Saturday, March 25, 2017

The Next Big Move is Likely to be Up

Prelude: Why Businessmen Don't Make Good Presidents
Watching the melodrama this week over the Republican health care plan reminds me of the effectiveness of dirty politics as displayed by Kevin Spacey in Netflix's House of Cards.  One thing that Trump is not is a politician and what the House of Cards shows is that the art of manipulation is the secret of success for a politician.  If the Republican tax plan suffers the same fate, we could see a repeat of the August 2015 meltdown.

This week I want to start with the short term view (2.5, 5, 10 day EMA) using the Short Term Indicator (VXX $ volume and Smart Beta P/C) as it correctly gave a SELL on Monday's close and may provide some insight on what to expect going forward.  All charts this week will start Jan 2015.

Specifically, I want to focus on the two periods circled in the chart shown below.  Last week, I showed that bearish sentiment with a spike in the Skew preceded several large declines over the past 3 years.  The June-July 2015 period is starting to look like the current period, where an SPX top (2400) was followed by a second top (2390), several days of small declines then a 40 pt drop, a weak rally of about 25 pts, then a lower bottom.  What followed over the next two weeks was a very strong rally, slightly exceeding the lower top.

The significance comparing this period to today is the similarity in sentiment using the Short Term Sentiment Indicator shown below.  Both the early July and December 2015 declines of about 80 and 100 SPX pts, respectively, were enough to excite the bears into generating a strong short term sentiment BUY that lead to strong short covering rallies prior to the real decline.  The three days following the Tues selloff were enough to bring the ST EMA (green) to a BUY and next week I expect the LT (blue) to follow,  Finally, ST SELLs were generated later by the rally before the larger decline.

Using the June-July 2015 period as an analog (closeup) to the current period (closeup), this would mean a lower low mid-week with a break of the 50 DMA similar to a break of the 200 DMA in 2015, some whip sawing, then a two week rally into mid-April.  My conservative target for the low is 2325ish for the low and SPX 2380-90 with a possible ATH for the high.

Regular Analysis

The overall Indicator Scoreboard has also moved up sharply as bearish sentiment, especially put/call ratios, are showing high levels of fear.  Given the low starting levels only ST (green) and IT (red) may reach the BUY zone.

To support the view that only a ST short covering rally is expected, I'm including one of the money flow (ETF) measures for the 3x SPX ETFs SPXU/UPRO.  Here, you can see that bearish sentiment is well below the levels of either of the 2015 declines mentioned above.

Additionally, one of the MISC indicators, the TRIN, continues to spike, now approaching the levels of Nov-Dec 2015.  This shows declining volume support as a measure of net advances/net advancing volume.

Bond sentiment (TNX) remains little changed, making me wonder if potential problems in the stock market may be more politically than interest rate driven.  Next week, for instance, Article 50 for the BREXIT is set to be triggered, which may cause some turmoil for a couple of days.  Next on May 7, France has their presidential election, and although Le Pen is considered an underdog (like Trump), her support for FREXIT may also cause some turmoil.  Then of course in the US, we face the debt limit and tax cut agenda.

Finally, bearish sentiment for gold stocks (HUI) has dropped sharply, leaving little support for higher prices.

Conclusion.  It did not take long for the $SKEW to show its effect last week, and it still remains at very elevated levels.  I was distracted by the intermediate view of the Short Term Indicator not reaching the SELL level, so have now switched to the shorter EMAs which have been more accurate short term.  More and more evidence is lining up for the beginning of a strong decline and the early May period still appears to be a point of high risk.

Weekly Trade Alert.  Looking for a BUY signal for a short term rally to SPX 2380-90 or higher with the ST indicator.  I will be posting premarket updates for next week starting Tues on Twitter, @mrktsignals.  Long SPX 2325ish, stop 2315, target SPX 2380+.

Sunday, March 19, 2017

Is the High Skew a Warning Sign?

This week I am going to do something a little different since there has been little change in most of the indicators.  The $SKEW, however, has been accelerating higher the last two weeks reaching both a daily and moving average high since my database began in July 2010.  Thanks to the faithful viewers as my pageviews passed 100K last week.

This week will start with a special report on the Skew, a measure of out of the money option premiums. Typically, the Skew is considered to be a bearish indicator when it spikes because it means that option buyers are willing to pay large premiums for out of the money puts, but what I found going back to 2011 was that markets go up as often as down when the Skew spikes, but the moves are typically larger than normal. The conclusion I reached was that the direction of the price move depends on whether the premiums are set by dumb money (put buyers or speculators who by puts after a significant decline) or smart money (option writers who demand extra premium when they see high risk of large declines).

To measure this effect, I looked at the period from July 2014 to the present, overlaying the Indicator Scoreboard (wtd composite) with the Skew.  Here, I identified five periods where large price moves followed spikes in the Skew.  The Indicator Scoreboard is the top chart and the Skew is the bottom chart.  The two red bars (SELL and high Skew) were followed by declines and occurred in Sept 2014 before the Oct crash and Nov 2015 before the Jan 2016 crash.  Interestingly the last three green bars (BUY and high Skew) occurred in 2016 and were each followed by large rallies, including the Jan low, the BREXIT low, and the US election low. The recent red bar for the current period represents both the strongest SELL signal since 2011 as well as the highest Skew.

