“Charts of the Week” 8/28/19
Andrew Adams CFA, CMT, Saut Strategy LLC
Follow Me @DayTraderGator on Twitter for Additional Thoughts
Charts of the Week
Over the last few years, I have thought a great deal about major tops in the stock market and what the end of this secular bull market might look like. There is an old market cliché that “no one rings a bell at the top,” which implies that tops are difficult to identify and form when few are expecting them. The problem with this idea is that for the last several years it seems people are constantly ringing a bell and announcing that “this is the top,” and I don’t see that ending anytime soon (if ever).
[backc url='https://sendy.advisoranalyst.com/w/XPGz0lid3xGXehquLAqBXQ/gMgxY5TsLVv49HHhVDis5g/dkf892mXQl7t7dU0n69r7dBw']Back in my former work life when I used to respond to dozens of questions per day about the market, I do not think a week went by without some concerned individual sending me an article or blog post they had found detailing why “the end is nigh” and it was time to take cover. More often than not, the doomsaying authors of these pieces were easy to dismiss since they were the kind of perma- bears who make good careers out of selling fear (and books/newsletter subscriptions based on that fear) despite costing investors more money in lost upside than they’d save them during an actual bear market (at this stage even a 50% market collapse would still leave the indices above where some of these gurus started predicting the end of the bull market).
Yet, of course, it hasn’t just been these shady swindlers who have been skeptical as stocks have climbed the wall of worry these last few years; this secular bull market hasn’t been called the “most unloved in history” for nothing, and the cacophony of ringing bells all the way up has made it difficult to continue to hold stocks even at the best of times.
The extant pessimism even a decade after the market bottomed after the Financial Crisis begs the question: Can we get a major top in stocks even with everyone and their retired mothers expecting it? Well, of course, we can — the financial markets can do anything they want — so I guess the better question is whether this time really is different and the end will arrive while everyone is safely protected in bonds and cash (long U.S. Treasuries remain the “most crowded trade”). Back in 2000 when the S&P 500 peaked and ended the bull market that most people agree began in 1982, the percent of bullish investors in the weekly American Association of Individual Investors (AAII) survey hit a high of 75% early in the year and consistently hovered in the mid-60% range despite the market struggling to go higher. Even in late 2007 when stocks hit their pre- Financial Crisis zenith, more than 50% of investors were bullish. Contrast that with a few weeks ago when the S&P 500 was at a new all-time high almost 100% above its 2000 peak, and yet the AAII bull reading topped out at only a measly 38%.
Now, the AAII survey isn’t the be-all and end-all of sentiment metrics, but the negativity does appear consistent with anecdotal evidence and fund manager positioning. Heck, even I have been annoyingly cautious and defensive the past few weeks due to the technical picture, but I really don’t feel good about it since so many others seem to believe there is no possible way stocks push significantly higher from here. As I have mentioned before, I believe there is truth to the theory that the stock market does whatever will confuse the most people, and right now I don’t think there’s any question that a return back up to new highs would leave the most investors scratching their heads.
Maybe we have reached a new paradigm where investors have learned their lesson about “irrational exuberance” and the average stock holder is simply smarter than he or she used to be. If that’s the case, then perhaps it’s justified that only 26% of investors in the most recent AAII survey were bullish. The alternative is that the recent weakness is just another blip and we’re still a long way away from the day when the secular bull market truly ends and everyone loves stocks enough to stop ringing those dang bells.
For now, the answer is unclear and remains even cloudier while the stock market remains stuck in the trading range it has been in the entire month of August. I have tried to just take a day-by-day approach to my trading, but the sharp intraday moves and reversals have required almost an hour-by-hour mindset. I joked on Twitter yesterday that being a long-term, passive investor is probably looking really good right now to a lot of people just so they don’t have to worry about these crazy fluctuations. Indeed, most investors should not be doing much at all at the moment until we get some further evidence for where the market wants to go next. Many individual stocks remain just above their recent lows, providing clear levels in which to define one’s risk on a trading basis, but whether or not to take these trades will depend on how aggressive a person wants to get right now.
I still think it’s a positive sign that the major indices remain above their recent lows despite this latest round of trade news that hit Friday, but of course that can change. Until it does, though, the recent lows are the big “lines in the sand” on the downside and it’s hard to justify taking any further defensive action until those levels break. And if the S&P 500 can, in fact, stage a bit of a rally from current levels and break above the top of the trading range it’s stuck in, there’s not much additional obvious resistance standing in its way above 2943 until the all-time high thanks to the sharp drop that kicked off this bout of weakness.
On the downside, however, if the recent support zone above 2800 is taken out, there’s not much obvious support again until 2725-2750, and the charts would start to look pretty broken at that point. So, the levels are drawn and we just have to sit back and watch them and react. As long as the indices remain in their recent ranges, it will continue to be a toss-up from day-to-day.
