Time to Take Profits? Diving Deep into SPY and QQQ

The stock market has been on a wild ride lately. The S&P 500 (SPY) and the Nasdaq Composite (QQQ) have been on record-breaking tears. And despite our love for momentum, we need to step back and check ourselves – so hold onto your keyboards, because there are some indicators hinting that the market might be getting a bit ahead of itself.

For those of you who are technically driven, one of these signs of exuberance is the Relative Strength Index (RSI), the trusty tool that traders use to figure out whether the market is overbought or oversold. Right now, the RSI for SPY is 68 and for QQQ is over 70 on a weekly timeframe, and that's a decent warning bell telling us the market is nearing an overbought condition.

Another thing we're keeping an eye on is the large-cap leadership ratio. This shows us how the big boys, the top 100 stocks in the S&P 500, are doing compared to the rest of the market. Recently, this ratio has been on the rise, meaning these large-cap leaders have been outpacing the broader market.

We also need to look at the percent market breadth of the SPY and QQQ. This is a way of measuring how many stocks are moving up compared to those moving down. Anything above 50% tells us more stocks are going up than down. Over the last few months, the percent market breadth for both SPY and QQQ has been above 50%, showing us that the market rally has been pretty broad-based. But, we've started to see a bit of a slide in the SPY's percent market breadth, while the QQQ's has stayed steady.

When we compare this to back in October and November 2021, the SPY's percent market breadth was higher (62.4% and 64.2% respectively). This tells us that right now, the market isn't quite as strong as it was back then.

All of these meta-analytics - overbought RSIs, a rising large-cap leadership ratio, and a decline in percent market breadth - could be pointing to a possible pullback. But remember, these are just tools to help us understand the market, not crystal balls. So, while they're useful, let's not get too bearish.  

What's the Game Plan?

So, what should you do in a situation like this? Some might want to cash in some profits from stocks that have been on a hot streak recently. Others might want to look for opportunities in sectors that have been flying under the radar.  

High-flyers like Tesla, Amazon, and Apple have had a fantastic run recently. They could still have some upward momentum in the short term, but keep in mind they could also be hit if the market does pull back. To begin a bit of a hedge, I've taken short positions in TSLA and NFLX. While risky, I see them as protection at this point. Even the greediest of active investors would love the returns they've gotten on both of these - 56% and 36%, respectively, in just over 1.5 months.

On the flip side, some sectors like healthcare, utilities, and consumer staples haven't been getting much attention lately. These are typically safer sectors during market uncertainty and could offer a good alternative if things get rocky.

The Final Word

While the market is showing signs of being overbought and some tech indicators are hinting at a near-term top, remember these aren't foolproof predictors. So, let's not lose sleep over it, but keep a keen eye on the market and tread carefully. Lastly, even MOMO Trend has not signaled a trend change for either SPY or QQQ so there may be some momentum remaining, but the above indicators (along with some resistance which I failed to mention above), show there is reason for taking note.

Disclaimer: Remember that I'm not your financial advisor. Always do your own homework or chat with a your own financial pro before making any investment decisions.

Happy trading!

Brent @ Mometic