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.
RELEASED: Understanding Options (McGraw-Hill, 2E), Understanding Stocks (McGraw-Hill, 2E), Start Day Trading Now (Adams Media), and Predict the Next Bull or Bear Market and Win (Adams Media): http://bit.ly/1bl0ZNk
AAII survey (1/28/2015)
44.2% Bullish. 22.4% Bearish.
Bearish: If sentiment is over 50% bullish.
Bullish: If sentiment is over 50% bearish.
Investors Intelligence (1/27/2015)
53.1% Bullish. 16.3% 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: 20.97 (on 1/30/2015)
Bearish: Less than or near 12.
Bullish: Greater than or near 40.
RSI (S&P 500): RSI is at 41.78 (on 1/30/2015)
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 dropped below its 50-day and 100-day moving averages and is pointing down.
Bearish (Short-term Downtrend): crosses under 50-day, 100-day, 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 below its zero line and below 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 zero line. MACD line crosses above 9-day signal line.
Bonds: U.S. 10-year yield is at 1.68% (on 1/30/2015)
Note: 3.0% or higher is significant (consider selling bond funds as yield rises). 3.5% or higher and risk increases (for bondholders). How low can the yield go? It sure seems like a bubble.
Analysis: It was a rocky week for the indexes. On the technical side, the indexes fell below their 50-day and 100-day moving averages, and this was after the European Central Bank (ECB) initiated QE and after the Fed minutes. It is too early to proclaim that the uptrend is over, but the odds have increased. For a confirmed downtrend, we need more technical weakness. Even with the increased volatility, sentiment only fell by a little. Most investors still do not believe this market is vulnerable, which means there is a lot of room left to go on the downside.
Opinion: Last week was important because the usual pattern had changed. Typically, after a central bank announces QE or if the Fed is “patient” about raising interest rates (i.e. they will not raise rates until they are forced to), the market rallies. But something different happened last week: the market plunged. To me, that was significant, which is why I began buying put options on SPY, and then sold most of them by Friday. I already own inverse ETFs and if they are profitable, I will add to my positions (if not, I will cut my losses).
As you know from reading my latest eBook, Prepare Now and Survive the Coming Bear Market, we are getting closer to a bear market. It was only a month ago that Dow 20,000 seemed like a slam-dunk. Even with encouragement from the central banks, the market went south. It didn’t help that GDP was less than spectacular.
Right now, because we are going through a topping out process, there will be rallies and reversals. It will not be an easy environment until the trend is confirmed. For a downtrend, we need to break below the 200-day moving average, and stay there. (Remember: In the past, when the indexes fell below their 200-day moving averages, the Fed appeared out of nowhere with a new program or talking point to rally the market.)
On some television programs, perpetually bullish guests reminded nervous investors that in 2014, January started off poorly, but we ended up the year positive. Judging by the sentiment numbers, investors are still hopeful this will be a positive year. It’s possible, but never rely on hope to make investment decisions.
This week, the market will attempt to rally. If the bull market is still intact, you will see a strong rally on higher volume. However, if the bull market is coming to an end, those rallies will fail. If the indexes fall below specific technical levels, sell programs will be initiated and the market will fall fast and hard. (Eventually, there will also be a short-term bounce. Watch the technical indicator, RSI, for a bullish signal. RSI will drop below 30 if the indexes are oversold.)
Bottom line: This is a very difficult market environment. Because last year turned out better than expected, many investors believe this year will end with a satisfying gain. We’ll soon find out if they’re right, but judging by the action so far, I don’t think they’ll get their wish.