How Investors Are Hedging The Fed

Market Summary

Investors appear to be hedging against a Fed rate policy decision by focusing on domestic growth stocks. In the updated perf graph below, the Russell 2000 index (RUT) small capitalization index is clearly outperforming the larger cap indexes after the Brexit vote. The Russell 2000 index is an index measuring the performance approximately 2,000 small-cap companies in the Russell 3000 Index, which is made up of 3,000 of the biggest U.S. stocks. The Russell 2000 is comprised of a specific diversified category of small-cap domestic stocks.

Stocks in the larger capitalization indexes have more exposure to overseas economies and are further impacted by volatile energy pricing. Higher interest rates are generally presumed to adversely impact large multinational companies more dependent on the global economy. Higher rates should strengthen the U.S dollar and have a negative effect on companies attempting to convert foreign currencies into dollars. Also, a stronger dollar puts U.S. companies at a competitive price disadvantage when exporting to overseas markets.

You can see in the graph how investors are buying smaller capitalization index stocks at the expense of large cap shares.  Investors concern about higher rates is also reflected in the relative under-performance of treasury bonds and gold stocks over the past few months.

By Gregory Clay

Investment Strategist

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Good Time To Hedge Bullish Positions

Market Summary

A standard chart that we use to help confirm the overall market trend is the Momentum Factor ETF (MTUM) chart. Momentum Factor ETF is an investment that seeks to track the investment results of an index composed of U.S. large- and mid-capitalization stocks exhibiting relatively higher price momentum. This type of momentum fund is considered a reliable proxy for the general stock market trend. We prefer to use the Heikin-Ashi format to display the Momentum Factor ETF. Heikin-Ashi candlestick charts are designed to filter out volatility in an effort to better capture the true trend. The updated chart below shows that, technically the stock market remains extremely overbought. It might be difficult for the major indexes to keep pushing higher until the overbought condition is absorbed. Also the chart highlights that the technical momentum indicator is stuck in neutral even as stocks continue climbing higher on a wall of worry. Putting hedges in place to protect long bullish positions is smart move in case the market follows through on the overbought technical signal.

Below is the S&P Sector ETF graph highlighting performance results over the last month. You can see in the graph below how technology shares have been the outstanding performer. The major concern is that the market advance is not broad-based. Tech shares leading the market higher are not dragging along the other S&P sectors which might indicate underlying market weakness. The smart move is hedge long-term bullish trades to protect gains in the event of a market pullback.

By Gregory Clay

Investment Strategist

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What's Propping Up Stock Market

Market Summary

A tool to help confirm the overall market trend is the Bullish Percent Index (BPI). The Bullish Index is a popular market “breadth” indicator used to gauge the internal strength/weakness of the market. Essentially it is the percentage of stocks that have buy signals. If the market is strong and moving up, the BPI should also be moving higher as more and more stocks are purchased. Nasdaq stocks are leading the market higher as quarterly earning numbers have enticed investors. Strength in technology and small cap stocks are primarily propping up the market. As long as the BPCOMPQ remains in an uptrend expect the overall stock market to remain near all-time highs.

 The Fed continues its Dovish outlook despite better economic data and a solid economy. You can see in the graph below how small and midcap stocks are holding up better than the large caps of the Dow and S&P 500 as group rotation into technology, health care and real estate continues to absorb any selling. The S&P 500 remains extended, and that’s one reason for the swap to the smaller cap and tech stocks.

By Gregory Clay

Investment Strategist

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Fed Inspired Risk On Trading

Market Summary

The rebound in stock prices and the new record highs set by the S&P 500 and the Dow Jones Industrials have had a positive impact on money managers. Other investors are encouraged by the sustained economic growth. A view that there is no viable alternative to stocks is contributing to the optimism. Giving reason for caution or pessimism is global economic uncertainty, the prevailing level of valuations and concern about corporate earnings growth. The presidential election and monetary policy are also impacting investor sentiment. Last week we reported "…The equity market is telling you the second quarter economy looks better than the first quarter," said Art Hogan, chief market strategist at Wunderlich Securities in New York. He said if earnings season, which begins in earnest next week, provides investors with a strong outlook; the S&P will likely break the record and has a chance at rallying from there. "The old high has been resistance and if you break it and see earnings growth and relatively good guidance, people will probably try to get in front of that," said Hogan…” In the 3^rd quarter graph below investors are trading “risk-on”, reversing the trend of buying safe-haven assets like gold and bonds and aggressively investing in all types of equities.

