The expectation of an imminent easing cycle is influencing markets, writes Joe Duarte.

There is a new consensus on Wall Street, and it is all but confirmed; the Federal Reserve will begin a new interest easing cycle, perhaps as early July.

This new set of expectations is by no means a sure thing, although the Fed has said it will do something if it has to, whatever that means. Nevertheless, the thought of a new easing cycle is already influencing the stock market.

On the plus side, it looks as if the stock rally is back, at least as of the close of business on June 7. The negatives, however, remain. We still have the U.S.-China trade wars, the potential for significant slowing in the U.S. economy — think employment data and PMI numbers — and the placement of trade tariffs beyond China, regardless of the “agreement” with Mexico.

Most important, the market is run by headline trading high frequency trading (HFT) algorithms that wait for every trade at the exchanges. Since the algos often have an informational advantage and are on the right side of most trades, the net effect is that every significant price trend is accelerated, up or down.

Bulls are (almost) Back in Control

The New York Stock Exchange Advance Decline line (NYAD) made a nearly full reversal last week, making a new intra-day high on June 7 (see chart below). Unfortunately, by the close of trading the new high faded slightly, which means there is still enough doubt out there to keep the bull slightly in the pen.

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The S&P 500 (SPX) rebounded after falling below its lower Bollinger Band (BB) before reversing and crossing back above its 200-day moving average, but is nowhere near a new high, given the laggard technology sector’s recently poor performance. SPX is now battling to move decidedly above its 50-day moving average (see chart).

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The Nasdaq 100 (NDX) also rebounded and closed above its 200-day moving average, regaining the recently lost long term uptrend. Nevertheless, things are still in flux in technology land as NDX, unlike SPX, is still well below its 50-day moving average (see chart).

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Thus, it’s still about the headlines and how the oversold market and the algos decide to trade.

Dividend Stocks Break Out

Last week I noted that dividend stocks and real estate investment trusts (REITs) were doing well in the current climate. And this trend seems to be accelerating as yield hungry investors move into the two sectors.

 One particularly hot dividend stock, which has been in the Joe Duarte in the Money Options dividend portfolio for some time is Coca Cola (KO), which just broke out to a new high on June 7 (see chart). Coke goes ex-dividend on June 13 and the stock has a good record of rising until the date.

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Bargains in the Tech Wreck

As much as I currently like momentum stocks when they are in a good groove and dividend stocks when yields fall, I also have a contrarian bias. So, if you’ve missed the rally in KO, it may make sense to consider a contrarian move in the broken down technology wrecks.

A perfectly wrecked tech stock to consider is Micron Technology (MU) a leader in memory chips. Of course, it’s important to keep in mind Micron’s shares have been crushed primarily because of the U.S.-China trade war. Thus, given the day to day headlines on the subject, owning Micron at the moment has some risk.

On the other hand, the stock is extremely oversold, while currently trading at an unheard of P/E ratio of 3 (see chart below). This ridiculous valuation means the stock is priced as if it will never sell another memory chip to anyone and thus it is an anomaly worth noting and perhaps capitalizing on.

As a result, the odds are that the risk in Micron, although not zero, is lower than it was a few weeks ago. Moreover, the potential for major gains in the stock is likely high if there is any progress, if encouraging news surface in the U.S.-China trade talks or if Micron surprises with its earnings which are due out on June 25.

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The tech wreck has created some potential bargains worth considering. Moreover, if recent history is any guide, there is the potential for short to intermediate term relief from the trade war as both sides — perhaps China more than the U.S. — are starting to feel the pinch of the current situation. Therefore, if any good news surfaces, technology stocks will likely move decidedly higher, at least in the short term. Accordingly, with a high beta stock like Micron, a two week rally could deliver a nice profitable trade.

Keep Your Eye on the Ball

This remains a tough market, but don’t be discouraged. Good baseball hitters keep their eye on the ball and keep swinging even when they are in a slump. Consequently, here are two ways to maximize your trading success right now.

First, spread the risk around by owning small lots in more than a handful of stocks. Second let the market be your guide by placing and adjusting your sell stops in a way that lets your winners rise as long as they have legs. Meanwhile when the market stops you out of a losing trade, just move on without regrets.

Since the algos can’t read my mind, I keep my stops mentally and use alarms to alert me of potential problems. Thus, they can’t see my stop levels and move the price of my stock to the stop, take me out and then take the stock higher immediately in an HFT nanosecond after the damage is done.

Furthermore, with this much volatility it’s good to give any stock room to maneuver, so a 5% to 8% sell stop is reasonable.

A perfect example of letting your profits run in a tough market is Broadridge Financial Solutions (BR), a financial services software company, whose shares are up some 30% since we bought it in March 2019 (see chart).

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As the chart clearly shows, patience is a virtue that pays off. Thus, if you own a stock such as BR that is holding its value when the market is falling, hold on to it, as hard as it might be to do so, until if falls below your sell stop. As it gains, the negative effect on your portfolio of stocks that have been stopped out is muted.

Finally, remember this when trading. If you’re stopped out of your losers with small losses but you have a handful of big winners that keep on rising, the odds of a profitable cycle are in your favor. Furthermore, this approach will serve you well in rising and falling markets, especially if the Federal Reserve doesn’t live up to the market’s new expectations of another round of quantitative easing.

I own BR, MU and KO as of this writing.

Joe Duarte has been an active trader and widely recognized stock market analyst since 1987. He is author of Trading Options for Dummies, and The Everything Guide to Investing in your 20s & 30s at Amazon. To receive Joe’s exclusive stock, option, and ETF recommendations, in your mailbox every week visit here.