Here’s why it’s time to start shorting overextended markets, says one research firm

There was, to be fair, bad news on the coronavirus vaccine front hanging over markets on Tuesday. But results on the first day of earnings season weren’t terrible, and the data on small-business sentiment were encouraging. The International Monetary Fund, while sounding a cautious note, did upgrade its economic outlook.

To analysts at Longview Economics, a London-based research firm, it is looking like the rally from September lows was overextended, and the upside trend is…

“tired.” They say markets are overbought at an index, sector and single-stock level as traders have become “greedy.”

“Added to which, the U.S. election is now just under three weeks away while the data shows that current levels of portfolio hedging are low,” they say.

“Certain outcomes in the election (e.g. a contested result) have the potential to add to market volatility/uncertainty. With those risks now in sight, it seems likely that money managers will start implementing hedges against those eventualities.”

They are advising to begin building short positions, particularly if the S&P 500 SPX moves back toward the high of the last two sessions, at 3,541. They say to put in a 2% stop loss at the Sept. 2 intraday high of 3,587.

But that is a short-term view. Chris Watling, the founder of Longview, also wrote an article for New York Life Investments, asking whether a Joe Biden presidency that is now expected in financial and betting markets would lead to an inflationary boom or a deflationary bust. Biden, after all, is proposing not just to increase corporate taxes but also lift capital-gains taxes, which would represent quite a shift from the current reign of President Donald Trump, who wants to cut capital-gains taxes further, and signed the current 21% corporate tax rate into law.

Watling is encouraged by news household spending is recovering faster than incomes, suggesting that the household sector is spending the extra cash they saved during the lockdown. Expansions, Watling noted, “generally occur in an environment of cheap money and a strong cash position (i.e. the current climate).” Furthermore, Federal Reserve Chair Powell has played down two of the…

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