  

Trading Strategy

"The Fed is playing a huge part in this rally," says Sheraz Mian, head of research at Zacks Investment Research. Fears of a Brexit driven economic slowdown, which would put further pressure on earnings, have nevertheless (paradoxically) given investors a reason to buy stocks, Mian says. Investors would much rather buy high dividend paying stocks instead of continuing to hold U.S. government bonds paying historically-low interest rates. Over the next few weeks we will find out whether last week’s forecast comes to fruition when we stated “…According to the Stock Trader’s Almanac the average price tendency is for a summer sell-off that usually begins in mid-July and lasts until mid-October…Mid-July is also when we typically kick off earnings season, where a strong early month rally can fade…If this analysis plays out that might be another opportune time to bid on shares…” “We have had a really, really good week, and the market is getting tired,” said Mark Kepner, managing director of sales and trading at Themis Trading. “But bonds sold off a fair amount and the rally in stocks seems a bit long in the tooth. A pullback from here would not be surprising.”

By Gregory Clay

Trading Strategist

Beware Of Stocks Worst Six Months

Market Summary

The Dow and S&P 500 have not hit new all-time highs since this time a year ago. The major indexes are still about 5% below these peaks. Many market pundits believe that there are no compelling reasons for stocks to hit new records anytime soon. Investors should prepare for daily triple digit price moves. "Investors had gotten used to a low volatility environment but they have been rudely awakened. This could be the beginning of a multi-year period of volatility," said David Jilek, chief investment strategist at Gateway Investment Advisers.

“The markets are just treading water here. Normally markets rally on strong earnings and we've seen lackluster corporate earnings," said Stephen Kalayjian, chief market strategist of KnowVera. "A lot of companies are also talking about cost cutting and that usually means layoffs," he added. U. S. equities are at a critical juncture. May is the first month of the Worst Six Months for the stock market. Stocks made a brief high 4/20, then technical signals began to deteriorate. Weekly advancing issues on the NYSE have been falling the four weeks while declining issues have been on the rise and greater than advancers the past 2 weeks. New 52-week highs have expanded the past three weeks, but so have new lows, albeit not by much. 

The Ned Davis definition of a bear market requires a peak to trough decline of 13% or more after 145 calendar days. The 364 days since the last all-time-closing high is an issue. History shows that similar gaps between market peaks tend to bode poorly for the stock market's direction. "The longer the S&P 500 goes without registering a new high, the more likely that it is a bear market," Michael O'Rourke, chief market strategist at Jones Trading in Greenwich, Connecticut said in a May 16 note to clients. Starting with the S&P 500 closing all-time highs since 1929, finds 13 previous times where S&P 500 spent more than 1-year before closing at a new all-time high. With the exception of 1994, there was always a bear market. Using a 20% decline, S&P 500 avoided a bear market just 3 times out of 13. In other words, there is a 76.9% chance that the current all-time-high dry spell will not end before there is a 20% or greater S&P 500 decline.

  

Trading Strategy

The release of the FOMC minutes from the last meeting on April 27 suggested that a rate hike in June is quite possible. Inflation, retail sales, disposable income and the dollar index are on the rise in conjunction with a firm labor market. The Stock Barometer says the word June was used 8 times in the minutes in close proximity to the increased possibility of a rate increase, leaving open the possibility of an increase in the federal funds rate at the June FOMC meeting. It also mentioned, Perhaps a surprise hike from the Fed in June might be the straw that will knock the market down. As we suggested last week, it is critical to honor stop-loss plans and don’t be afraid to convert to a high cash position.

By Gregory Clay

Investment Strategist

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Be Careful During May Expiration Week

Market Summary

First-quarter earnings season is almost over and generally financial results have not been quite as dismal as anticipated for the S&P 500. But for June-quarter earnings, for every company that has given an upbeat preannouncement, 2.3 others have sounded warnings, according to Thomson Reuters I/B/E/S. That has left the S&P 500 trading at about 16.5 times expected earnings, according to Thomson Reuters I/B/E/S. "It's hard to make a case that you're going to have stellar equity market performance. In the context of low interest rates, equity valuations look about right," said Mark Heppenstall, chief investment officer at Penn Mutual Asset Management in Horsham, Pennsylvania. According to a J.P. Morgan report, bond yields’ staying low is actually now becoming the reason why stocks are struggling to perform. In other words, the same jitters about global economic slowdown that have pushed Treasury yields to multi-year lows are also preventing stocks from gaining substantial ground. In the chart below, energy shares exploded higher in the 2^nd quarter as oil and gas prices recovered from the recent bottom. The SPDR Gold Trust is by far the most popular of all ETFs in 2016, with new inflows of $7.6 billion to the $34.1 billion fund, according to FactSet.

