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 (8/27/2014)
51.9% Bullish. 19.2% Bearish.
Bearish: If sentiment is over 50% bullish.
Bullish: If sentiment is over 50% bearish.
Investors Intelligence (8/26/2014)
52.5% Bullish. 15.1% Bearish
Bearish: If sentiment is over 60% bullish.
Bullish: If sentiment is over 60% bearish.
VIX: 11.98 (on 8/29/2014)
Bearish: Less than or near 12.
Bullish: Greater than or near 40.
Moving Averages (daily): S&P 500 and Dow are above their 50-, 100-, 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. (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 66.34 (on 8/29/2014)
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 2.34% (on 8/29/2014)
Note: 3.0% or higher is significant (consider selling bond funds as yield rises). 3.5% or higher and risk increases (for bondholders).
Analysis: I’ve seen this story before. The sentiment indicators are reflecting increased exuberance by the financial media and retail investors (that is a bearish sign). After all, the market won back all of its lost points, turning nervous investors into believers again. On the technical side, the trend is up and the sky is the limit. Bottom line: If you believe the sentiment indicators, you are bearish. If you follow the trend or use technical indicators, you are bullish.
Opinion: If the market is going to have a severe correction, the odds are good it will happen within the next two to three months. With the problems in the Middle East, the slowdown in Europe, China’s disappointing PMI numbers, Ukraine, and stocks at all-time highs, the U.S. market (and the world) is vulnerable.
On the other hand, the Fed and central banks around the world are keeping interest rates low, and are determined to prevent their stock markets from tumbling. So far, it’s been working. If you believe in the Fed and its QE experiment, you will remain long. That strategy has seemingly worked for five years, and there are no signs it will stop working anytime soon.
However, with the geopolitical tensions increasing, and QE supposedly coming to an end, the bears might finally be given a chance. You already know what I think: The market is too dangerous to be long, and it’s too early to be short (although I personally own inverse ETF positions).
The hardest action to take right now is sitting and waiting for the market to reveal its hand. In my opinion, the market seems heavy, as if it’s struggling to go higher, but can’t. Nevertheless, a few positive words from the Fed or an optimistic geopolitical rumor and the market could rocket higher. That’s how it’s been for the last few months, and years.
If the market does not retreat soon, bearish investors will have to wait a little longer. In my opinion, the odds are better than even that the pullback will occur over the next two to three months, and probably much sooner. Because of the Fed, it’s impossible to predict when the market will plunge. I have no doubt that it will, however. Only you can decide if you want to sit on the sidelines and make zero profit, or stay in the game and hope to capture another 5 percent by the end of the year.
Bottom line: The next two weeks are very important. This will give us clues as to whether the U.S. market has enough power to ignore all the bad news and aim for the sky. And yet, don’t forget this proverb: The bigger they are, the harder they fall.
* Note: These signals are not actionable trades, but only guidelines. Always use other indicators, and your own research, to confirm before buying or selling.