How to Trade During the Market’s Brief Return to Familiar Territory

After just three months, the Covid-19 pandemic that put the whole world in lockdown isn’t that newsworthy anymore.

At least to the market, that is.

This may seem strange, even flippant. After all, about 1,000 Americans still die of Covid-19 every day, and most states are still under some form of lockdown or restrictions.

And yet the markets don’t react to news about Covid-19 anymore.

For example, Texas was one of the first states to begin reopening. This past Saturday, the Lone Star State reported its highest increase in Covid-19 cases yet.

Traders shrugged it off.

North Dakota and Alabama are also seeing a rise in new cases after beginning to reopen.

These are numbers that a month ago would have sent traders into a tizzy.

Even during the coronavirus, we’re winning again… and again… and again.

But this weekend, traders ignored it.

Maybe traders have just gotten tired of hearing about the pandemic, and of being locked up at home. Maybe they think the pandemic is now “under control.”

I’m sure they and others do, to some extent.

But what’s really happening here is very different.

See, this perception that the pandemic doesn’t matter to the stock market anymore – it’s wrong – as we saw on Monday morning when the Moderna (MRNA) Phase 1 vaccine trial data helped add fuel to the fire lit underneath markets by Fed Chair Powell.

The pandemic is definitely the most important issue for the economy, the markets, and for traders…

Just not right now.

Let me show you the Reality Gap… and what’s going to be moving markets for now…

The Pandemic Isn’t Old News – It’s Just a “Known” Factor Now

As you’ve heard me say before, traders despise uncertainty. Like everyone else, traders didn’t know what was going to happen or what to do during those early days of the pandemic from mid-February through March.

To be clear, we’re talking about uncertainty here, not risk. For traders and scientists, the difference between the two is usually this: you can put a number on risk, but not on uncertainty.

For example, we know pretty well what the effects of the seasonal flu are on people, our behavior, and businesses. We can estimate pretty well what the risks are every year, how much revenue a business will lose when the seasonal flu is bad, and so on.

But with Covid-19, we couldn’t. We’ve never had a coronavirus pandemic before, the virus is brand new and acts differently from what we’ve seen before, and the response from governments has been very different. Not to mention that the higher death rate and the fear of non-symptomatic spread had people change their behavior much more than for the flu.

So for weeks and weeks, we were in completely uncharted territory. Traders didn’t even know enough to say that there was a 20% risk of this, or a 45% risk of that. They traded in uncertainty, largely based on emotion.

Especially on fear.

That’s all changed now.

We’ve seen enough of this pandemic here and abroad to have at least an idea of what’s coming, when, and what it will do. Other countries, especially in Asia, have lifted restrictions and their economies have restarted.

Europe is beginning to do the same.

That’s not to say the pandemic is over. Not by any means. But traders know that we are reopening, and know roughly what that means, for now.

So in the short term, Covid-19 doesn’t cause massive uncertainty anymore. Just risk.

And risk is something traders are very comfortable with.

But that’s all going to change in a week or three, when uncertainty makes a comeback…

We’re Heading Back into Uncharted Waters

Because it takes a few days for someone infected with Covid-19 to be contagious, and often a few more to start showing symptoms, we can’t follow infections in real time.

The reported number of new infections we see every day is most likely due to what happened weeks ago.

That’s why it will be a couple of weeks before we see what Covid-19 is really doing in the states that reopened early.

If the infection count keeps climbing in Texas, and starts rising again in Ohio and other states that are reopening, we’re going to be back to dealing with uncertainty.

Because we have no idea what this will mean. Will states close down again? If so, for how long? If they don’t, what will that mean for hospitals? Will people brave the outdoors knowing that there’s a pandemic that’s out of control again?

We don’t know enough to put a number on any of these possibilities.

That’s why our trades here in Straight-Up Profits should be bullish in the short-term, but more cautious in the medium- to long-term.

Of course, we don’t have to wait for weeks for uncertainty to rear its ugly head again.

As we saw last week, uncertainty is already moving markets.

It’s not uncertainty about the pandemic, however…

Last Year’s Trade Uncertainty is Back

Until the pandemic took off in February and we all got used to daily market swings of 2%, 3%, even 4%, August of last year was one of the more volatile trading periods in years.

The S&P 500 moved by more than 1% in exactly half of that month’s trading sessions. That included three drops of 2.6% or more.

All because of the U.S.-China trade dispute. When the “Phase One” trade deal was signed in January, this was all supposed to be behind us.

But China’s mishandling of the Covid-19 pandemic and a rising global blame game has reignited it.

Just in the last week, the Commerce Department has cut off China’s telecom giant and the second-largest smartphone maker in the world, Huawei, from using microchips built with U.S. technology, even if they were manufactured abroad.

China responded by calling it “unreasonable” and threatened to put Apple Inc. (AAPL), Cisco Systems Inc. (CSCO), Qualcomm Inc. (QCOM), and other U.S. tech giants on a blacklist, and restrict their operations in China.

On Monday morning, one of the largest chip makers in the world announced they would comply with the new U.S. rule. Taiwan Semiconductor Manufacturing Co. Ltd. (TSM), often called TSMC, has stopped taking new orders from Huawei. That’s despite Huawei being TSMC’s second-largest client, accounting for 15-20% of revenue.

In 2017 and 2018, a similar U.S. ban on microchip sales brought another Chinese telecom giant, ZTE, to its knees. The company was practically dead until it agreed to change management and pay fines, in return for the U.S. lifting the restrictions.

If the same happens to Huawei, the repercussions could be serious.

In another blow to China, TSMC last week announced it was building a new chip factory in Arizona. The company is based in Taiwan, but its production is centered in mainland China.

Last week, this saber rattling over trade was already getting traders worried.

But Federal Reserve Chair Powell raising the possibility of more stimulus won over.

What this means for us is that, regardless of whether we think a vaccine is coming in 12 months or longer, and regardless of whether we think a second wave is coming or not, that won’t move the markets for next couple of weeks…

Even though these are probably the most important factors for the future of the global economy.

Until we have more information on how the reopening is going, the markets have decided these are known risks.

In the meantime, we’re going to be seeing two other narratives fight each other.

On one side, the uncertainty surrounding the return to a trade war with China. If both sides continue to ratchet up the rhetoric and tariffs and other measures come back, this could turn ugly.

On the other side, the continuing stimulus from the Fed, as well as any more measures from Congress, will help keep stocks afloat.

As I told Stuart Varney on his Fox Business show Varney & Co. on Thursday, all this monetary and fiscal stimulus has given the markets carte blanche – a blank check for upside moves until we see how well he re-opening of America goes from a health perspective.

So for now, keep those winners – like our AAPL call option trade from the weekend update video – on a sort leash. Move your stop to breakeven on that nice move.

This also means that when strong stocks get hit with short-term bad news like Home Depot (HD) did with earnings – you can buy some 2 to 3-week strike call options for a nice reward to risk move.

Great trading, stay safe out there, and God bless you,

D. R.

  Subscribe  
Notify of

View this page online: https://straightupprofits.com/2020/05/how-to-trade-during-the-markets-brief-return-to-familiar-territory/