  

The National Association of Active Investment Managers (NAAIM) Exposure Index represents the average exposure to US Equity markets reported by NAAIM members. The blue bars depict a two-week moving average of the NAAIM managers’ responses. As the name indicates, the NAAIM Exposure Index provides insight into the actual adjustments active risk managers have made to client accounts over the past two weeks. The current survey result is for the week ending 05/11/2016. First-quarter NAAIM exposure index averaged 45.89%. Last week the NAAIM exposure index was 67.66%, and the current week’s exposure is 49.55%. Recent analysis is confirmed where we said “…Portfolio managers’ will probably cash in some profits as the market is stalling which should further reduce NAAIM exposure…” As quarterly earnings season winds down money managers have become disillusioned with lackluster results and are using market up days to dump shares. 

Trading Strategy

As reported by the Stock Trader’s Almanac, trading around May option expiration is mostly a mixed bag. Only the first day of the week has a solidly bullish bias over the past 34 years. However, trading the rest of the week into Friday, and next week has historically been choppy. DJIA has been down nineteen of the last thirty-four May expiration days. This full-week has a 50/50 record over the same years. More recently, DJIA and S&P 500 have suffered declines in five of the past seven expiration weeks.Projecting that bond yields will stay low, J.P. Morgan analysts also recommended selling cyclical stocks, as their prices are affected by ups and downs in the economy. As the following chart shows, stubbornly low Treasury yields suggest sluggish economic growth, which in turn hurts cyclicals.  In the current environment it is critical to honor stop-loss plans and don’t be afraid to convert to a high cash position.

By Gregory Clay

Investment Strategist

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Why Stocks Should Breakout Higher

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Market Summary

The economic data in the U.S. continues to gradually improve, but this is having a limited effect on the stock market, as investors are fixated on the Fed. Fed Chair Yellen hosted a historic meeting with her three previous Fed chairs on Thursday and they reiterated little chance of a recession. Minutes from the most recent Federal Reserve meeting suggested the Fed was unlikely to raise interest rates before June. With quarterly earnings season beginning next week, we could see volatility creep into the market. Expectations for the upcoming quarterly earnings took a massive downgrade over the last few months. Analysts are projecting a third straight quarterly decline in earnings at S&P 500 companies, with a 7.6% year-over-year decline in profits forecast, according to Thomson Reuters data. Some strategists, though, expect more companies than usual to beat extremely low estimates, possibly helping stocks gain in the short term. While economists and analysts lowered their growth numbers, the economy actually expanded and the doomsday scenario has not materialized. This could set up another broad-based beat for corporate results as expectations are extremely low. Investor focus should shift next week from oil and the Fed to quarterly reports, said Peter Kenny, senior market strategist at Global Markets Advisory Group, in Berkeley Heights, New Jersey. "The Street is not expecting much in Q1 earnings, but right now the market is moving as a direct result of dovish commentary from the Fed and crude's ability to rally. That is good news for investors but I'm not sure how long of a shelf life that has," he said. The chart below displays the recovery from the market bottom in February for major asset classes. Notice the even though bonds and gold are the leading performers year-to-date, since the market crash investors have been aggressively buying riskier equity assets. This trend should continue if companies beat low quarterly earnings expectations and future guidance is not too dismal.

  

A standard chart that we use to help confirm the overall market trend is the Momentum Factor ETF (MTUM) chart. Momentum Factor ETF is an investment that seeks to track the investment results of an index composed of U.S. large- and mid-capitalization stocks exhibiting relatively higher price momentum. This type of momentum fund is considered a reliable proxy for the general stock market trend. We prefer to use the Heikin-Ashi format to display the Momentum Factor ETF. Heikin-Ashi candlestick charts are designed to filter out volatility in an effort to better capture the true trend. Last week we said, “…the market is moving higher on weak momentum. This indicates that buyers may be getting exhausted. The recent market surge has primarily been inspired by Fed pronouncements and not necessarily because of strong economic data…” As highlighted in the updated chart, the weak uptrend has converted into a trading range. Also noted is momentum starting to turn negative which should help resolve the overbought condition. Technical analysis rules say that stocks usually continue in the direction of the prevailing trend when prices move out of a trading range. Expect MTUM to break out of the current range to the upside if the longer-term uptrend remains intact.

