Each weekend, I study market behavior using sentiment and technical indicators. The goal is to use clues, observation, and indicators to determine if we are in a bullish, bearish, or sideways market environment.
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AAII survey (11/12/2014)
57.9% Bullish. 19.3% Bearish.
Bearish: If sentiment is over 50% bullish.
Bullish: If sentiment is over 50% bearish.
Investors Intelligence (11/11/2014)
55.5% Bullish. 14.8% Bearish
Bearish: If sentiment is over 60% bullish.
Bullish: If sentiment is over 60% bearish.
VIX: 13.31 (on 11/14/2014)
Bearish: Less than or near 12.
Bullish: Greater than or near 40.
Moving Averages (daily): The S&P is above its 50-day, 100-day, and 200-day moving averages and pointing up.
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 above its red 9-day signal line and pointing up. (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 9-day signal line. MACD line crosses above zero line.
RSI (S&P 500): RSI is at 68.26 (on 11/14/2014)
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.
Bonds: U.S. 10-year yield is at 2.32% (on 11/14/2014)
Note: 3.0% or higher is significant (consider selling bond funds as yield rises). 3.5% or higher and risk increases (for bondholders).
Analysis: Once again, there is a major divergence between the sentiment and technical indicators. The sentiment indicators are showing an extremely overbought market. The number of bulls who believe we’ll rally into the new year has increased, and many retail and professionals believe the market is unstoppable. If you are new to this blog, that is a very bearish signal. On the other hand, the trend is still up although last week the market went nowhere. Bullish investors believe the market is consolidating before making another bull run. Bearish investors believe the market is weakening and is about to top out. The market, as always, has the final word.
Opinion: Because the sentiment and technical indicators are giving mixed signals, it’s impossible to predict which way this market is headed. If this was a strong bull market, other indicators such as New Highs-New Lows would reflect more strength. As it turns out, the number of stocks making new highs is decreasing. In addition, volume has decreased on all the indexes, which reflects a very narrow rally.
Because of this evidence, one could conclude that although the market is going higher, the market internals are weakening. This divergence is one of the reasons I am not long. Although the market could continue to climb higher, any catalyst could cause another pullback or correction. There is no reason to be afraid, but as I wrote last week, this market is going higher on fumes. It will not end well. No one can predict when it will end, however.
As a trader, I am looking for volatility. As I write this, the futures are down overnight, but that could change by the morning. Keep in mind that almost everyone is expecting a strong year-end rally. Because I know the market fools the most people most of the time, it will be interesting to see if John Q. Investor gets what he wants. I do know this: If the market does have a correction anytime soon, the Fed will say something (anything) to stop a freefall. (More stimulus, anyone?)
Bottom line: Until there is evidence another pullback or correction is coming our way, keep your powder dry. Although investors hate volatility, traders will thrive in that environment.
Note to traders: If you decide to short this week, watch out for those “V” shaped rallies. Take profits quickly.