Something big has happened…
It’s one of the rarest events in the stock market, and it’s historically wildly bullish.
So in today’s essay, I will explain what’s going on… and why we all need to pay attention to it – right now!
Follow the Money
For anyone who doesn’t know, I’m Jason Bodner. I’m a Wall Street veteran, and I spent nearly 14 years selling and trading stocks and derivatives for huge institutional accounts.
What I found is that institutional money, or “Big Money,” is where you want to focus. Big Money moves markets.
After this revelation, I spent years and hundreds of thousands of dollars developing a systematic model to identify when Big Money is moving in and out of stocks. If we can get a glimpse of when institutional buyers are starting to build or divest positions, we have a great indication of future price action.
When measuring the stock market, my system can see unusual buying and selling every single day. Since 1990, we average about 66% buy signals and 34% sell signals.
Those signals are unusually large trades of money flowing in or out. And it makes sense that 2/3 of all signals would be buy signals, given that markets have trended higher historically.
But, of course, there are periods where selling exceeds buying. We are in one of those periods now.
And there are periods where outsized selling gets extreme… and markets go “oversold.” When it gets to these extreme levels, selling becomes unsustainable. In essence, everyone who wants to bail has already done so.
In other words, when markets go oversold, we can expect a big snapback rally.
And that just became relevant to us now…
We’re Looking at Opportunity
To track when markets hit oversold (or overbought), I developed the Big Money Index (BMI). I take all of the buy and sell signals and plot them on a 25-day moving average.
This way, we can see money either moving in or out of markets trending over a period of multiple weeks. That gives us a great idea of near-term trends when looking at the movements of Big Money.
Let’s take a look at what I mean…
Here we see a chart of the BMI for 2020 placed atop the SPDR S&P 500 ETF Trust (SPY).
The light blue line shows that as money moves in, markets trend higher. And as money moves out, markets tend to trend lower.
The red line on top marks when 80% or more of all signals are buys within the past 25 days. When the BMI eclipses the red line, buying becomes unsustainable and markets are deemed to be overbought.
Conversely, when the BMI plunges below the green line, 25% or less of all signals are buys over the last 25 days. When this happens, selling is unsustainable, and the market is deemed oversold.
Now let’s look at a chart of the BMI leading up to this week:
The BMI has just gone oversold.
Big institutional accounts are selling stocks at an unsustainable pace. And when selling is unsustainable, markets tend to rocket higher once the selling concludes.
In fact, here’s what we can expect from here…
Going Oversold Leads to a Bounce
Let’s look at the history of other oversold instances since 1990.
Source: MAP Signals
Now there are a lot of numbers on there. But this table is telling us one simple thing: oversold markets on average result in very positive returns for stocks in the future.
In the first column, we see the day when the market went oversold. It’s only happened 20 times in 32 years!
The next column shows the day when the BMI rose out of oversold. This shows that on average, when the BMI goes oversold, it stays that way for 20.5 calendar days. Yet it only takes an average of 9.5 calendar days to hit rock bottom. That means we should hit bottom around June 6 if the averages hold.
And big picture, once the BMI goes oversold, the S&P 500 could drop another 5% on average.
But look at the forward returns – the one month (2.8%), three month (6.3%), six months (9.6%), nine month (11.3%), 12 month (16%), and 24 month (29.2%) returns that follow oversold markets are all positive on average. And not just by a little but by a sizable amount.
So for those trying to perfectly time a market trough, I’d recommend looking closely at buying around June 6.
And more generally speaking, for those of us looking to put more money to work, this oversold indicator tells us that the next couple of weeks are a good time to do just that.
What to Buy
Right now, I am interested in looking at beat-up stocks with solid fundamentals. Just because we may face some recessionary pressure doesn’t mean these companies will go out of business.
Large-cap tech is one area to look at because it has been so beaten up since its November peak.
It is also good to look at stocks that have been habitually growing their dividends. And I am also interested in companies set to benefit from a recession – such as energy, food, and shipping stocks.
Yet most importantly, I am focused on companies with solid balance sheets, little to no debt, growing sales and earnings, and strong profits. Businesses like these are set to weather most storms. And this storm too will pass.
The market is officially oversold, and it cannot stay that way for very long. Now is a great time to take cues from Big Money. The selling will conclude, and value hunters will step in and pick up deals.
That’s right around the corner.
And as Warren Buffett famously said, be fearful when others are greedy, and greedy when others are fearful.
Fear is high right now, and the market is oversold. That means now could be the ideal time to get greedy…
Editor, Outlier Insights