So far, this has been a fairly entertaining start to the new year! The S&P 500 started off with a bounce to 6050, pushed briefly below our line-in-the-sand level of 5850, and then finished this week with a retest of 6000. While the VIX remains fairly low relative to historical levels, it feels as if our “emotional volatility” remains pretty elevated!
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And remember, the point of this exercise is threefold:
- Consider all four potential future paths for the index, think about what would cause each scenario to unfold in terms of the macro drivers, and review what signals/patterns/indicators would confirm the scenario.
- Decide which scenario you feel is most likely, and why you think that’s the case. Don’t forget to drop me a comment and let me know your vote!
- Think about how each of the four scenarios would impact your current portfolio. How would you manage risk in each case? How and when would you take action to adapt to this new reality?
Let’s start with the most optimistic scenario, with the QQQ achieving a new all-time high over the next six to eight weeks.
Option 1: The Very Bullish Scenario
What if the S&P 500 resumes the uptrend phase from September through November of 2024? The very bullish scenario would mean the SPX pushes above the previous all-time high at 6100 and does not look back. Trump takes off and, instead of shocking the market with fears of inflation, his new policy decisions represent a more measured approach to tariffs. The Magnificent 7 names resume their leadership role, earnings season is a blowout blast of bullishness, and the S&P 500 hits 6500 before February 1st.
Dave’s Vote: 10%
Option 2: The Mildly Bullish Scenario
Perhaps the Magnificent 7 stocks don’t return to new all-time highs, but continue to remain rangebound over the next month. Value sectors like financials and industrials take on a leadership role, and small caps finally begin to outperform their large cap cousins. Trump’s early policy decisions still feel inflationary, and as a result, investors are hesitant to take on more risk until we get more clarity.
Dave’s vote: 30%
Option 3: The Mildly Bearish Scenario
What if last week was a countertrend move higher, often known as a “dead cat bounce”, and over the next few weeks we see another down leg for the S&P 500? There are notable breakouts in the value sectors, but the mega-cap growth trade still doesn’t take off. Inflation fears increase as the new president takes office, and investors hang on every economic release for signs of optimism. The mildly bearish scenario would mean a retest of the January swing low around 5800, and we begin the month of March wondering whether 5800 will hold this time around.
Dave’s vote: 50%
Option 4: The Super Bearish Scenario
We always have to consider the doomsday scenario, where conditions deteriorate much more quickly than expected. Earnings season is a bust, Trump’s new administration lights up tariffs, and inflationary fears lead to low confidence in the Fed’s ability to take decisive action. The S&P 500 pushes down to the 200-day moving average, and after a brief bounce, drops down to around 5500 by the end of February.
Dave’s vote: 10%
What probabilities would you assign to each of these four scenarios? Check out the video below, and then drop a comment with which scenario you select and why!
RR#6,
Dave
P.S. Ready to upgrade your investment process? Check out my free behavioral investing course!
David Keller, CMT
President and Chief Strategist
Sierra Alpha Research LLC
Disclaimer: This blog is for educational purposes only and should not be construed as financial advice. The ideas and strategies should never be used without first assessing your own personal and financial situation, or without consulting a financial professional.
The author does not have a position in mentioned securities at the time of publication. Any opinions expressed herein are solely those of the author and do not in any way represent the views or opinions of any other person or entity.
