We recorded this one before the opening bell, with the market set to open sharply lower on Middle East conflict. The day before had lulled everyone into calm — an intraday reversal, a solid close — and then, never a dull moment. So rather than react to headlines, we did what we always do: looked at how the trends were actually lining up.
The long-term trend on the S&P 500 is clearly favorable, and has been since last May when the market came out of the tariff-tantrum pullback. The Nasdaq composite is also in a long-term uptrend — but it peaked in late October and has been in a time correction for roughly four months since: a slight decline, then essentially sideways.
Time corrections are typically healthy. They let the market work off overvaluation without excessive declines. If you have to have a correction, you’d rather have a time correction than a price correction — and it’s common to get a burst of volatility right at the end of one. Which is precisely what we appear to be getting.
The shorter-term momentum trend, however, has turned negative on the Nasdaq 100 while the long-term trend stays positive. That combination is what we call no-man’s land. These usually come and go — but when the momentum trend turns negative, we act rather than wait.
Ahead of this volatility we added index-level downside protection to portfolios. Even with the market stable at the time, we were uncomfortable with the short-term trend and the geopolitical uncertainty, so we put hedges in place rather than hope. That is the difference between having a risk process and having an opinion. Allocations and hedging vary by client based on objectives and account constraints.
A value-oriented position we established several months ago tells the story better than any commentary. Set its chart beside the Nasdaq and the contrast is stark. There has been a clear rotation: money coming out of large-cap technology is being reinvested into value areas — financials, healthcare, industrials, energy. That’s why the broad index looks flat even as big technology names decline.
One chart captured it perfectly: the largest clusters of stocks in the market were those up roughly 20% and those down roughly 20% — a dichotomy that neutralizes the index while enormous churn happens underneath. We’d take that over everything falling together.
A caveat we’d offer honestly: the best growth and the strongest balance sheets still sit with the large technology franchises. We follow the market into value when it tells us to, but we don’t expect a durable broad advance without technology eventually participating again.
First, interest rates have been declining since peaking in December 2024. Lower rates make business activity easier and act as a growth stimulus — a real tailwind if that trajectory holds.
Second, the VIX is spiking — and it will spike further at the open. Over the past year, spikes of this kind have coincided with market bottoms, not tops. Falling rates, a spiking VIX, and a dropping market is a combination that has historically shown up near the end of corrections rather than the beginning. We’ll see how this one resolves.
“How serious is it when the momentum trend goes negative?”
Not that serious — but it’s a warning sign, and we don’t ignore it. The momentum trend typically goes negative two or three times in a given year, and most of the time it doesn’t amount to anything. It usually blows over. But the times it does amount to something are the times that matter most, and you don’t know in advance which is which. So when it turns, we begin reducing risk. That willingness to act on a signal that will often turn out to be nothing is the cost of being prepared for the one that isn’t.
David Flanders: Hi everybody, and welcome to the third edition of the Red Line webcast. I’m David Flanders, and we have our technology genius, the man behind the scenes, Blake Flanders.
Blake Flanders: Morning.
David: I’m very happy that we waited a day to put this out. Yesterday it seems the market lulled us into a false sense of calm with the intraday reversal, performing very well in the wake of all the conflict taking place in the Middle East. But lo and behold — never a dull moment. The market’s going to open in about 20 minutes and it looks like it’s going to open quite a bit lower. That doesn’t make us happy, but we’re going to deal with the market we have in front of us and take a look at how the trends are lining up. We can ignore the headlines and just see what’s happening with the market trends.
As we can see, the long-term trend of the S&P 500 is clearly favorable. This has been the trend since last May, when the market came out of the tariff-tantrum pullback, and it has looked very solid ever since.
When we look at the Nasdaq composite — the big technology stocks we all know — this is also still in a long-term uptrend. Although there’s something to point out. Notice how back on October 29th the Nasdaq hit its peak. We’ve literally been in what we call a time correction ever since: a slight decline, but basically a sideways move, now for about four months. This time correction is typically very healthy. It’s a way the market can work off overvaluation without excessive declines. If you had to have a correction, you’d prefer a time correction versus a price correction. Sometimes you get both. And it’s very common that right at the end of a time correction you get a bit of volatility — which is what we’re actually getting right now.
This is something we’re watching very closely. We did, as you may have seen, add index-level downside protection to portfolios yesterday. Even though we had some stability, we were a little uncomfortable with the way the short-term trend has been going, and with the uncertainty in the Middle East we wanted to put some protection into the portfolio. So I feel confident that the volatility we’re going to experience today will be managed well.
Now the momentum trend. The S&P, like the Nasdaq, has also been in a time correction — note that October 29th high on the S&P as well. It doesn’t look as poor, but it’s still essentially gone nowhere for the last four months, and now we’re below that point. We’re encouraged if we stay above the support line Blake just drew. If we’re below it, that’s another check mark in the negative column.
