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 and trend, 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 (8/5/2015)
24.3% Bullish. 44.0% Neutral. 31.7% Bearish.
Bearish: If sentiment is over 50% bullish.
Bullish: If sentiment is over 50% bearish.
Investors Intelligence (8/4/2015)
42.2% Bullish. 17.5% 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: 13.40 (on 8/7/2015)
Bearish: Less than or near 12.
Bullish: Greater than or near 40.
RSI (S&P 500): RSI is at 43.24 (on 8/7/2015)
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 500 is below its 50- and 100-day moving average, and slightly above its 200-day moving average, and pointing down.
Bearish (Short-term Downtrend): Index 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 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 2.17% (on 8/7/2015).
Note: 3.0% or higher is significant (consider selling bond funds as yield rises). 3.5% or higher and risk increases (for bondholders).
Analysis: Sentiment among financial professionals is still quite bullish although some admit a “short-term” 10 percent correction is “possible.” The VIX is still at historic lows, which reflects never-ending complacency and a lack of volatility. It also means that even with the recent 1000 point pullback on the Dow, most investors are not expecting a major correction. However, the indexes fell well below their 50-day and 100-day moving averages. From a technical perspective, damage was done to the indexes. As we enter this week, we’ll see if the indexes will rally. In the past, when the markets were about to fall into the abyss, the Fed showed up with encouraging comments or new programs. Bottom line: Once again, the market is at an important crossroads. Although the indexes are pointing south at the moment, and the market internals are deteriorating, a short-lived bounce is possible (and even likely). Monday may set the tone for the week. Most important for the bulls: The indexes need to stay above their 200-day moving averages.
Opinion: While most people are distracted by the lazy days of summer and the upcoming start of the school year, astute investors and traders are focused on the market. The next three months will make or break the market and your full attention is recommended. The market is at a crossroads, a pivot point, and a possible trend change. Now is the time to study and observe, and get ready to take action.
The conventional wisdom on Wall Street is that a mild 8 to 10 percent correction is possible. According to many pros, if this correction does occur, it will be a “buying opportunity.” Note: On Wall Street, it’s always a buying opportunity.
I have a different view. Although an 8 to 10 percent correction is possible, followed by a rally, I am also preparing for a much larger downturn, perhaps more severe than any of the professionals believe is possible. This is not a prediction but a warning that it is time to prepare now. If there is a trend change, and it can take several weeks or months to develop, then you can throw conventional wisdom out the window. Identifying trend changes is how fortunes are made (and lost). Keep in mind that if the market does fall into the abyss, the Fed will appear out of nowhere to delay raising interest rates, and initiate another QE-type program. That will cause a short-term rally. If that rally ultimately fails, then the market will continue plunging.
Now is the time to learn how to buy options (I recommend my book, Understanding Options 2E), learn how to short (I prefer buying put options because it’s less risky, i.e. you know how much you can lose in advance with options), or how to hedge. As I’ve said for almost a year, it’s also the time to take money off the table (i.e. selling). After probing and testing both sides of the market for a year, my put option positions are coming to life. On the other hand, it’s too early to put on the gas until the market falls below certain technical levels. For example, the S&P must fall below 2050, and ultimately, 2030. If the market falls that low, there will be even more selling as margin calls are made.
This market is about as dangerous as I’ve ever seen. That being said, Wall Street needs and wants the S&P to return to 2100 and the Dow to 18,000. If successful, the bulls will sigh with relief. However, if the market keeps plunging this week, short sellers will be taking out their knives, and volatility will return with a vengeance.
Bottom line: What to do? Let the market tell its story. Look for a severe break in the indexes. If that occurs, the market will be in trouble. On the other hand, with help from their friends, Wall Street might be able to get their wish once again (i.e. a strong rally). The bears have the edge on Monday but this week is still too close to call. I can, however, guarantee the next three months are going to be very, very interesting.