Everyone is Expecting a Pullback

RLT Newsletter

Seven consecutive green weekly candles. Barring a massive selloff on Friday, that is exactly what we are looking at. SPY pushed all the way up to $750 on Thursday, which is honestly difficult to wrap your head around considering we were sitting near $650 just six weeks ago.

I will be straight with you. I am conflicted on this market right now.

On one hand, I keep seeing signals that a pullback should be right around the corner. I have been pointing these out over the last couple of weeks. The 10-EMA extension is one of the more recent examples, and the RSI readings on QQQ are flashing levels that have historically marked overheated conditions.

When we look at the SPY since 2010, RSI has only hit 77 ten times, including right now. Every single one of those prior occurrences eventually led to a meaningful pullback within the following month. Those pullbacks ranged from roughly 4% on the mild end all the way to the 25% collapse we saw in 2022.

Here is the part that actually matters though. Eight out of the prior nine RSI spikes ultimately led to buyable dips that went on to push to new highs. Even the 2022 setup saw about a 4% dip after the RSI extreme before SPY recovered and printed a fresh all-time high before the larger bear market finally kicked in.

That means nine out of nine times, the first pullback after these extreme RSI readings was buyable for at least one more push to new highs before any larger correction took hold. Nine for nine.

SPY Daily Chart with RSI

And yet despite all of that, despite every overbought signal and every stretched indicator, the market keeps powering through resistance levels, breaking records, and pushing further and further away from its short-term moving averages. Many of the strongest stocks driving this rally also look like they could use a breather, but so far none of them have taken one.

Shorting into this kind of strength is a great way to lose money if risk is not tightly controlled. More often than not you are better off trading with the trend rather than fighting it. But buying up here, which apparently plenty of people are still happily doing, honestly feels a little insane to me too.

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Here Is My Current Game Plan

I think the market eventually sees a meaningful pullback that brings SPY back into the $720 area and potentially even lower toward $700 and the prior all-time highs if we get really lucky. But I also think it is entirely possible SPY pushes toward $760 or slightly higher before any real correction shows up.

Especially if the market simply chops sideways for a few days, cools off a little, and then NVDA delivers another bullish earnings gap next week that drags semiconductors up for one final melt-up move. Of course NVDA also has a long history of gap and crap earnings reactions, so earnings could just as easily mark some kind of short-term top before a larger pullback begins.

If SPY does push into the $760 area ahead of NVDA earnings, I will likely start putting on some short exposure. At that point the risk/reward starts becoming a lot more attractive and I can keep losses tight if I turn out to be wrong. That is really what this whole game comes down to.

NVDA Daily Chart

History says that when these extended momentum rallies finally cool off, price tends to slice right through the 10-EMA and pull back toward the 20 or even the 50-EMA before finding any real support. The problem is that nobody has ever seen a momentum event quite like this one, so it is genuinely hard to say how things resolve this time around. Because of that I will be managing risk carefully on both sides of this market.

And honestly, here is the thing that keeps nagging at me. If the market pulls back from here, not a single person would be surprised by it. That is actually my biggest dilemma right now. Markets almost never do the obvious thing at the obvious time. This may be one of the biggest reasons this “up only” market has lasted as long as it has. And it may also be the reason it continues a little longer before we finally get any kind of meaningful dip.