And I guess I should comment on the inversion of the “true” yield curve yesterday – the 3-month and 30-year U.S. Treasuries – despite writing a whole piece about it last week. I don’t have much to add to what I said in that report, though, and personally I put little emphasis on it. For anyone paying attention, it’s just the latest indication that there is concern in the financial markets and everyone is rushing for safety, but we already knew that. It’s why global stocks have gone nowhere for 19 months, the 30-year U.S. Treasury has dropped from almost 3.50% to under 2% in less than a year, and U.S. indices fell 20% late last year. But to go back to the “no one rings a bell at the top” idea, the initial inversion of the yield curve has historically been a poor market-timing indicator since the last three times it’s occurred the S&P 500 has gone on to make new highs. The stock market is rarely easy to figure out, so it seems dubious to me that suddenly everyone is a market wizard and this decade-long uptrend will suddenly end on such a clear “sell” signal.
If a recession happens, it happens. There seems to be this mindset that all recessions look like the Financial Crisis since that’s the most recent one everyone remembers, but it’s much more likely the next one is just a run-of-the- mill recession like we’ve experienced several times over the last few decades.
Keep in mind that we got one in the early 1990s that wasn’t exactly a great time to unload all your stocks given what happened after the economy recovered.
As always, I follow stock prices. That’s my recession indicator and my sell signal since it’s the only one that actually pays. If the recent lows break and the indices start heading lower again, then it’s going to be hard to make a case on a trading basis for buying or owning stocks for the near term. But if we then get evidence that additional support is found, or if stocks start heading back up from current levels, I’m not going to ignore that signal just because of the yield curve.
And finally, just in case investors haven’t suddenly conquered their fear and greed biases, here is this from SentimenTrader: when the 3-week average of AAII Bulls gets as low as it is now since 1987 the S&P 500 has been higher 3 month later 95% of the time and higher 12 months later 93% of the time, with average returns of 5.88% and 17.44%, respectively (81 week sample size). No one rings a bell at the top…or the bottom.
S&P 500 Sector Snapshot
Staples, Real Estate, and Utilities the only positives over the last five days – not exactly the leaders we want to see.
S&P 500 Battelines
At least for the near term, the picture looks clear. The S&P 500 remains stuck between 2822 and 2943 and it can bounce around within it indefinitely. Above 2943, there’s not much standing in the index’s way to get back up to challenge the recent all-time high. Conversely, below 2822 the bulls won’t get much help until 2725-2750.
S&P 500 Pinball
In the very near term, the S&P 500 struggled to overcome the resistance zone I called out on Twitter yesterday between 2890-2900. That is the most immediate zone to better if we’re going to get more substantial upside, and above there the index is relatively resistance-free until 2925- 2930.
Small Caps Still a Problem
Hopefully this isn’t a sign of things to come in the broad stock market, but the Russell 2000 closed beneath its important 1460 level yesterday, a zone that has held as support on several occasions over the past year. That’s not exactly a positive, but I will note that the small cap index had two false breakouts in May and late July that faked everyone out and quickly moved in the opposite direction. Perhaps that happens here on the flip side, but it would require getting above yesterday’s high of 1485 to likely kick off any push higher.
VIX Still Implies Caution
Just a reminder that the VIX remains above its 20-day exponential moving average. Over the last year, this has provided a nice “red light,” short- term danger signal since the worst periods of losses have coincided with a VIX over the 20-day. It’s just easier to be long stocks when the VIX is under the moving average.
Semis Not Really Providing a Hint
The Semiconductor Index often leads the rest of the broad market, on both the upside and downside. Unfortunately, it’s currently stuck in a similar trading range to the other major indices and not really providing us with much in the way of a leading signal. It does continue to mostly lag the S&P 500 , though, and a breakdown from here would be worrying.
Breadth Not Expanding Either
Sometimes the major stock averages can be scuffling but there are signs of internal strength under the surface of the market. This is not one of those times. Most stocks remain under pressure, with only about 30% of the NYSE above their 50-day moving averages.
Breadth Not Expanding Either
Likewise, the 5-day total of new highs minus new lows across the NYSE, NASDAQ, and AMEX briefly got back to positive recently but has since fallen back to negative (more new lows than new highs over the last 5 days).
Trading Range in Canada Too
It’s a similar story to the S&P 500 for our friends up in Canada. The TSX Composite Index has bounced around from 16000 to 16600 over the last several months, and those are the lines in the sand for that particular index.
Keep Watching China!
As a continuation of last week’s chart, the Shanghai Composite Index is close to breaking out from the downtrend it’s been in since April and remains just above an area that should be major support. While most investors don’t want to touch China with a 10-foot pole, I still think it’s interesting that the Shanghai Index, at least, remains above its trade war lows and seems to be showing some relative strength.
“You Mean There is Actually Some Good News?!”