Trading Strategy

The Stock Trader’s Almanac reports that April option expiration is generally bullish across the board with solid gains on the last day of the week, the entire week and the week after. Since 1982, DJIA and S&P 500 have both advanced 23 times in 34 years on expiration day. Both the S&P 500 and DJIA have been up seven of the past ten expiration days. Expiration week as a whole has a slightly more bullish track record over the past 34 years to expiration day. Average weekly gains are in excess of 1% for DJIA and S&P 500. The bullish bias of April expiration also persists during the week after. DJIA has posted a full-week gain in ten of the last twelve weeks following expiration. Historically April is usually a positive month for the market. The S&P 500 has been positive in April 70% of the time since 1945, and in the past 10 years, April has been the top-performing month. As we have been recommending recently “… An ideal trading strategy is to use price dips as an opportunity to buy shares on your stock watch list. Prices are bit elevated, therefore using spread strategies will help mitigate the cost of entering a trade…all systems are on go as all the major S&P sectors are positive over the past 30 days... We are currently in the middle of what is considered the “best six months of the year” for the stock market. We like undervalued or oversold shares to bid on because the current bullish trend has more room to run…” The updated graph below confirms this analysis is still valid.

By Gregory Clay

Investment Strategist

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Why Stocks Are Due For A Pause

Market Summary

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Stocks stalled this week after comments by U.S. Federal Reserve officials, who raised expectations for more interest rate hikes in coming months than investors expected. St. Louis Fed President James Bullard was the latest to join a chorus of officials who highlighted the chance of multiple rate increases this year. The deadly bombing attacks in Brussels on Tuesday added to investors' uncertainty this week along with a strengthening dollar that weighed on commodity-related shares. "After the run that we've had ... I think it's natural for folks to take a deep breath and take some chips off the table," said Jeff Buetow, president of BFRC Services in Charlottesville, Virginia. MKM Partners’ technical analyst Jon Krinsky published a report saying that since last July, the market has been trending for 25-30 days before pausing, and then switching directions. Over the last 26 trading days, the SPX has rallied 13%, bringing it just shy of the late December high (2081). This is almost an identical move in magnitude and duration to the September to November rally. If recent history is any guide, at a minimum, we should see a pause here.

Trading Strategy

The Stock Trader’s Almanac reports that over the past 26 years the DJIA and S&P 500 have declined 17 times and advanced 9 with an average loss approaching 1.0% near the end of March. Excluding advancing years, the average decline is right around 1.6% for DJIA and S&P 500. End-of-quarter portfolio restructuring likely plays a role as managers lock in any gains and establish positions for the next quarter. These declines can begin on either the fourth-to-last trading day or the third. As mentioned above, the market is probably due for a pause to absorb oversold conditions. We advise making sure a stop-loss strategy is in place for all open positions in case the pause turns into a significant pullback. Feb. 11th was the 2016 low for the stock market. As evidenced in the chart below, since the market low point, stocks have exploded higher. The rally is being led by higher risk stock sectors such as energy, materials, industrials, etc. Defensive sectors such as consumer staples, healthcare and utilities are lagging which confirms investors’ confidence in the current bullish move.

By Gregory Clay

Investment Strategist

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Fed Still Feeding The Bulls

Market Summary

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Feb. 11th was the 2016 low for the stock market. Since then easing concerns about slowing growth in China, as well as a possible U.S. recession, have triggered an explosive rally that in five weeks wiped out Wall Street's worst start ever to a year. After a sixth straight winning week the Dow Jones industrial average staged its biggest comeback from a deficit during a quarter since 1933. U.S. stocks erased losses for the year as the Federal Reserve's scaled-back path for interest-rate increases sparked demand for riskier assets. Crain’s reported that actions by central banks to stimulate growth have fueled a rebound in risk assets from equities to raw-material prices, after almost $9 trillion was erased from global stocks at the start of the year. The Fed's updated projections indicate two quarter-point increases this year, down from four forecast in December. “Never underestimate the power of the Fed to impact the markets. The doves are clearly winning the argument resulting in yesterday’s dovish announcement, which dragged the Fed back far more in line with market views on the potential for rate hikes in 2016,” said Richard Perry, analyst at Hantec Markets, in a note. For the week, the S&P 500 Index advanced 1.4% while the Blue Chip Dow Jones Industrial Average rose 2.2%. The Nasdaq added 1.0% while the small cap Russell 2000 crawled up 1.3% for the week. As confirmed in the chart below, the Fed’s dovish interest rate comments have stabilized treasury prices and continue to catapult gold stocks.

A standard chart that we use to help confirm the overall market trend is the Momentum Factor ETF (MTUM) chart. Momentum Factor ETF is an investment that seeks to track the investment results of an index composed of U.S. large- and mid-capitalization stocks exhibiting relatively higher price momentum. This type of momentum fund is considered a reliable proxy for the general stock market trend. We prefer to use the Heikin-Ashi format to display the Momentum Factor ETF. Heikin-Ashi candlestick charts are designed to filter out volatility in an effort to better capture the true trend. Last week’s analysis played out as advertised as we opined “…Next week is critical for determining the market trend…stocks are in a trading range. Most market technicians believe the most likely scenario is the MTUM will break out and continue higher in the direction of the current trend…” Technical analysis suggests there is still plenty of room for the uptrend to continue.

