My market risk indicator is warning today. That changes the portfolio allocations of the Long / Short portfolio and the Volatility Hedged portfolio to 50% long high beta stocks and 50% aggressively hedged. An aggressive hedge is a vehicle that benefits from higher volatility such as put options, or volatility ETF/ETNs like VXZ or XVZ. Please note that XVZ is thinly traded so limit orders (and likely several small purchases) would be prudent. Use your own discretion in which product you use…and as always never buy a product you don’t understand. If you’re using put options our portfolio allocations indicate that you should fully cover your portfolio at or near the money. Use your own discretion in term structure, but be aware that I look to mid term (4 to 7 months) puts first. If you’re uncomfortable with volatility or put options an actively managed bear fund like HDGE is a short option to use as a hedge. It will likely offer more protection than a simple short of the
I’m starting to see signs that market participants are abandoning their losers and pressing their shorts. When this occurs near all time highs it often means some pain is ahead for the major indexes. Here are some charts that serve as examples. First is NYSE New Highs / Lows. New lows have now risen above the point when the S&P 500 Index (SPX) was making lows in early July and last December. This indicates market participants aren’t bottom fishing. Instead, they’re abandoning positions that are causing too much pain. Another point of interest in this chart is that NYSE didn’t recover much from both June and July lows. This type of divergence from SPX is troubling. The Russell 2000 Index (RUT) and Dow Jones Industrial Index (DJIA) are also showing negative divergences from SPX. Next is a chart that compares a short of the S&P 500 Index (SH) and an actively managed bear fund (HDGE). SH has fallen to new lows while HDGE is holding up. This indicates that traders
Last week I mentioned that my intermediate term indicators strengthened while some short term indicators that I follow were showing weakness. This week I’m seeing the short term indicators right themselves and the intermediate term indicators continue to strengthen. This increases the odds that the market will finally break out of the current range to the upside. Of course, price is truth so 2120 on the S&P 500 index must be decisively broken to the upside (along with the current Dow Theory line breakouts) for confirmation that the next intermediate term trend is underway. One positive indicator comes from support and resistance levels generated from the Twitter stream. Traders are now tweeting higher price targets which indicates they’re putting on bullish trades. Another positive sign this week is NYSE new highs are rising and new lows are falling as the market gets close to new all time highs. We still want to see new highs break its recent down trend for confirmation that investors are willing to buy shares that
Once again our core measures of risk are negative. They’ve been there all week long. I suspect that it will take a close above 2050 on the S&P 500 Index (SPX) by Friday to get the category positive. That’s about the point where SPX has been when the risk measures flip. If they are negative on Friday the Long / Cash portfolios will go 100% to cash. The hedged (Long / Short) portfolio will be 50% long high beta stocks and 50% short SPX. Our market risk indicator has three of four components warning at the moment. The fourth component continues to slowly fall, but hasn’t gone negative yet. The volatility hedge is still 100% long and will stay that way unless the fourth component falls by the end of the week. One thing I’m seeing is a lot of mixed signals…I’ll post more about them on Friday, but here are a few examples. NYAD advance / declines are acting well, but the percent of stocks above their 200 day
The last dip in the market caused some damage to the psyche of market participants. So much so that they are exhibiting signs of reducing risk in a variety of ways. Here are three examples. First is high quality bonds (LQD) against junk bonds (JNK). The damage done to junk bonds in July and October isn’t being repaired. People are shying away from junk. Which means they’re starting to get worried about cash flow and the ability to repay debt by middling companies. I’d like to see JNK start to mirror LQD again to give an all clear signal. Next is high beta stocks (SPHB) against low volatility stocks (SPLV). The October sell off did a lot of damage to high beta stocks that was largely recovered, but low volatility stocks held up and have sped to higher highs. This indicates some rotation to safety during the last rally. A move to higher highs by SPHB will be the first step in repairing this relationship. Another indication of reduction of
In late September I showed a chart that I use for general clues about the market. It compares a short of the S&P 500 Index (SH), an actively managed short fund (HDGE), and mid-term volatility (VXZ). In that post I mentioned that even though SH wasn’t showing any concern, HDGE and VXZ were. HDGE was telling us that traders were shorting stocks and their shorts were working. VXZ was telling us that investors were getting concerned about performance of the market going into year end. That same chart is now telling me that this bounce is merely short covering by traders so far. HDGE is falling while SH is still rising. This indicates the worst stocks are being bought during this dip while big caps (S&P 500 Index – SPX) are still being sold. In addition, mid-term volatility (VXZ) is still holding up which tells us that investors are still worried about a decline going into year end. I’m seeing the same condition expressed by traders and investors on Twitter.
Our measures of trend have been bouncing back and forth across the zero line this week and are currently negative. If they are still negative on Friday we’ll be raising more cash and/or adding a larger hedge before the week ends. Here are some of the things I’m watching at the moment. The actively managed short ETF HDGE is currently rising even though a simple short of the S&P 500 Index (SH) is trending lower. This indicates that shorting selected stocks is starting to work. This often happens before the general market falls. In addition, mid term volatility (VXZ) is rising as well. This indicates that investors are getting nervous going into the end of the year. Small cap stocks (IWM) broke below the triangle I’ve been watching with an associated break in momentum from traders on Twitter. The negative gap in breadth between small and large cap stocks continues to grow. While everyone is watching small cap stocks I’m seeing deterioration in large caps under the cover of new
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
The Active Bear ETF (HDGE) is rising, a short of the S&P 500 Index is falling (SPX), and mid term volatility (VXZ) is falling. It tells a simple story. Shorts are working, but not affecting the market, nor causing any fear.
Although I don’t see very many near term concerns in the market, we are seeing some cautiousness by longer term investors. One of the things I like to watch is a comparison between a S&P 500 short (SH), an actively managed bear fund (HDGE), and mid term volatility (VXZ). As the market started to decline at the first of May we saw a slight rise in HDGE which signaled that people were starting to short the market, but were being cautious in pressing them. At the same time VXZ started to rise much more rapidly, which indicated that investors who hedge their portfolios with futures or options further out on the curve were adding protection. VXZ rising shows investors placing bets that the market will become volatile sometime over the next four to seven months. The taper talk by Bernanke caused another surge higher in VXZ as people started targeting September to December as the beginning of the end of QE. Once other Fed officials started making dovish comments much