Saturday, August 19, 2017

Upside Surprise Ahead?

The market may be ready to throw a curve ball.  My call to short at SPX 2490 two weeks worked out better than expected as last weeks rally failed to meet my lower target of 2480, then continued lower.  The surprise may be a low next week around SPY 241 (SPX 2405-15), making the entire decline an abc, and for EW would then point to new ATHs.  Supporting this possibility are sentiment extremes and options open interest.

I. Sentiment Indicators

As a followup to my long term sentiment outlook from two weeks ago where I showed similarities to May of 2015, the recent decline has now put sentiment in a position similar to mid-July 2015.  I will use 2x EMAs.

The overall Indicator Scoreboard, which rose from a low of -8 to +6 or 14 pts from May of 2015 to the early July lows, has currently risen from -12 to +2 also 14 pts in just two weeks.

The Short Term Indicator (VXX $ volume and Smart Beta P/C) has risen from almost identical lows to slightly higher highs comparing the 2015 and 2017 periods.  More importantly after the 2015 July lows the SPX rose 90 pts the next 7 trading days.

From a longer term perspective, however, the SPX is still in trouble as the ETF bearish sentiment for the SPXU/UPRO ETFs has barely budged.

Switching back to the normal period and EMAs for bonds and gold stocks,
not much has changed.  For bonds (TNX) a slight decline in rates saw a small rise in bearish sentiment.

While for gold stocks (HUI), bearish sentiment is inching upwards to a level that might support slightly higher prices.

II. Options & Open Interest

The VIX Call Indicator continued to climb last with the rise from the lows due to "dumb money" buying after the decline started to an increase equal to that seen at the Apr lows.  (Note each unit is 2% for SPX).

For the options open interest, I am going to look at the SPY, VIX and GDX thru Oct.  For next week Wed for the SPY shows a most likely pin at 246 if we make it over 245, but delta hedging is likely to push prices to the 241 level early in the week from the current 242.7 level.

For the SPY Fri, the much larger put size is likely to put a floor at 240 and pressure prices upward with the potential for an explosive move to 247-8.

The following Fri shows the potential for a drop back to the 241-4 level with the overlap from 244-7 similar to what we saw from 245-7 last week, but the relatively larger put size indicates a hold at 247-8.

For Sept 15, the most likely outcome would be a pullback to the 243-5 area, but delta hedging could easily push prices higher to 249.  Remember the option expiration high of Sept 2014 that saw a 10% selloff the next three weeks.

For Oct 20, there is a lot of put support from 240-45, but not much below 240.  The most likely close seems to be 248, so no crash seen here.

Moving on to the VIX for Sept, the large number of calls are likely to keep the VIX pinned between 13 and 14.

For Oct, the most likely pin is also between 13 and 14, but there is little resistance above 15 until 25, so this would seem to at least allow the possibility of a crash.

For GDX in Sept, there seems to be a firm fix at 23, but delta hedging could push either way.

For the GDX in Oct, the outlook shows a firm floor at 23, but much more potential for an upside breakout.  If considered a safe haven, this and the VIX makes Oct look like a potentially dangerous month for the SPX.

Conclusions.  It appears that the Aug selloff has opened the way for clear sailing into mid-Sept, but Oct remains a question mark.  Most EW analysts seem to be expecting a repeat of last week, but the principle of alternation warns us that it may be different.  So I am looking for a weak start to the week, but a strong move into Labor Day that may test the ATH.  Looking out further, we seemed to skip a couple of months of consolidation compared to 2015, so with alternation we may consolidate after the sharp run up in sentiment at higher levels if we make it thru Oct.

Weekly Trade Alert.  Looking for Mon-Tues move down to SPY 241 or SPX 2405-15.  May test SPX 125 SMA (current 2407) then rally into Labor Day weekend.  Long SPX 2410, target is 2480+, stop 2400.  Updates @mrktsignals.

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