  

Trading Strategy

A few weeks ago we discussed the relationship between stocks and energy price when we said “…equity and energy prices have been trading in lock step all year. Market pundits have offered various analyses on why this is happening. There is usually unique asset classes associated with the movement of stock prices, e.g. dollar, bonds, interest rates, etc. Until this relationship is broken, some investors are observing energy prices as a clue to stock movement, especially for day trading…” Regardless of the driver, the oil rebound is putting Wall Street in a buying mood. The oil crash was viewed by many as a sign of impending economic collapse, causing the stock market to tank at the beginning of the year. But now the Dow has recouped all of its losses for the year, up from a stunning loss of nearly 2,000 points at one point. As mentioned previously, February 11^th was the market low and the graph below displays asset performance since. In the graph you can see the results since the February correction are equivalent to more than an entire year of gains. What’s notable is that the smaller cap higher risk stocks are leading the way, which confirms investors are committed to trading “risk-on”.

Last week we mentioned “…As reported in the Stock Trader’s Almanac… March’s option expiration week…has a bullish bias…However, the week after tends to be bearish for DJIA and S&P 500…” The Trader’s Almanac also says next week is a shortened trading week due to Good Friday and Easter. The days before Good Friday are generally positive and the shortened week also has a bullish slant. Rallies by industrial, raw-material and energy stocks helped the equity indexes climb all the way back from losses that reached over 11% a little over month ago. The graph below confirms our recent trading suggestions are working out as we said “…all systems are on go as all the major S&P sectors are positive over the past 30 days. As recession talk subsides and potential Fed rate increases fall off the table investors are increasingly willing to take on more risk…the best performing sectors are considered the highest risk equity classes. We are currently in the middle of what is considered the “best six months of the year” for the stock market. We like undervalued or oversold shares to bid on because the current bullish trend has more room to run…”

By Gregory Clay

Investment Strategist

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gregoryclay@nellaadvisers.com

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Investors Are Trading 'Risk On' Again

Market Summary

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An analysis by Bespoke Investment Group found that the stocks that have gained the most in this rally were the ones that had the most investors betting against them only a few days ago. Many hedge funds are pulling back from those gloomy bets. While there's a lot of momentum in the market, the global economy remains weak. The other damper on this rally is it's hard to sort out how many "real buyers" have been jumping back in versus hedge funds simply comvering their short postions. "So far the market's bouncing almost perfectly to work off the oversold conditions we saw last week. There's still a whole lot of overhead resistance," said Adam Sarhan, CEO of Sarhan Capital. "I think people feel the market's stabilizing to a certain extent," Peter Coleman, head trader at Convergex, noting the S&P 500 rallied more than 6% from its low last week to its recent high this week.

A tool to help confirm the overall market trend is the Bullish Percent Index (BPI). The Bullish Index is a popular market “breadth” indicator used to gauge the internal strength/weakness of the market. It is the number of stocks in an index (or sector) that have point & figure buy signals relative to the total number of stocks that comprise the index (or sector). So essentially it is the percentage of stocks that have buy signals. Like many of the market internal indicators, it is used both to confirm a move in the market and as a non-confirmation and therefore divergence indication. If the market is strong and moving up, the BPI should also be moving higher as more and more stocks are purchased. The Nasdaq Composite Bullish Percentage Index (BPCOMPQ) chart below highlights a price uptrend line. Nasdaq stocks tend to lead the market and if recent behavior is a guide, investors bidding up Nasdaq stocks usually lead to higher near-term stock prices.

 

The CBOE Volatility Index (VIX) is known as the market’s “fear gauge” because it tracks the expected volatility priced into short-term S&P 500 Index options. When stocks stumble, the uptick in volatility and the demand for index put options tends to drive up the price of options premiums and sends the VIX higher. The hourly Volatility Index chart below indicates that over the past week or so traders are becoming less apprehensive about the stock market. You can see that after reaching its highest level in the middle of the month the VIX is in a downtrend which coincides with the surge in “risk-on” trading.

