly lose those gains very rapidly, and possibly even take some losses.
The point is we must abandon the idea - at least for now - that this is a bear or bull market; it isn't at the macro level. That means tighter stops and shorter periods of time to hold stocks that you don't have an interest in over the long term.
If money is made, it would be best to take it off the table and not attempt to extract more gains. Many investors interpreting this as a bull or bear market have tried that and lost.
Business leaders, by their actions, have shown there is a lack of visibility and confidence in many sectors and industries, which is a primary reason the market has been moving sideways. Understanding this is a key to how to invest until proof many of these sectors are starting to move in tandem with one another, and not offsetting bullish and bearish moves in specific industries.
This could result in a bull or bear market, but it would at least be predictable and obvious as to what investors can expect. That hasn't been the case in recent months, or even the last couple of years in some sectors like energy.
Another thing I would watch closely would be CapEx as measured against the past, and what specific parts of the business leaders are investing it. It's important to know whether spending is defensive or offensive, and if both, how it's being allocated to each. That will tell investors how leadership views the market they're competing in.
I see the market moving sideways at least until the latter part of 2016. It could go on longer than that, but in the short term there is nothing to indicate in the months ahead there has been a change in direction.
For that reason I believe we need to invest in light of this being a sideways market, rather than a bull or bear market, with the understanding there are likely to be more bear movements in some industries and sectors until they start to balance with one another. Invest accordingly.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.