Last week I mentioned that the nature of the bounce would tell us if we’re headed to new highs or seeing a failed rally. As of this week we’re on track to see new highs…if Russia and Ukraine will just cooperate. The underlying indicators I watch are improving enough to support a move to new highs, but the fear of a larger war in Ukraine is putting a drag on the bounce. As a result, risk is the most important indicator to watch at the moment. Even with world tension our market risk indicator backed away from a warning last week. Now only one of its four components is warning (and it has turned back up). Our core measures of risk continue to signal all clear. Fear of risk is moving the right direction and should support the market in the absence of bad news. The ratio between VIX and VXV improved last week, but still couldn’t get back below .9 to signal the rally should continue. It was below
Over the past week our core market health indicators bounced around a bit, but had no significant changes. Our risk indicators abated even with the events in Ukraine. Overall the situation is the same as the last several weeks where our core indicators show a stable underpinning for the market, but risk is fluctuating with news events. It appears that the market wants to go higher if world leaders would cooperate. Since all of our core indicator categories are above zero and our risk indicator isn’t signalling we continue to be 100% long in all portfolios.
I’m starting to see some positive signs that the dip is behind us. First is Elder Impulse for the S&P 500 Index (SPX). It has a tiny blue bar for the week. If it can hold or move to green by Friday it will be a very good sign. Next is the ratio between VIX and VXV. If fell below .9 today. It needs to hold below that level for the rest of the week to signal the worst is behind us. The next two hurdles to cross are from price on SPX. The 50 day exponential moving average is where the market closed today and the 50 day simple moving average is near 1955. In addition, the most tweeted levels for the market are near the 1955 area. If those two levels are surpassed then the odds will favor an advance to the all time highs.
It’s looking like the market is ready for a bounce. The nature of any bounce will tell us whether we should expect new highs or if the rally will fail. Here are some of the critical charts I’ll be watching over the next week or two. A chart I show often when the market is starting a move lower is the ratio between near term volatility (VIX) and mid term volatility (VXV). Spikes in this ratio show immediate fear is greater than longer term fear. They are usually associated with an event or a sudden recognition of danger by many market participants. When the market bounces out of a short term low this ratio can help us determine if near term fear is subsiding or lingering. Over the next few weeks we want to see it fall below .9 to give the all clear signal. If it can’t move below that level the odds favor more downside ahead. This indicator couldn’t clear the warning two weeks ago and signaled that
Over the past week our core health indicators bounced around a bit. Some were up and some were down, but nothing too significant emerged. The category that the fell the most was our measures of trend. Our measures of risk backed off a bit and appears to be in a holding pattern. Overall, I’m seeing slowly deteriorating indicators in our core categories, but larger moves in ancillary indicators and measures of risk. This puts us in a situation where it’s all about risk and how it affects market participants. Our market risk indicator still has two components warning and two close enough to warning if the market suffers a sharp drop next week…or before the close today. However, three of the four components turned up (lower risk) this week even with the volatility in the market. What I’m seeing is the longer term indicators of risk fighting the shorter term. None of our indicators moved enough to change or core portfolio allocations. We’re still 100% long and will stay that
It’s probably too early to break out this chart, but I thought I’d show it anyway. Usually when the market falls steeply over a few days then consolidates for several days it is only the half way point of the move. Today it looks like we fell out of the consolidation range. As a result, my back of the napkin math targets roughly 1860 on the S&P 500 Index (SPX) as the next stop for this move. You’ll note that during 2013 the pattern failed a couple of times. The failures are similar to many other indicators in 2013. Nothing that predicted lower prices worked. If the market is starting to turn over then I expect to see indicators like this pattern start working again.
I’m starting to see more things that suggest the worst isn’t behind us. The churn during March and April didn’t show big signs of fear or mass selling. Some of the measures of breadth I highlighted this week like NYAD didn’t turn down with the market for example…and has now turned down. Another way to look at the strength of the market, fear, and amount of selling is by comparing various “short” ETFs. During March the only ETF that was affected by the churn was the actively managed bear fund (HDGE). It moved slightly up, as the market moved sideways to up and mid term volatility fell. The falling volatility showed that market participants weren’t afraid of a longer term market top, but saw the market action as rotation. Fast forward to today and we see a different picture. The market is falling (SH rising), shorts are working (Active Bear – HDGE) is rising, and people are pushing mid term volatility up (VXZ). This shows broader based selling and more
Over the course of this year I’ve been consistent in repeating that I didn’t think the market could suffer a correction unless breadth broke down. Even though many other indicators have warned on and off this year, breadth has held strong. This week the picture changed a bit. First let’s look at the breadth indicator that warned first. The ratio between the S&P 500 Equal Weight Index (SPXEW) and the S&P 500 (SPX) warned in early July when it broke below its 20 week moving average. It turned back up this week but as a result of large caps selling faster than small caps. When a ratio turns up I like it to result from upturns in the numerator and denominator so this upturn isn’t exactly positive. The NYSE Advance/Decline line (NYAD) is currently experiencing its largest decline in a year. This indicator shows that since the first of July there has been broad based selling as more stocks are declining than advancing. Other declines in the market this year
Over the last week most of our market health indicators fell slightly, but didn’t suffer enough damage to make any changes to our core portfolios. Our measures of risk showed a large amount of concern from market participants, but didn’t fall below the zero line. Our Market Risk Indicator has two of the four components warning. The other two components moved rapidly toward signaling yesterday, but have backed off a bit today. As a result, our risk indicator shouldn’t warn today unless the market falls sharply in the last hour. One interesting thing of note is that our risk indicator almost never signals without at least one of our core indicators warning as well. The only instance since 2000 was on 9/19/2008. With modest strength in our core indicators and no risk signal our portfolios will remain 100% long for at least another week. Any changes next will will almost certainly be a result of a continued decline that triggers our risk indicators. Below is a chart with our current health
Today didn’t do much damage to our core indicators, however, two of the four components of our Market Risk Indicator are warning. A third component is very close to warning and it won’t take much to trigger it. The fourth component is further away and will take a sharp down day like today to make it warn. I just wanted to give you warning that there may be changes to the core portfolios tomorrow (Friday). I’ll update the site and post to Twitter and StockTwits by 3 PM Eastern what our allocations will be going into the close. IF the risk indicator signals the hedged portfolio will go 50% long and use the other 50% to hedge with a mid term or dynamic volatility instrument like (VXZ, XVZ, or VIXM). If you don’t like volatility ETFs then a managed short fund like HDGE is an alternative. For those of you who use put options the strategy would be to stay 100% long, but cover your complete portfolio with intermediate term