So today’s an important day. Can we do the same thing we did yesterday — open lower but close higher, or close off the lows? If we don’t, we have no choice but to call it a check mark to the negative. And even though we’re in a long-term uptrend with the S&P, and most likely this comes and goes as it typically does, when a momentum trend goes negative we put action in place. We reduce some risk, because that’s what we do and that’s how we protect against long-term declines. If the momentum trend gets more negative, we’re going to recognize it for what it is, look at the charts in front of us, and make decisions with our risk management.
As you can see, the momentum trend on the Nasdaq 100 is clearly negative even though the long-term trend is positive. I like to call this no-man’s land, where you’re stuck in the middle of a long-term uptrend but a short-term downtrend. Again, these typically come and go, but for the sake of our risk management execution we’re interested in implementing some protection.
A value-oriented position we took on several months ago is worth showing you. Notice the difference between the trend of that position and the Nasdaq. A picture’s worth a thousand words. There’s been a clear rotation in the market, which is why the market has basically gone flat even though the big technology stocks have been dropping — the money being sold out of big tech has been reinvested into other areas like value stocks. The biggest industries there are financials, healthcare, industrials and energy. We’ve definitely seen an under-the-surface rotation out of technology into the more value-oriented groups, and we’ve made that adjustment as well, moving into areas showing superior relative strength.
I will tell you this happens from time to time. And what we’ve learned is that the biggest growth and the best balance sheets are in the large technology franchises. So although we’re moving into these other areas, we don’t expect the whole market to advance too much without the technology stocks picking up the pace. Nevertheless, we want to be diversified when the market’s telling us to.
Here’s a great chart. It lends to what I just showed you with value doing well and tech doing poorly — it’s almost like the market’s trading punches. If you look at the two orange levels at each end of this chart, what it’s telling you is that the biggest number of stocks in the market are stocks up 20% or down 20%. We have this massive dichotomy of a bunch of stocks going way up and a bunch going way down, basically neutralizing the whole thing. There’s a lot of churning under the surface. We’d prefer that versus all the stocks going down, and it lends to that time correction we discussed.
Now there’s a real tailwind I want to point out, and it’s why we remain optimistic for the market this year: interest rates have been generally declining. When rates decline it makes business activity much easier — it’s a growth stimulus. Notice where interest rates peaked in December of 2024 and how we’ve steadily declined ever since. This trend most likely continues, with a generally stable or lower rate trajectory, and that should be very helpful.
The next thing that’s really important with this Middle East conflict is that we’re seeing a spike in the VIX, the volatility index — and it’s going to spike further today. What you’ll notice is that these spikes have coincided with market bottoms over the last several years, and specifically over the last year. The VIX spiked when the market bottomed last April; when we had the November pullback, the VIX spiked. And here we are again. When the market opens this morning, that VIX spike is going to look similar to those. So with interest rates dropping, the VIX spiking, and the market dropping, this has been a bit of a signal that comes at the end of market corrections, not at the beginning. We’ll see how this one plays out, but I can tell you what the pattern has been. With any luck the conflict starts to subside, the VIX starts to subside, and then we can start evaluating companies for what they’re doing — which is making money.
Now for the M5 review. The five names are the same this month, which we like — all incredibly good companies. Our top-ranked name looks very much like the Nasdaq itself: extremely strong long-term momentum, one of the best momentum companies in the market, but with a negative short-term trend that we expect to resolve along with the market.
The memory-chip name looks better but is also flattening out, as you’d expect — AI data centers are memory hogs, so that trend continues to look excellent. The healthcare name has been with us a while, because when there’s uncertainty people tend to want to own something that maybe doesn’t have as much growth but is steadier. That’s also why the value position is doing well. The semiconductor equipment name is similar to the memory name — they make the equipment that makes those chips, demand is insatiable, and they can’t make it fast enough. It’s tailing off, of course, because it’s hard to buck the trend when the Nasdaq’s dropping.
And the last name doesn’t look as good as the healthcare name, but has quite a bit more growth. We said last month it was on a short leash; it remains on a short leash, but as long as it hangs in there, there’s quite a bit of potential.
David: That’s the M5 for this month, and that’s the red line. Blake, did we have any questions sent in?
Blake: We did have one from our audience: how serious is it when the momentum trend goes negative?
David: Great question. The momentum trend is our shorter-term indicator, not to be confused with our long-term red line. We’re in a predicament right now where the momentum trend has just gone negative but we’re still in a long-term uptrend.
It’s not that serious — but it’s a warning sign. It usually blows over, but we don’t ignore it, and that’s the difference between what we do with our risk management and the norm. The momentum trend will go negative typically two or three times in any given year, and most of the time it doesn’t amount to anything. But the time it does amount to something — for example last April — the momentum trend went negative, and we act on that. We start reducing risk. So to answer the question: it’s not that serious, but we do not ignore it.
That’s it — short and sweet. Thanks for joining us, and as always feel free to call or email with any questions or concerns. We’re happy to chat about it. Have a great week.
The Red Line shows what the market is doing. Our strategy page shows what we do about it.
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