Trading Strategy

As reported by the Stock Traders Almanac, over the last 21 years, the market’s performance in February has improved when compared to the longer-term record since 1950. DJIA has advanced in 14 of the last 21 February’s with an average gain of 0.4%. S&P 500 has a similar record, up 13 of 21 with a slightly weaker average gain of 0.1%. NASDAQ is slightly weaker, up 11 times over the same period with just a 0.01% gain. The real star in February has been the Russell 2000 small-cap index, up 12 of 21 with a 0.8% average advance. This outperformance is mostly due to the lingering January Effect. The bulk of February’s strength is usually located around mid-month, followed by a bout of weakness, another modest bounce and finally weakness the last two days of the month. Recent strength was a few days late this year and of greater magnitude. Should this February track the pattern from the past 21 years, some strength is likely early this week before the market begins to fade later next week. The updated graph below indicates investors converted to “risk-on” trading over the past month. Defensive Utility stocks had been the only positive group, but Industrial, Materials and Energy S&P Sectors led the market the past month. Now might be a good to “nibble” at some of the shares on your stock watch list – but keep tight stops.

By Gregory Clay

Investment Strategist

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gregoryclay@nellaadvisers.com

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This Might Be A Dead Cat Bounce

Market Summary

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U.S. stocks ended the week with a massive rally, which helped generate the second consecutive week of gains. Oil recovered last week and Federal Reserve comments provided the fuel for a counter-trend bounce. The Bank of Japan also helped rally global stocks after unexpectedly adopting a negative interest rate policy for the first time. Even though the Dow surged 397 points on Friday, it still lost 5.5% of its value in January. That is the deepest monthly decline since the market correct last August. The Nasdaq fared even worse, sinking nearly 8%, its worst month since May 2010 when the infamous flash crash spooked investors. January got off to a terrible start, with panic about the slowdown in China and crashing oil prices sending the Dow to its worst 10-day start to a year on record going back to 1897. For the week, the S&P 500 Index jumped 1.7% while the Blue Chip-heavy Dow Jones Industrial Average’s lead the major indices by rising 2.3%. The Nasdaq finished the week flat up a minimal 0.03% while the small cap Russell 2000 rose 1.5% for the week. As seen in the chart below, the major equity indexes finished January in a deep hole as investors sold off equities and deposited the funds into safe-haven assets like Treasuries and Gold.

A standard chart that we use to help confirm the overall market trend is the Momentum Factor ETF (MTUM) chart. Momentum Factor ETF is an investment that seeks to track the investment results of an index composed of U.S. large- and mid-capitalization stocks exhibiting relatively higher price momentum. This type of momentum fund is considered a reliable proxy for the general stock market trend. We prefer to use the Heikin-Ashi format to display the Momentum Factor ETF. Heikin-Ashi candlestick charts are designed to filter out volatility in an effort to better capture the true trend. Last week’s analysis stated “…the stock market is setting up for a “dead cat” bounce… equities are excessively oversold and displayed a bullish reversal sign at weeks end. As noted, downward momentum is dissipating which supports a short-term recovery…” This playing out as predicted with the updated chart below highlighting additional bullish reversal signs from the oversold bounce. More definitive is the momentum change from bearish to bullish.

The American Association of Individual Investors (AAII) Sentiment Survey measures the percentage of individual investors who are bullish, bearish, and neutral on the stock market for the next six months; individuals are polled from the ranks of the AAII membership on a weekly basis. The current survey result is for the week ending 01/27/2016. The most recent AAII survey showed 29.80% are Bullish and 40.00% Bearish, while 30.30% of investors polled have a Neutral outlook for the market for the next six months. Last week’s comment is coming to fruition”… The current AAII survey signals a short-term counter trend bounce is overdue based on retail investors’ extremely bearish sentiment…” The bearish reading dropped last week and the bullish number rose, but they signal a follow-through on the current counter-trend bounce.

 

   

Investment Analysis

As reported by The Stock Trader Almanac, the January Barometer has only been wrong eight times since 1950 for an 87.9% accuracy ratio. This indicator adheres to propensity that as the S&P 500 goes in January, so goes the year and including the eight flat years yields a .758 batting average. Following the Santa Claus rally’s “no-show,” January’s First Five Days were the worst on record. The Dow Jones Industrial Average violated its December closing low of 17128.55 on the third trading day and today the January Barometer is officially negative. The January indicator trifecta is negative across the board. Since 1950, this is only the eighth time that all three indicators were negative and the DOW’s December closing low was violated. Of the previous seven occasions, February was up just twice with an average loss in all seven of 1.9% for S&P 500. However, the next 11 months and full-year S&P 500 was mixed, up four and down three albeit with a negative average performance. The graph below confirms investors trading “risk off” since the start of the year, as the only profitable asset classes are bonds and gold.

