- Stocks are enjoying a strong November after a streak of difficult months.
- There are a few factors investors should be aware of as the chase a rally into year-end, Vada Research says.
A year-end rally may be coming for the stock market, and there are three things investors should look out for if they plan on chasing the gains, according to Vanda Research.
Recent bullishness runs counter to some forecasters' outlook for the wider economy, with multiple areas showing signs of slowing down. The labor market appears to be cooling, while retail sales in October slipped for the first time since March.
But there's still room for equities to move higher before investors start pricing in a recession, according to Vanda Research senior vice president Jai Malhi.
"The data is not screaming recession either (at least not yet), which could provide a short-term landing spot for risk to rally," Malhi said, laying out three key themes for investors to consider if they plan on capturing year-end gains in the stock market.
Here are three things to keep in mind for investors looking to chase any rally in stocks into the end of 2023.
1. Chase mega-cap tech
"Chase the mega-cap tech rally, despite there being a hint that it's becoming a more crowded trade," Malhi said.
Other Wall Street forecasters have warned against investing in mega-cap tech stocks, due to risk of those companies being overvalued. That Magnificent Seven stocks – a group of 7 mega-cap tech firms that have soared this year on Wall Street's excitement for AI – have generated most of the gains for the S&P 500, a trend that's unlikely to continue, according to some analysts.
But much of the recent gains in Magnificent Seven have been fueled purely by retail investors buying into Tesla. Excluding Tesla purchases from those across the rest of the group shows that the mega-cap tech sector could still have room to rally, according to Vanda.
More hedge funds have also been dialing back their shorts on the Magnificent Seven, while building shorts in the broader S&P 500, according to Vanda data.
2. There are less crowded trades out there
Investors should watch out for less crowded trades.
Airline stocks may fit the bill here, Malhi said. Though the US consumer pulled back on spending last month, the underperformance in airline stocks was partly due to the rise in oil prices, which raised costs.
But crude prices have eased in recent weeks, which could make the airline industry more attractive, Malhi said.
Meanwhile, shorts on airline stocks are nearing a two-year peak. That could be a possible sign investors are too bearish on the industry, Malhi suggested.
"This is where the short-term opportunity for airlines looks more compelling," he added.
3. Be aware there's a short runaway for stocks to rise
Gains could be strong but fleeting, and investors may not be able to ride the upswing in equities for long, Malhi warned. That's because the market may soon start pricing in a slowdown in the US economy, reflecting weaker potential upside in 2024.
"To be clear, there is a short runway in which equities can rally, between now and when the market prices a recession," Malhi said.