Beware: Monday Morning's Minor Bounce Is Likely a Trap

Bull Trap

Following a brutal week in which both the DJIA and the Nasdaq Composite entered technical corrections with drops of more than 10% from their highs, there is a little oversold bounce on Monday morning. Oil is higher, but the market is largely ignoring it, on the faint hope that progress will be made in U.S.-Iran cease-fire talks.

Despite the positive action, there are few signs that a quick resolution is coming, and the likelihood is that trapped bulls will be looking for exits into strength. If you are expecting the market to go straight back up be ready for some disappointment.

The War Keeps Expanding

The Houthis have formally entered the conflict and have sent ballistic missile attacks toward Israel. The group pledged to continue fighting in support of resistance fronts in Palestine, Lebanon, Iraq, and Iran. That is another new development to monitor and adds the danger of further damage to Red Sea shipping.

U.S. troop levels in the region now exceeded 50,000, with the arrival of 2,500 Marines and 2,500 sailors from the 31st Marine Expeditionary Unit.

The Uranium Problem

The most troubling news this morning is The Wall Street Journal report that President Trump is reviewing a military operation to seize approximately 450 kilograms of highly enriched uranium from Iran's Isfahan and Natanz facilities. Trump has not yet made a final decision and is weighing the risks to U.S. forces, but he has expressed support for the plan because it could fundamentally block Iran from acquiring nuclear weapons.

U.S. forces would have to fly under fire from Iranian drones and missiles to reach the two sites, with combat troops holding a perimeter while engineers and specialized teams sifted through rubble, scanning for mines and booby traps. The uranium is expected to be stored in 40 to 50 specialized containers requiring protective transport containers and truck transport before being airlifted out of the country. This is not a quick-in-and-out kind of deal and will put many lives at risk. Trump told reporters that Iran must comply or "they're not going to have a country."

The News Flow Can't Be Trusted

The news flow about Iran will continue to jolt the market. It is changing quickly and is extremely difficult to trust. Trump's optimistic comments fueled the TACO trade early last week, but the market is now much more skeptical about claims of progress.

Trump's envoy Steve Witkoff said Friday that he believed Tehran would hold talks with Washington within days, and will use a 15-point plan as a framework. That kind of headline gives the market a boost until the next headline contradicts it and highlights more obstacles.

The Bear Case: Oil and Stagflation

The bear case for this market is that oil prices have risen by around 60% in the past month, and option activity is actively anticipating a spike to $150. Iran has largely choked off traffic through the Strait of Hormuz, which carries about 20% of the global oil supply. The bears believe that the market has not fully discounted the disruption, and there is a high likelihood of continued negative surprises.

A related concern is that oil will not only create inflationary pressures but will also slow economic growth. Interest rates are starting to tick lower on the belief that weaker growth will cool some of that inflation. That is a stagflation scenario, and if it persists, it will not be market-friendly.

The Bull Case: Ackman and the Peace Dividend

Famed hedge fund manager Bill Ackman outlined the bullish view in a post on X:

"Some of the highest-quality businesses in the world are trading at extremely low prices. Ignore the MSM. One of the most one-sided wars in history that will end well for the U.S. and the world. And we have the potential for a large peace dividend. One of the best times in a long time to buy quality. Ignore the bears."

That view is supporting the market and preventing panic selling. Ackman is likely correct. The problem is timing. How long will it take before the market starts to embrace that optimistic scenario?

Wait for the Price Action

No one can time this action with any great precision. My suggestion is not to try to nail the turn. Wait for the price action to signal that sentiment is shifting. There will be plenty of time to load up your favorite stocks when we start to see technical improvement in the indices. Typically, once the big picture improves, conditions for individual stock picking become very favorable.

Buyers anxious to catch bottoms and quick counter-trend bounces tend to focus mainly on indexes and mega-cap names. Stock pickers focused on value tend to lag as they wait for higher-conviction entry points.

The Magnificent Seven ETF (MAGS) has been one of the worst-performing groups in the market recently, but it is leading the bounce action Monday morning. It is premature to trust that action, but a bounce is a good first step toward finding good support.

At the time of publication, Rev Shark had no positions in any securities mentioned.