Current Market is a Bull Trap, Says Sven Henrich

Sven Henrich

Whether the current bull market is over is on the minds of everyone these days. Some believe that the fun is over, and that this current upward move is a false one, a bull trap.

Many investors spent much of 2018 wondering whether the current bull market will soon come to an end, and toward the end of the year, a sharp correction seemed to confirm these fears.

If we travel back in time to last December, we would see confidence in the bull market seriously waning, as the charts seemed to indicate that the good times may indeed be over and we may be in for an even bigger sell-off than just the 20% we gave back during the last few months of last year.

Santa Claus then came bearing gifts for the market, and we found under our tree a nice reversal, where we haven’t quite made up the lost ground but have made up most of it. The markets are now up 14% from their December lows and things sure look better than they did before Christmas.

While many people have had their confidence in the markets bolstered by this recent recovery, there are still plenty of people who remain bearish and are still prognosticating the end. Among these is Sven Henrich, founder and lead strategist for NorthmanTrader.com, who just published an interesting article documenting his view of our being in a bull trap.

Bull traps and bear traps are chart movements that end up reversing direction but this reversal is seen as unreliable and probably unable to be sustained. This recent move is a bull one, so the word trap indicates people being trapped by what may end up being a false move, where the expectation would be that the bearish trend would continue once the bull trap move has quickly exhausted itself.

In the present market, we have a 10-year uptrend, followed by a 3-month downtrend of a significant magnitude. The first thing to look at is what happens after this period, where we would be looking for the downtrend to continue, in this case into early 2019. We didn’t see this, so the question now becomes, is this 14% recovery reliable enough to say that we’re still in the bull market, or is it a bull trap?

Henrich Presents Evidence to Suggest This Is a Bull Trap

Henrich is convinced that this looks like a bull trap, and supports his position with a number of technical observations. He tells us that, the fundamental data aside, the charts are speaking to us and they are not bearers of good news if we are on the long side of this market.

Technical data can be quite valuable, as it provides us with a view of where things may be trending, and prices of securities do move in trends. Some of these trends are fueled by fundamentals, changes in business performance or changes in economic climate, and some are influenced by things like sentiment, people’s willingness to invest in stocks say over bonds or other investments, or capacity, how much or how little people have to invest at any given time.

He starts out by showing us a trendline break and includes the past two bull markets in his chart, showing that we saw a decline when the previous 2 trendlines broke, and expects that the same thing will happen this time.

Trendlines do provide us with good information at times, although we need to be careful about reading too much into them. Any time you get a pullback you risk breaking upward lines drawn from market lows, and when you get bigger reversals like we saw recently, seeing these moves break the trendlines is actually expected.

This in itself doesn’t really tell us anything we don’t know, but technicians will look back to see what has happened historically when we’ve seen similar breaks, and not surprisingly, reversals are quite likely under these conditions.

This doesn’t necessarily mean that we’re in a bull trap though, although we do have a significant risk of this, based upon this technical tool as well as other ones of the same scope.

One tool that is very widely used by technicians also is showing bearishness, the ever popular 200 day moving average. This is a pretty reliable indicator and people have traded this indicator all by itself and beat the market by healthy margins. This does not mean that just because we’ve dropped below the 200 that we’re in for a reversal, even though, like the trendline break, it does provide reasons for concern.

Shorter-Term Technical Analysis Tells a Different Story

Investors focus pretty much exclusively on the longer-term charts, and ones as long as Henrich are using do tell us that it’s probably more likely that we will go down from here rather than up further by a significant amount. The longer the chart, the longer the scope of its predictions, and charts that go back this far may tell us something important about where we may be further down the road from now but less so about how the next quarter will go or even how 2019 will end up.

When a few months is but a blip on a chart, predicting these shorter-term time periods requires charts where the move is more meaningful on.

Charts more suitable to these shorter time frames do tell a different story, a more bullish one to be sure, and this really all comes down to how far out we’re looking to predict. If we’re looking to time things, it never makes sense to go with a long-term trend when a shorter but still meaningfully long one diverges.

This is what we see happening now, where we have Henrich’s analysis, which may turn out to be quite right in the longer term, contrasted with the shorter-term picture, which clearly shows very good momentum to the upside since December 24.

If we were looking to reduce our exposure to the stock market, it therefore makes sense to do it when both the shorter and longer-term outlooks both cast a shadow on the market, where they both suggest that we hedge more, cut back, or even get out depending on how we act in bearish markets.

Both the daily charts and the weekly charts show a clear move to the upside, as we might expect when we move 14% in just 6 weeks, especially if the move is constant and sustained.

The indicators look great from this perspective, not the 200-day moving average so much, but other shorter indicators more suitable to the level of timing we need to actually want to pull the trigger. Even just looking at the 200 shows us that we’ve dropped well below this but have now made it all the way back up and appear to be primed to get on the right side of it soon if this all continues.

While Henrich appears to be right as far as our needing to be concerned that this is an actual bull trap, we’ll have to see how much staying power this bull actually has left to really decide this, and if we really are disposed to jump off this market, we should be doing so when it is going down, not going up.