Broker Check

The Patterns Are Clear

| July 24, 2023

Sometimes patterns can suddenly appear, defying logic. Of course, human error can often take command too, leading us to think we see patterns that don’t really exist. That can make life tricky for an investor, and that’s even before remembering the stock market is often a master of deception!

Right now, there’s a clear pattern: “big money” institutional investors love stocks. That may seem odd considering there was a bit of negative, fear-mongering news after the most recent consumer price index (CPI) report, which was largely positive.

Year-over-year inflation came in at 3.0% versus an expectation of 3.1%. Here is CPI data since January 2022, which holds some key information (see list below table):

  1. One year ago, inflation stood at 7.7%.
  2. Peak inflation was 9.2%.
  3. Nearly all (19 of 21) inflation categories are declining.
  4. Only medical commodities and shelter costs persist (though they’re dropping, see below chart)
  5. The Federal Reserve’s rather random 2% inflation target is now only 1% away.

In fact, for the first time since 2020, the all items inflation rate is lower than the federal funds rate. Even core inflation at 4.8% is less than the current target rate of 5.00-5.25%:

Lastly, and perhaps most importantly, since the CPI report, the 10-year Treasury has dropped from more than 4.0% to less than 3.8%:

As we know, the Fed doesn't like to fight market rates. So, while we will most likely get a July rate hike, we're not convinced it’s prudent to buy into the “Fed rate hike fear hype” continuing throughout the year.

If the Fed cools too much, it will do more damage than good. We certainly think, or maybe hope, the central bankers are aware of this (you’d think at least one of the 400 PhD's on the Fed staff would be).

Clear Market Patterns Too

The market seems to have understood this whole situation for a while (the same should be true of our readers). When we dig into the data, we can see continued healthy, bullish patterns. First and foremost from the most macro level, MAPsignals’ trusty Big Money Index (BMI), a 25-day moving average of “big money” professional investor buys and sells, is continuing to rise. As of this writing, it sits at 78.8%:

Remember, it's not as important when the BMI goes overbought because it doesn’t necessarily trigger a drop in prices since the BMI can stay overbought for a long time. It’s more important to pay attention to when the BMI recedes from overbought territory. That’s when price drops and consolidation can occur.

For now, let’s just enjoy the view!

Digging deeper, we can see more bullish patterns in “big money” stock buying and selling. Most importantly, notice how selling has continually dwindled, even evaporated:

There’s been a recent supercharge of exchange-traded fund (ETF) buying by “big money” as well (see below). That buying continues the trend of significant institutional support – remember, the trend is your friend.

The July 12, 2023, trading session saw 61 ETF buys by “big money” investors. That is an enormous number that stands out when looking at day-to-day ETF trading. Since 2010, we’ve had 27 previous instances to see more than 60 “big money” ETF buys (more on that in a bit).

In a bear market, that type of hyperbolic buying can be a massive warning system. But in today's environment, the many equity tailwinds, like the declining inflation mentioned earlier, support price appreciation.

So, when we see ETF buying like this, it’s helpful to search for historical clues to see if there’s any deeper meaning. Looking at the table below that our friends at MAPsignals so kindly put together, we can see some short-term consolidation after such big buys (only half of such instances produced positive market returns one month later; this also aligns with typical seasonal volatility).

But as more time passes from the big buying days, market returns turn positive. A year after outsized “big money” ETF buying, historically we've seen stocks up nearly 18% after a year and nearly 20% after two years:

When consolidation begins, you may hear the financial press talk about the recent past being a bear market rally. We don’t believe that because the data says otherwise. Plus, as we've spoken about in the last couple weeks, we're continuing to see heavy buying in small- and mid-cap stocks as the market continues to broaden:

Defensive sectors like communications and utilities remain at the bottom of the sector rankings. That supports the notion that “big money” wants growth in equity appreciation in this market, both in the near term and the long term.

To us the patterns are clear, even as many investors continue to bathe in the negative news. Let them. Buyers need sellers, and people ingesting near-constant fear are more likely to ditch stocks in search of safety.

Meanwhile, “big money” investors are piling into ETFs. In the near term this tends to precede a cooling in the market.  That is when you want to be adding to your positions, seeking healthy stocks with strong balance sheets that are beating and raising guidance, which is timely as we are about to enter the heart of earnings season.

We'll continue to focus on existing data patterns not based on emotion or hype. And while we are prepared that the rest of the summer may bring some short-term volatility, it will be a welcome pullback for additional rebalancing and tactical positioning. At least that’s true for those of us focusing on the data.

Securities sold through CoreCap Investments, LLC.  Advisory services offered by CoreCap Advisors, LLC.  Cornerstone Financial and CoreCap are separate and unaffiliated entities.