Each weekend, I study market behavior using sentiment and technical indicators. The goal is to use clues and indicators to determine if we are in a bullish, bearish, or sideways market environment.
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AAII survey (6/11/2014)
44.7% Bullish. 21.3% Bearish. 34.1% Neutral.
Bearish: If sentiment is over 50% bullish.
Bullish: If sentiment is over 50% bearish.
Investors Intelligence (6/10/2014)
62.6% Bullish. 17.2% Bearish
Bearish: If sentiment is over 60% bullish.
Bullish: If sentiment is over 60% bearish.
VIX: 12.18 (on 6/13/2014)
Bearish: Less than or near 12.
Bullish: Greater than or near 40.
Moving Averages (daily): S&P 500 is above its 50-, 100-, and 200-day moving averages, and pointing down.
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 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 61.36 (on 6/13/2014)
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 2.60% (on 6/13/2014).
Note: 3.0% or higher is significant (consider selling bond funds as yield rises). 3.5% or higher and risk increases (for bondholders).
Analysis: Last week, sentiment indicators were so extreme (overbought) a pullback was inevitable. Most sentiment indicators are still in the stratosphere, although they may come back to earth depending on geopolitical events. On the technical side, the trend is still up but there are signs this bull market is getting exhausted. Bullish investors believe the Fed will once again propel the market higher this week. They could be right because Janet should have soothing words on Wednesday (the Fed meeting). On the other hand, Iraq and oil could disrupt the market. This week, it’s a tossup what will happen as the signals are mixed.
Opinion: The market attempted to make another all-time high but took a hit as geopolitical events (i.e. Iraq) took center stage. Oil prices are rising and the world is watching to see what happens next. It’s a dangerous world and a dangerous market.
As I’ve written in a series of MarketWatch articles, the stock market is susceptible to a major pullback or correction. Because the market has gone up so high and so slowly, most investors believe it is unstoppable. The most bullish believe in the power of the Fed to save them by coming up with new tools and programs. The longer the Fed interferes, however, the more dangerous the market becomes.
I know this is hard for some bullish investors to believe but markets do not go up forever. Talking the market up higher at these levels (or tampering with the tapering) will cause unexpected consequences in the future. Instead of a correction, something far worse and unexpected could occur.
If you are bullish on the economy and the stock market, you don’t want to hear doom-and-gloom predictions. For five years, ignoring worst-case scenarios was a wise move as many of the most dramatic predictions were incorrect. Unfortunately, this is also why so many investors are so complacent. Many really believe the Fed (or their fund manager) will protect them from danger. When the inevitable correction comes, investors will be slow to react, or worse, think their stocks will bounce back quickly. That belief (that your stocks will come back to even) will damage many portfolios in the future.
In my opinion, the risk of the current market far outweighs the potential reward. Keep in mind that most people do not agree with me and are all in. After all, with the Fed’s help, this market bubble could continue to get even bigger. It could be weeks or months, but a monster correction (and bear market) is unavoidable.
As for me, I am not only out of this market in cash but also building short positions with inverse ETFs and some options. (Shorting is only for experienced investors who can manage risk. If you’re not experienced, cash is a comfortable place to be before a market crisis.)
Being patient and disciplined is the way to survive and thrive in this market. As the red flags and warning signs increase, prudent investors are taking profits or moving to the sidelines. To repeat, the downside risks far outweigh the potential gains. I might be wrong in the short term, but this market hasn’t had a correction of over 10 percent in more than two years. Complacent investors may think that’s normal, but it’s not. The clock is ticking, and it’s best to run for cover before the market comes back to its senses. Many investors are playing with fire right now, and most surprising, they do not even know it.
* Note: These signals are not actionable trades, but only guidelines. Always use other indicators, and your own research, to confirm before buying or selling.