So, what happens next? I am not sure if everyone is wondering the same as me, but after the election results and seeing the PA reaction, I wondered “So…. What now?”.
A challenging and interesting question that I don’t think I or anyone can answer with the upmost confidence. But I wanted to take the time to write out a post that combines some statistics, a recap of my YTD ideas on SPY and where we are now, and what the future could look like.
I also hope to provide some perspective into the PA. I know for many of you, trading is new and a new exposure. For me, who has been trading since 2018, this year has felt like the most bullish year I have ever traded. But when I look at the objective data, it actually spells a different story.
So make yourself comfortable, its probably going to be a long post!
Forging into another era of Trump
I will save any political opinions for elsewhere. But its interesting that Trump has been re-elected as my nascence in trading arrived under the Trump’s presidency. And interestingly enough, my indoctrination into trading a Trump market was trading a bear market! I started trading during the 2018 bear correction when the market saw an initial flash crash that was pretty quick. It rallied back up to make another ATH and then did a longer bear correction where it actually corrected below the 500 day mean:
As well, this was a mean reversion on the log linear scale:
As a personal anecdote, I am still very much a permabear, despite always shilling long more or less in the current climate, and I feel like this permabear mentality arrived from the first market I traded being a bear market.
From 2016 to 2020, the market had about 4 crashes, 1 bear market/correction and the rest was all bull market. No real difference from any other 4 year period. The only major difference during 2016 – 2020 period were the crashes were a bit shallower than other crashes traditionally, with the average being about 11% vs overall average being about 13% for SPY’s nascence.
What this means going forward? We will likely see a few crashes and at least one bear correction in the coming years. However, perhaps the extent of the crashes and corrections will be muted, if, under the new presidency, USA is able to raise its GDP and boost economic production, which happened during the 2016 – 2020 term.
What about the Statistics?
Taking fundamentals and politics out of the equation and simply looking at what the market can tell us about itself, we can see some other interesting tidbits.
Either before continuing or after reading, I suggest you check out a previous post I did about the outlook for the S&P based on historical behaviour, it turned out to be spot on:
Let’s look at standardized returns on SPY:
SPY’s current annual return is 0.27. We are not, by any stretch of the imagination, at historically high return levels. But, close.. ish.
As you can see from the information in the chart above, the historically high return happened during the tech bubble and was 0.38, or 38%. SPY currently rests at 27%.
If we take the average returns in general, no filtering for bearish or bullish years, we get 0.10 (rounded), or 10%.
The average return of only bullish years is 18%. If SPY were to close at the average this year, we would see SPY retrace back to 557. The median is 19%, which would be a retrace to 561.
Other Statistics applicable
One thing that I have used a bit this year is a Monte Carlo simulation. Monte Carlo simulations take the normal distribution and randomly assign values from the normal distribution over x number of simulations.
The simulation I have used consists of 200 simulations, using 2023 data, and plotting the average of the central tendencies:
If we zoom in a bit closer, we can see where the simulations all agree of dips (red) and rallies (green):
If we want to take the simulation in totality, it shows that SPY could, theoretically, see a high this year of 621 to 650:
If you remember my earlier post, the annual ARIMA for SPY put the 80% confidence level at 591, and the 95% confidence level at 621. So 621 could indeed be a target observed into EOY.
Probability and more probability!
Let’s talk about probability for a second. To ascertain a more accurate assessment of probability, I am going to use data for SPX. Keep in mind, SPX and SPY track the same thing, so the returns will be identical. Because we are standardizing returns, they will also be the same value.
Just to put your mind at ease, SPY’s approximate returns YTD are: 0.2634936. SPX’s are 0.2669222. The difference is statistically insignificant.
So using SPX data, which we have since 1878 ish, let’s calculate the probability of closing at or above where we are now (>= 26%).
The probability of SPX closing with 26% returns is 15%.The probability of SPX closing at 18% is around 26%.
What this means is, we can’t say that it is likely that SPY will maintain these levels into EOY. Its not impossible, 15% probability is actually pretty big, a bit bigger than I expected. But the odds favour more a more reasonable close in the 18% area.
If we want to take it a step further, and calculate what is the probability that SPX/SPY closes on a High. The probability that SPX will close on a high is 16%. Again, I am a little shook by this high percent! But obviously its not as likely as if it were to be 50% or 80%.
Forecasts
Don’t worry, we are nearing the end of this post. If you are reading to this point, thanks! I appreciate your interest in my random tangents of applying stats to markets!
I want to briefly touch on Forecasts and outlooks. The market is naturally bullish. The U.S. has a new president that tends to have an emphasis on a strong economy. What is the most likely forecast?
This is a complex question. I can accomplish a general forecast through using algorithms, but it doesn’t really take into account the economic influence that may be at play if we do see a strong economy into 2025. Remember I indicated that during 2016 – 2020, we did have crashes and bear market corrections, but they were shallower than average, likely mitigated by the strong economic policy during that presidency.
Using a basic, machine learning algorithm to forecast the end result.
So what I am going to do is use SPX again, because again more history, and run a forecast based on this period here:
And I am forecasting it over the next 252 days, or 1 trading year from Friday (November 8th, 2024). The result actually puts us back into 2022, with this being the scaled plot of the forecast:
And lastly, Targets!
So, let’s quickly talk targets.
Remember, our ARIMA 95% level on the year is 621. That means, 95% of closes should fall below 621.
In addition, we also have a high probability modelled target at 564. This is hit > 85% of the time.
And lastly, based on a seasonality assessment, our most similar year is 2021. This puts our scaled annual high at approximately 601.
The targets we should absolutely see into EOY are: 564 and 601. The sequence of events remain up for debate.
Conclusion:
So, this is a long post, let me just give you the cliff notes of what to take away from it:
Cap on the year should be 621.
Retracement target should be around 564.
High of the year should be around 601.
There is about a 15% chance we close the year at this position or higher.
There is about a 26% chance we close below this level but at or above 557.
Overall assessment reveals a possible correction/crash. Its unlikely we see much lower than 564, even getting to 564 seems rather impossible at this point, but crashes come swift and unexpected
I will be honest, I am not sure we see too much downside before EOY. The market is on a cocaine fueled rocket that shows no signs of slowing. I “feel” that its just going to go up until there is a reality check into the following year. But this is not based on the objective data, just my own “feelings” which are not all that reliable, haha.
That’s it everyone! Thanks for reading, safe trades and happy rest of the trading year!