I mentioned last week how the Conference Board’s Leading Economic Index had basically been flat over the previous year and fallen the previous two months. That was consistent with the economic slowdown implied by other metrics like the stock and bond market. Well, last week the updated index for July was released and it expanded once again, even hitting a new high, thanks to better inputs in “housing permits, unemployment insurance claims, stock prices, and the Leading Credit Index.” We shouldn’t go crazy for one month of data, of course, especially since financial markets have fallen over the last month, but it is notable that historically there has been a delay from LEI peaks and recessions beginning.
Source: Advisorperspectives.com 15
The Inversion Diversion
This is the same chart I included last week, but now you can see that the spread between the 3-month U.S. Treasury and 30-year U.S. Treasury yields has gone negative or inverted. Again, though, there has been a noticeable delay historically between initial inversion and a recession or top in the S&P 500 (recessions in gray boxes).
10-Year U.S. Treasury Yield Update
There’s not much new to say about the benchmark 10-year U.S. Treasury yield. It continues to collapse after breaking down under 2.00% and now is challenging its mid-2016 “generational” low. Admittedly, I did not think we’d ever see rates down this low again (well, at least not for a long while), but here we are. Is perhaps a major double bottom going to happen after almost 40 years of falling rates?
Amazing How Resistance Lines Work
Actually, it would be a triple bottom if the 10-year yield found support around this area. On this long-term chart, you can see that falling rates aren’t exactly a new development and it’s clear we all should have taken the major resistance around 3.25% more seriously last fall.
Yet U.S. Rates are Still “High”
U.S. Treasury yields may still be falling, but they remain well above the yield seen in other parts of the world. While the 10-year U.S. Treasury is flirting with generational lows, it remains 219 basis points above the German 10-year bund which is far into negative rate territory.
No Sign of Global Economic Turnaround from “Dr. Copper”
The price of copper is thought to provide insight into the health of the global economy since it’s such an important resource. It continues its fall, however, since the beginning of last year and is not yet signaling the kind of global economic turnaround we’d like to see.
Silver and Gold
Copper might not be doing much but silver and gold are on fire. Silver, especially, has been the place to be lately and the trends aren’t exactly showing signs of slowing. It is a bit risky to jump in right now after already seeing such a steep rise, but the metals may continue to provide an attractive alternative as long as stocks aren’t doing anything and bonds are yielding so little.
Trade Ideas
Most stocks still seem to be moving with the overall market (risk-on and risk-off days), so it’s hard to pick out exceptional opportunities. I still think the short long-term bond trade from last week has potential (short TLT, long TBT), but it’s not working yet and the risk/reward skews back to “risk” with TLT above its recent high.
When I look for trades, I am looking for stocks I think can move in the direction I want them to go quickly while limiting my downside if I am wrong. I expect to be wrong a decent amount of the time given the tight stops, but the idea is that the winners should more than pay for the losers. There is an opportunity cost to holding a position, as the capital allocated to it prevents you from using that capital in another position, so if I enter a stock and it doesn’t quickly do what I think it should I may cut it even though a stop or profit target isn’t hit. Likewise, I usually move my stop up to my breakeven point once the trade starts to go in my favor in order to prevent a winning trade to turn into a losing trade. Understandably, my trading strategy might not fit your trading/investing strategy, but the trades highlighted in this report are the kinds that I typically look for.
Current Open Positions in Personal Accounts (this changes daily): Long TLT Sep20’19 140 Puts, Long EGO Sep20’19 9 Calls, Long BIDU, Long QQQ Sep06’19 178 Puts
LONG: Eldorado Gold Corp. (EGO)
Yes, gold and gold stocks are extended, but as long as they continue to work while the bulk of the stock market just bounces around, something clearly in favor like EGO makes sense. It cleared $9.50 yesterday and has entered a gap from 2017 with room up to above $10.50. The trade would lose its appeal back below $9, but for now the idea is that EGO could fill this gap and maybe even push higher to the $11.50-$12 resistance zone.
LONG: Small Caps (IWM, TNA, etc.)
This trade will only be viable IF THE RUSSELL 2000 REVERSES quickly to take out yesterday’s high (red line in chart below). As previously mentioned, the Russell 2000 falsely broke out twice in the last few months before putting in tradeable moves in the opposite direction. So, if that happens again and a false breakdown is created, we could see an acceleration higher if yesterday’s high of 1485 is taken out. Pick your favorite small cap vehicle to play the potential move (like IWM). A stop loss could then be placed under the recent low to define your risk.
Investing/trading involves substantial risk. The author and Saut Strategy LLC do not guarantee or otherwise promise as to any results that may be obtained from using this report. Past performance should not be considered indicative of future performance. No reader should make any investment decision without first consulting his or her own personal financial advisor and conducting his or her own research and due diligence, including carefully reviewing any prospectus and other public filings of the issuer. These commentaries, analyses, opinions, and recommendations represent the personal and subjective views of the author, and are subject to change at any time without notice.
The information provided in this report is obtained from sources which the author believes to be reliable. All charts are from stockcharts.com unless otherwise stated.
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