Overall this lends a lot of credibility of one possible scenario presented for the stock market in a rising interest rate environment, that is the 1987 scenario, where a six month rally saw a decline of twice as much the following six months.  This implies a possible retrace in the SPX to the low 1800s by the end of Oct.

Regular Analysis

The overall Indicator Scoreboard remains little changed.

The Short Term Indicator (VXX $ volume and Smart Beta P/C) is continuing its slow descent towards the SELL region, although it is so close that it may not matter.

Bond sentiment (TNX) has fallen back to the neutral zone.

Bearish sentiment for gold stocks (HUI) has fallen back below neutral leaving little support for further gains.

Conclusion.  The action of the $SKEW over the last two weeks has somewhat clarified the expected outcome of the Trump mania blow off, but does little to identify a top either in price or time.  Due to the influx of IRA money up to the Federal tax due date of April 15, we may see one more push higher.  Some cycles I have seen show maximum risk starting early May, six months from the US election.

Weekly Trade Alert.  Last weeks call for a top on FOMC Wed around SPX 2390 proved correct, but before the open I cancelled the SHORT on Twitter due to the Mon-Tue price action.  Lack of distribution diminishes the likelihood of even a short term pullback to SPX 2350.  On hold for now.  Updates @mrktsignals.

Sunday, March 12, 2017

So Close

An interesting thing happened last week after the SPX briefly exceeded the upside target of 2390 two weeks ago, reaching 2401.  Last week bearish sentiment actually went down as the SPX gradually fell to 2354 as the prevailing sentiment was "buy the dip".  As you see in the following sentiment charts, the same type of behavior occurred in July of 2015, before the August crash.  If the same behavior repeats, the markets may shrug off a rate hike by the FOMC next week since a decline then may be too obvious.  However, new highs may be marginal or non-existent before talks of additional hikes start pressuring markets lower by mid-May.  One key to watch is if the TNX exceeds the 2.8% level, last week jumping back to the 2.6% level.

Moving on to the sentiment charts, the overall Indicator Scoreboard continues to hug the low bearish SELL region.

The Short Term Indicator (VXX $ volume and Smart Beta P/C) briefly dropped to the lowest levels of the last six months, but still refuses to show total capitulation by falling to the SELL level.

Bond sentiment (TNX) raced higher as rates jumped back to the 2.6% level, but are considerably lower than was seen before the recent consolidation.  The 2.8% level is likely before the next pause.

Bearish sentiment for gold stocks (HUI) increased rapidly last week as prices fell towards the recent lows.  It is hard to predict, but I would expect some period of consolidation before the lows on the HUI at 160 are taken out.  This may coincide with the larger move down in the SPX as last week showed positive correlation between the two sectors.

Conclusion.  Since developing my sentiment model, I have found that sentiment can be as hard to predict as stock prices; but if current trends continue, the top may already be in, however, a significant decline may be weeks away.

Weekly Trade Alert.  It has been a few weeks since an opportunity for a trade consistent with sentiment was available.  This week a move up to or above the SPX 2390 level, likely on FOMC Wednesday, is a SHORT with a stop just above the recent highs at SPX 2401 and a target the recent lows around SPX 2350. Updates @mrktsignals.

Sunday, March 5, 2017

Chasing the Dream

Of the three main markets I follow, general stocks, bonds and gold stocks, gold stocks continue to be the most closely conforming to sentiment signals.  The SPX is starting to look more like bonds, sentiment wise, as bonds continued to rise (TNX fell) from Oct 2015 to Oct 2016 then fell 20% over a matter of a few weeks with sentiment still below neutral.  The only reason I am bring this up is that the Short Term Indicator refuses to show SELL spikes seen at recent tops, allowing for just enough bearishness to push prices higher absent any negative information.

The overall Indicator Scoreboard continues to hug the low bearish SELL region, but as seen in the bond chart below this may continue for a while.

The Short Term Indicator (VXX $ volume and Smart Beta P/C) remains at very low levels, but refuses to show total capitulation by falling to the SELL level.

The intermediate SPX ETFs (SDS/SSO) is also in a similar pattern to the Short Term Indicator.

The other MISC indicators, VIX P/C and TRIN, reversed the trend from last week.

Bond sentiment (TNX) remains in a range around the neutral zone as rates continue to trade in a narrow range.

Finally, sentiment for gold stocks (HUI) has started to rise as gold stocks fell over 10% over the past week following the recent SELL signal.

Conclusion.  The stock market is very extended sentiment wise but there is no definite indication of a short-term top.  One of the scenarios I discussed several weeks ago was the 1987 period, which saw a 20% run up in six months and then a 40% decline the following six months, this may be one of those times.

Weekly Trade Alert.  None for this week.  Updates @mrktsignals.