By Gregory Clay

Investment Strategist

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Why Stock Market Is Ready To Bounce

Market Summary

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The stock market is reacting to the four "black swan" events since the year started (the heated Iran/Saudi Arabia conflict, China's stock market drop, North Korea's bomb testing and China's Yuan devaluation). The S&P 500 posted a weekly loss of 6% and the Dow Jones Industrial Average dropped 6.2%. It was the worst weekly percentage loss for stocks since September 23^rd, 2011. This also marks the worst opening week of the year in history for both the S&P 500 and the Dow. Meanwhile, the Nasdaq Composite ended down 7.3% over the week. The chart below indicates stocks have actually been in the crapper the past six months. During this time the major equity indexes have only briefly been above water before the bottom really fell out the past few weeks. Treasury bonds are the only asset class to hold up consistently.

  

A standard chart that we use to help confirm the overall market trend is the Momentum Factor ETF (MTUM) chart. Momentum Factor ETF is an investment that seeks to track the investment results of an index composed of U.S. large- and mid-capitalization stocks exhibiting relatively higher price momentum. This type of momentum fund is considered a reliable proxy for the general stock market trend. We prefer to use the Heikin-Ashi format to display the Momentum Factor ETF. Heikin-Ashi candlestick charts are designed to filter out volatility in an effort to better capture the true trend. Taking a look at the weekly MTUM chart shows the price is at the 50-week moving average support level. As highlighted in the chart, this support has held firm for several years and the MTUM usually recovers higher the week after falling to this point.

  

The American Association of Individual Investors (AAII) Sentiment Survey measures the percentage of individual investors who are bullish, bearish, and neutral on the stock market for the next six months; individuals are polled from the ranks of the AAII membership on a weekly basis. The current survey result is for the week ending 01/06/2016. The most recent AAII survey showed 22.20% are Bullish and 38.30% Bearish, while 39.60% of investors polled have a Neutral outlook for the market for the next six months. Individual investors have been turning extremely negative as the market moves into correction territory. As a reliable contra indicator the current AAII survey signals a short-term counter trend bounce based on retail investors’ overly bearish sentiment.

  

Investment Analysis

If there is any consolation to the miserable start to the New Year, it may be that the sizable selloff has triggered a “buy” signal from a technical perspective with 88% of all global equity markets trading below their 200-day moving average and 50-day moving average according Michael Hartnett, chief investment strategist at Bank of America Merrill Lynch. There hasn't been a bear market in the U.S. since the Great Recession. And even after the atrocious start to the current year, Wall Street still is not approaching a bear market. The major indexes have to plunge 20% below their previous high to be in bear market territory. The S&P 500 is down about 9% from its record highs of last year. The Dow and Nasdaq ended the week down 10%, officially falling into correction mode. But lurking beneath the surface, the outlook appears a lot worse. As of Friday almost half of the stocks in the S&P 500 have crumbled at least 20% below their 52-week highs, according to FactSet data. Small-cap stocks are considered more risky than large caps and are getting hit a lot harder. The average small-cap stock is now down nearly 30% from its peak, putting it firmly in bear-market status. "So many things are breaking down that the chance of the overall market breaking down is higher than at any time in several years," said Ryan Detrick, an independent market strategist. "I don't see another bear market. The true bear markets happen when the economy goes into recession. This economy is not falling off a cliff," said Detrick.

As mentioned previously, some technical indicators are signaling an imminent countertrend recovery bounce and there is still a lot of time for the market to rebound and finish January with a gain. A positive January Barometer reading improves the full-year outlook, especially with the recent penchant for the market to rebound just as sharply as it sells off. In the graph below the only winning S&P 500 sector over the past month is Utilities. Similar to Treasury bonds, investors are putting funds into Utility company stocks as a safe-haven during the current market turmoil. FANG stocks (Facebook, Amazon, Netflix and Google) are holding up better than the rest of the market. These stocks might be the best bet for investors looking to trade a countertrend bounce because they will probably lead the recovery. Also, the Dollar was the top-performing asset last year excluding dividends, so sitting on cash is always a sound investment during market uncertainty.

  

By Gregory Clay

Investment Strategist

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Santa Claus Rally

Market Summary

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Sellers took vacation last week and the program driven “short squeeze” rally triggered three consecutive days of triple-digit gains in the DOW Industrials. As seen in the updated chart below, the surge in equities boosted the S&P 500 index into positive territory for the year. The Nasdaq index has been in the black since September, but the other major indexes are still in the red year-to-date. Precious metals remain the biggest loser with gold in bear market territory down 22% for the year. For the week, the Benchmark S&P 500 Index and Blue Chip Dow Jones Industrial Average jumped 2.90% and 2.80% respectively. The Nasdaq rose 2.50% for the week and Russell 2000 gained 2.7%

