If you are like me, you must be wondering if sentiment will ever show the potential for a sustained correction. This week as I take a three month look ahead for the options open interest, the results may surprise you. Also this week I will show an update for the VIX Call Indicator and a back test for the mid-2015 topping period.
I. Sentiment Indicators
Looking back to 2015 for the SPX indicators, the overall Indicator Scoreboard shows a sharp drop in bearish sentiment with the st EMA (green) approaching the SELL area, but the lt EMA (blue) expected to drop to the -7/8 area seen in late Oct 2015 and late Apr 2016 before a downturn.
The Short Term Indicator (VXX $ volume and Smart Beta P/C) has also dropped sharply and comparing the run up in sentiment to the Aug 2015 flash crash of 200+ SPX pts, it is now at a level comparable to late Oct 2015, or about 50 SPX pts from the rally high.
Looking more closely at the ST Indicator components, for the Smart Beta P/C) the 5 dy EMA (green) should give a SELL with the 20 dy EMA (blue) reaching .55-.60 before a SPX top is reached.
With the VXX $ volume an EMA decline for the 5 dy to .70 and for the 20 dy to.80 is expected before an SPX top.
Looking at the SPX ETFs SPXU/UPRO we are nearing levels of other 2017 tops with increasing likelihood that a major top is near due to the duration of time close to the SELL level.
Moving on to bonds (TNX) bearish sentiment triggered a SELL when rates dropped near the 2.0% level, indicating that a significant change in trend may be occurring as the decline since the beginning of the year has retraced about 38% of the run up in rates from July thru Dec of 2016.
For the gold miners (HUI), sentiment remains moderately positive with the EMAs hovering around .80.
II. Options & Open Interest
First, I want to look at the VIX Call Indicator today and for mid-2015, then look at the SPY and VIX open interest for Oct, Nov and Dec. Below you can see that the VIX Call Indicator has flattened out near 0.1 as the SPX rallied over its 20 dy SMA. We saw the same pattern in early Feb as the SPX rallied for another month into the early Mar high which produced a VIX Call Sell signal.
As a back test for the VIX Call Indicator, this shows the mid-2015 topping pattern from early May thru Aug 19 (day before flash crash). Here, there were no Buys (dumb money buying at bottoms), but otherwise nailed three of four tops (rise of .5 or 50% of mean), only missing the late July decline with a rise of only .4 or 40% of mean.
Moving on to the options open interest, for the quarterly outlook I will start with the VIX since that gave us strong warning of the Aug decline. The most likely for Oct 18 would normally be 13-14 but since we have already reached 10, negative delta hedging from the puts at 11 & 12 are likely to keep the VIX low.
For Nov 15, the smaller number of puts could allow the VIX to rise, but would probably be limited to the 13-15 range.
For Dec 20, we see that puts may pressure the VIX up to 15, but calls offer strong resistance at that level. So overall, a moderate rise in the VIX seems likely thru Dec, but not as sharp as in Aug.
Looking at the SPY monthlies, the larger number of calls between 250 and 255 should pressure the SPY downward toward 247/8, but once over 250 positive delta hedging is likely to push prices upward to the 254/5 level. SPY 250 is somewhat easier to reach due to the large number of puts there,
For Nov 17, the large number of calls at SPY 250 and over relative to puts is likely to push prices below 250 with most likely at 248/9 and 246 possible.
For Dec 15, the range between SPY 246-49 is most likely, but the large position of puts and calls at 245 may end up creating a negative delta hedging situation opposite of the 250 area for Oct - if that happens a drop to 241-3 seems likely.
The short term outlook for the SPY is bimodal due to the possible positive delta hedging over 250 that would likely keep prices higher, so the following only works if price drops below SPY 250.
For Wed, the most likely is SPY 249.
For Fri 22nd, a move to 248/9 is likely.
For Fri 29th, a move below 248 is likely and could fill the gap at 246.
Conclusions. I am going to focus on the quarterly outlook since the short term is somewhat ambiguous. Overall sentiment has declined considerably from the extremes of a few weeks ago, but does not indicate a top is in place. The ST indicator is consistent with an additional rally of SPX 40-50 pts as is the Oct SPY options OI. The VIX Call Indicator is also similar to early 2017 which was followed by a month long rally before generating a Sell. Together sentiment is consistent with a rally to SPX 2540-50 by mid-Oct. The VIX options OI for Nov-Dec shows a possible rise to 15ish, while the SPY options OI indicate that Nov and Dec could see a decline to the low SPX 2400's. Together the options OI point to a weak end of year for the SPX but not a lot of volatility, while the SPX ETFs SPXU/UPRO warn that there may be a major top in Oct.
Weekly Trade Alert. Last week was somewhat stronger than expected, but given the previous week's drop to fill a gap at SPX 2458 went to 2445, on Mon's Twitter update before the open I posted a 2486/7 target for Wed and Tues after close indicated the possibility of a meltup. We could be preparing for a repeat of BitCoins rise from 4000 to 5000 and reversal in the SPX. Not worth the risk of trading to the upside, wait for VIX Call Sell to Short. Updates @mrktsignals.
Short Term Trading Observations, update 2017.09.05, "new put" support is bearish
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