The Short Squeeze Triggers A Profit-Taking Event

Commenting on the controversial short squeeze triggering a profit-taking event and today’s trading Gorilla Trades strategist Ken Berman said:

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Q4 2020 hedge fund letters, conferences and more

The Controversial Short Squeeze Triggered A Profit-Taking Event

Stocks entered a volatile pullback this week, following a long period of relatively quiet trading on Wall Street, with the controversial short squeeze among the most-shorted issues triggered a profit-taking event. The string of negative reactions to even the strongest earnings reports also continued, with a few exceptions from the tech, industrial, and healthcare sectors, and Apple’s weakness was especially puzzling inlight of the firm's record-breaking numbers. Just looking at the figures, the recovery continued in the fourth quarter, but questions surrounding the vaccine rollout and the Biden administration’s next moves might raise doubts regarding the coming months. That said, the astronomical amount of global stimulus and momentum of the U.S. economy should provide strong tailwinds for stocks, so the current pullback will likely prove to be another buying opportunity.

Despite a few notable bearish surprises, such as the first reading of the fourth-quarter GDP print, the week's economic numbers were encouraging, with even the struggling job market giving bulls reasons to smile. New jobless claims were well below expected, the Chicago PMI hit a new two-year high, personal spending and personal income were both above the consensus estimates, and the CB consumer confidence number and the Core PCE Price Index also hinted at improvements in the consumer economy. Crude oil inventories plunged unexpectedly by 10 million barrels, but on a negative note, the Richmond Manufacturing Index and new home sales missed, and the durable goods report was mixed, at best.

Short-Term Technicals Take A Hit

Short-term technicals took a hit this week, especially in the main cyclical sectors, and a more substantial pullback looks possible in the major indices. The Nasdaq is still clearly above its 50-day moving average but the Dow and the S&P 500 closed the week below their short-term indicators, with the benchmarks all being well above their 200-day moving averages. Small-caps have been under pressure throughout the week, but the Russell 2000 is still holding up above both its moving averages following its historic rally. The Volatility Index (VIX) exploded higher amid the wild swings in the large-cap benchmarks, hitting a three-month high near the 40 level and it closed the week well above its recent range, close to 33.5.

Market internals deteriorated further as small-caps struggled, but the most reliable breadth indicators are still firmly in bull market territory. The Advance-Decline line plunged lower due to the broad-based pullback, as decliners outnumbered advancing issues by a 7-to-1 ratio on the NYSE and a 6-to-1 ratio on the Nasdaq. The average number of new 52-week highs declined sharply on both exchanges, falling to 81 on the NYSE and 110 on the Nasdaq. The number of new lows remained very low in the meantime, hovering around 1 on the NYSE and 2 on the Nasdaq. The percentage of stocks above the 200-day moving average dropped yet again, hitting its lowest level this year and closing the week near 85%.

Short Interest Plunges

Short interest plunged lower on Wall Street as retail investors caused massive short squeezes in several of the most-shorted issues, such as GameStop (GME) and AMC (AMC), and volatility has been unprecedented in this segment of the market. Our previous pick, SunPower (SPWR) benefited from the trading frenzy as well, while the volatility of its stock was relatively low, and its short interest still stands at 57% following the crazy week. ViacomCBS (VIAC) still sports a high days-to-cover (DTC) ratio of 9, but, like in the case of the other stocks impacted by this week’s volatility, investors should be aware of the elevated short-term risks.

While we are in for a slightly less busy week, in terms of economic releases and earnings, there will still be plenty of potential catalysts to cause turmoil on Wall Street. The ISM manufacturing and services PMIs are scheduled for Monday and Wednesday respectively, the ADP payrolls number will also be out on Wednesday, while the government jobs report will be in focus on Friday’s session. Amazon (AMZN) Google parent Alphabet (GOOG), Paypal (PYPL), Exxon (XOM), and healthcare giants Pfizer (PFE), Merck (MRK) will be among the firms reporting next week and investors are hoping for more bullish post-earnings moves than in the past two weeks. Stay tuned!

Headlines

• Stocks finished sharply lower across the board following the worst week for bulls since October, despite the new all-time highs in the Nasdaq and the S&P 500 in the first days of the week
• The turmoil among the most shorted issues and the COVID-related uncertainty weighed on risk assets, with the severe outbreaks in Europe causing the most troubles
• The U.S. COVID numbers improved markedly this week, and while the global vaccine rollout hasn’t been without issues, the U.S. projections continue to be optimistic
• The Fed left its monetary policies unchanged in the face of the renewed weakness in the hardest-hit industries and the job market
• Most tech giants reported bullish earnings on the busiest week of the earnings season with especially Apple’s (AAPL) holiday sales and Microsoft’s (MSFT) cloud push turning heads

Market Wrap

Decliners outnumbered advancing issues by a more than 4-to-1 ratio on the NYSE on Friday, with 29 stocks hitting new 52-week highs and no stocks hitting new 52-week lows, while volume was well above average.

Price Action Gauge ******** (reading for 01/29 44)

Price action further deteriorated on Friday, as the major indices plunged below their weekly lows and closed near their intraday lows, and the pullback will likely continue next week.

Oversold/Overbought Gauge ******** (reading for 01/29: 56 Color: green)

The large-cap benchmarks are quickly approaching neutral territory thanks to this week’s sharp pullback, but the most reliable momentum measures still have plenty of room to drop in the coming days.