Each weekend, I study market behavior using sentiment and technical indicators. My goal is to use clues, observation, and indicators to analyze underlying market conditions. If you can determine the current market environment, it may help you to create profitable trading strategies.
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My latest MarketWatch column: http://goo.gl/ozdUTp
AAII survey (12/10/2014)
45.0% Bullish. 22.3% Bearish.
Bearish: If sentiment is over 50% bullish.
Bullish: If sentiment is over 50% bearish.
Investors Intelligence (12/9/2014)
51.5% Bullish. 14.8% Bearish
Bearish: If sentiment is over 60% bullish. ( Note: Percent of bears is still at historic lows. 13.3 % is the 1987 low)
Bullish: If sentiment is over 60% bearish.
VIX: 21.08 (on 12/12/2014)
Bearish: Less than or near 12.
Bullish: Greater than or near 40.
RSI (S&P 500): RSI is at 37.39 (on 12/12/2014) NOTE: RSI of Dow is at 35.78.
Overbought (i.e. Bearish): When RSI rises to 70 or above.
Oversold (i.e. Bullish): When RSI falls to 30 or below.
Note: RSI can remain overbought or oversold for extended time periods.
Moving Averages (daily): The S&P is lying slightly above its 50-day moving average and pointing down. (Note: All major indexes sliced through their 20-day moving averages.)
Bearish (Short-term Downtrend): Index crosses below 50-, 100-, or 200-day MA.
Bullish (Short-term Uptrend): Index crosses over 50-day, 100-day, and 200-day MA.
MACD (S&P 500): MACD is above its zero line, and below its red 9-day signal line and pointing down. (Note: I’m using the settings, 19,39,9, recommended by Gerald Appel, MACD’s creator.)
Bearish: MACD line crosses below 9-day (red or gray) signal line. MACD line (black line) crosses below zero line.
Bullish: MACD line crosses above zero line. MACD line crosses above 9-day signal line.
Bonds: U.S. 10-year yield is at 2.10% (on 12/12/2014) NOTE: Bonds rallied last week.
Note: 3.0% or higher is significant (consider selling bond funds as yield rises). 3.5% or higher and risk increases (for bondholders).
Analysis: The indicators aren’t perfect but they worked last week, notifying us of an imminent market pullback. To refresh your memory, sentiment indicators were extreme last week as most investors were overly bullish. This week, sentiment came back to earth, although most investors are still bullish. The indicators also tell us that most investors do not believe there will be a major correction, or even a bear market. Nevertheless, the VIX zoomed from 12 to 21, which erased much of the extreme complacency. RSI went from overbought levels to nearly oversold. Yes, we went from one extreme to the other in the short term. RSI is also telling us we could have a bounce this week. However, moving averages are pointing down, and the market sliced through the 20-day MA like it was butter. Bottom line: Many investors were surprised that the market retreated (we weren’t). The indicators are telling us the market can go either way this week, so be on guard. The volatility should continue before and after the Fed meeting.
Opinion: Last week was fascinating. The market struggled all week except for a 225-point Thursday morning rally, which faded by the end of the day, setting up the 300-point pullback on Friday. That’s what I call volatility. Wall Street had its worst week in three years.
This is an important week. We’ll soon learn how much influence the Fed has. I am sure the Fed will not do or say anything to upset the markets (unless they make a mistake). That means low interest rates indefinitely, and perhaps no change in language (that should rally the market).
If the market rallies before or after the Fed’s minutes are released, observe if the market can climb back to 18,000. If it can, then the uptrend is intact and in the short-term the market will go higher. On the other hand, if the expected rally fails during the week, the uptrend may be in danger.
Until a downtrend is confirmed, and that could take a while, consider short-term trading strategies. That means taking profits quickly (and cutting losses when wrong). Those not comfortable with short-term trading should stay on the sidelines until the trend direction is clear.
All week, the financial television programs brought out the bulls, who predicted 50 shades of bullishness. The analysts recommended that you buy on the dip. Why? Because it worked in the past. Last week, many of the same bullish analysts told us to buy because you will “miss out on the year-end rally.” Dow 18,000 is a sure thing, according to them. In fact, every major analyst predicted the S&P will be at 2100 to 2200 next year. Guess what? These are educated guesses, not facts. If there’s anything I’ve learned, it’s that you should follow the market, not predictions. The market is giving us a message right now, and to be profitable, you must interpret that message correctly.
Bottom line: Right now, the indicators are telling us the market could go in either direction. It’s possible we’ll have a short-lived bounce followed by a decline. On the other hand, if the Fed is overly dovish, that bounce could turn into a longer-term rally. In my opinion, however, this bull market is on its last legs and it’s only a matter of time before it folds. (I’ve been saying that for several months.)