It’s “RISK-ON” BABY!

That’s the rallying cry from momentum traders who have been jumping into little-known, small-cap stocks and enjoying the rocket blasts higher over the past couple of weeks.

All you have to do is watch the ticker at the bottom of the TV screen when it’s tuned to one of the financial news stations. You can see some truly impressive moves…

Stocks like Carver Bancorp (CARV) and Urban One (UONE), for example, rallied from less than $2 per share to more than $12 and $35 respectively last week.

The rally wasn’t the result of any sort of favorable news or positive business development. It was caused entirely by momentum traders climbing over themselves to “get in the game.”

And the game can be hugely profitable in a “risk-on” environment – where traders focus on reward, and pay very little attention to risk.

That’s not my game, of course. I’m a little too old, a little too cynical, and a little too protective of my assets to play that sort of sport. But, I am happy for those who have been able to play and profit by chasing momentum.

Making money is a good thing.

Holding onto it is a good thing too. And, it’s with that objective in mind that I humbly offer just a small piece of advice for the momentum chasers…

When the environment shifts from “risk-on” to “risk-off,” you better be able to get out of the positions… fast.

Momentum is a double-edged sword. As we saw in late February, when the momentum shifts from bullish to bearish, things can get ugly in a hurry.

So, you need to be able to spot when the shift is happening. And the best way to do that is to pay attention to what’s happening in the high-yield bond market.

In a “risk-on” environment, high-yield bonds lead the market higher. When conditions switch to “risk-off,” these bonds lead the market lower.

The iShares iBoxx High Yield Corporate Bond Fund (HYG) has been running sharply higher for the past few weeks. But, the momentum has started to cool off a bit lately. HYG has been consolidating for the past several days.

The chart has been building energy. And, HYG looks set to make a big move, in one direction or the other, within the next few days.

The direction of that move will tell us a lot about whether we’re still in “risk-on” mode, or if we’ve shifted to “risk-off”.

Take a look at this chart of HYG…

This chart has formed into a tight, consolidating triangle pattern. HYG is approaching the apex of the triangle and is going to break out of the pattern – one way or the other – within the next few days.

If HYG breaks lower, then that will signal a shift towards “risk-off.” The stock market in general, and the high-flying stocks in particular, will likely follow HYG lower and we’ll probably get the pullback I’ve been warning about for the past several weeks.

On the other hand, if HYG breaks out to the upside of this pattern then it’s “RISK-ON BABY!” In that case, the rally isn’t finished yet, and momentum traders can keep playing.

We should know, one way or the other, within the next few days.

Best regards and good trading,

Jeff Clark

P.S. My colleague Teeka Tiwari, like me, is familiar with the “double-edged sword” in the markets. In a “risk-on” environment, we still need to heed caution and try to spot potential pitfalls…

You see, Teeka recently discovered a strange kind of “behavior” that billionaire traders use to get one over on the little guy. And, through his research, he’s found a way for everyday traders to gain an edge from this same pattern.

Tomorrow, June 25, at 8 pm ET, Teeka will be holding a special briefing to share these findings with you. Don’t miss out, and click right here to join.

Reader Mailbag

Have you been following the momentum trades for the past few weeks? Or are you, like Jeff, staying cautious until the market’s direction becomes clearer?

Write in your thoughts to [email protected], and we’ll look to feature your comments in a future issue.

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