The Rotational Battle Intensifies: Here’s How to Play It
The Nasdaq had its best day since February, but the Russell 2000 has a great technical setup.
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Following poor price action from Nvidia NVDA and a mediocre earnings report from Microsoft MSFT on Tuesday, it looked like the Nasdaq 100 QQQ was ready to suffer deeper corrective action. However, positive news in the semiconductor sector, a series of strong earnings reports, and a dovish Jerome Powell caused a sharp reversal, and the QQQ jumped nearly 3%. Meta META put up another strong report on Wednesday night and is moving back over its 50-day simple moving average in the early going Thursday.
The recent struggles of big-cap technology have been a boon for small-caps. The Russell 2000 IWM has been outperforming for several weeks now, but rotation of this sort is always messy. The big-cap favorites don’t just totally collapse. While some reassessment of their valuations is taking place, they still have willing dip buyers who view any drops as an opportunity.
Earnings reports from Apple AAPL and Amazon AMZN on Thursday night will further clarify where the Magnificent Seven names are headed. The group's momentum has undergone a substantial shift, and Wednesday's big move may have been just a counter-trend move. However, we will see in the next few days if the group can regain its leadership role. I’m skeptical, but further bounce action is likely to occur.
After the dovish Fed meeting on Wednesday, there is near certainty of a couple of rate cuts this year. Some critics believe that Powell should already be cutting rates as there is some clear economic weakening taking hold, but the Fed is likely to provide plenty of hints about rate cuts in the next month, which will essentially do the same thing as an actual rate cut.
The predominant market issue right now is whether or not the rotational action out of the big-cap technology stocks will continue and benefit the rest of the market. Investors Business Daily notes that the DJIA and the S&P 500 have moved in opposite directions 41 times so far this year, and they are set to surpass the annual record of 45 days that was set in 2000.
Of course, 2000 was the year that the internet bubble burst and the market fell into a very ugly downtrend. Conditions are very different in the current market, though, as the AI bubble has been extremely narrow and concentrated in just a handful of big-cap technology names. There are very few stocks that are actually in a bubble, but that doesn’t mean that major rotational action won’t continue to develop.
How to Play the Rotation
No matter what happens, rotational action will be choppy, so what is the best way to deal with it? The two most important things to do are to focus on stock picking rather than the indexes and to use shorter-term time frames.
Rotational action is really a function of stock picking. Traders and investors are trying to find the individual stocks that have the best fundamentals and valuations that will be embraced by the market. There is far less correlated action. We have seen that lately with both Microsoft and Alphabet GOOGL.
Earnings season also favors stock picking. New, emerging leaders are being identified, and those stocks will offer the best opportunities as news is digested and charts develop.
There will be higher volatility as rotation plays out, but that can be handled by using shorter time frames and more aggressive trading tactics.
The market is at a very interesting juncture as we are shifting to lower interest rates, a slowing economy, and a change in market leadership. It should be a fertile environment for traders that focus on stock picking and tight trade management.
At the time of publication, Rev Shark had no positions in any securities mentioned.