Last week’s analysis mentioned “…With traders starting to take holiday sabbaticals the next few weeks trading volume should be lighter than normal. This provides an opportunity for the stock market to recover as it normally does going into year-end because market moves can be exaggerated on lighter volume…” While many traders started vacationing last week, algorithmic trading kicked in to start the “Santa Claus” rally during the abbreviated trading week. After the melodrama about whether the Fed would raise interest ended, the net result is that interest rates are still near historically low levels. Low rates are typically bullish for the stock market and as we head into “the best six months of the year” for stocks, there is no reason this trend won’t hold up. The U.S. economy continues to chug along and stocks remain the best game in town. You can see in the graph below how the major equity indexes have had a scorching fourth-quarter. The biggest near term threat to the stock market will be quarterly earnings results when they are reported early next year. If fourth-quarter earnings disappoint, this might panic investors into believing the economy is weaker than they thought and spark the next market sell off.

Investment Analysis

Last week we noted “…the week after December triple-witching option expiration, which has a historically bullish record…” As reported by Jeff Hirsh in the Almanac Trader,the three trading days following the Christmas holiday break, also has a bullish track record over the past 31 years. These three days also rank near the top when compared to all other market holidays. Average and median gains across DJIA, S&P 500, NASDAQ and Russell 2000 are fairly stable and consistent on each of the days following the Christmas holiday. We have been on the sidelines the past few weeks waiting to see how traders responded to the recent Fed rate decision. Our preference is to try avoiding unnecessary risks when setting up trades and it was important to let the market provide direction after the first rate increase in almost a decade. Yearend tax loss selling appears to be over where investors sell off losing positions to offset stock gains and other income, which is why the market is moving higher on lower volume. In the graph below, Consumer Staples and Health Care are the best performing sectors over the past month and these groups can be expected to be among the leaders going into the New Year. Bidding on stocks in the leading groups should be a good bet to start the year.

By Gregory Clay

Investment Strategist

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gregoryclay@theoptionplayer.com

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Buyers Remained Sidelined

Market Summary

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U.S. stocks closed out the week with a whimper, turning big opening gains in the S&P 500 and Nasdaq Composite into losses by Friday’s close. A sharp selloff in biotech and health-care stocks spread to broader markets, weighing on sentiment. “A selloff in biotechs took the wind out of the rally. And in this low-volume environment traders are selling first and asking questions later,” said Ryan Larson, head of equity trading, U.S. RBC Global. The main indexes declined in six of the past seven trading days, since the Federal Reserve left its key borrowing rate unchanged on Sept 17, citing concerns over slowing global growth. The Dow remained in correction territory, or more than 10% away from its 52-week high. The Nasdaq also fell back into correction mode, while the S&P 500 was about 9.5% away from its 52-week high. The S&P 500 is on course for its first back-to-back losing August and September since 2011. As seen in the graph below, the Dow is now down 9% on the year, while the S&P 500 and Russell 2000 are both off 7%. Biotech stocks crashed this week to help drop the Nasdaq down 1% this year. For the week, the Dow shed 0.3%, the S&P fell 1.4% and the Nasdaq fell 2.9%.

Investment Analysis

"The shutdown in Washington could roil markets next week," reports Kate Warne. "People are putting that off because they don't know whether we know what will happen until the last minute. I think this time we know it's going to go down to the wire.(Boehner's resignation makes it more likely). With Boehner resigning, although not until next month, it clearly reflects on lack of Republican (consensus) in the House. It makes it more likely that there's a temporary government shutdown… and it would tend to trigger a negative market reaction but fortunately that doesn't tend to last very long." Lance Roberts, head of Streettalklive.com, said a key focus is "the posturing and threats from the Administration will likely cause additional market angst given an already weak market. This was the same backdrop as 2011 when we debated over the debt ceiling then."

Wall Street is bracing for a grim earnings season, with little improvement expected anytime soon. Analysts have been cutting projections for the third quarter, which ends on Wednesday, and beyond. If the declining projections are realized, already costly stocks could become pricier and equity investors could become even more skittish. Forecasts for third-quarter S&P 500 earnings now call for a 3.9 percent decline from a year ago, based on Thomson Reuters data, with half of the S&P sectors estimated to post lower profits thanks to falling oil prices, a strong U.S. dollar and weak global demand. The weak forecasts have some strategists talking about an "earnings recession," meaning two quarterly profit declines in a row, as opposed to an economic recession, in which gross domestic product falls for two straight quarters. As the stock market is goes through the end of quarter rebalancing you can see Treasuries are the only asset class with a quarterly gain as investors dump shift funds from equities to treasuries.

By Gregory Clay

Investment Strategist

Click here to Connect on LinkedIn

gregoryclay@theoptionplayer.com

P.S. click on http://www.theoptionplayer.com/ to sign up for a free trading newsletter