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What a difference a week or so makes. Seven trading days ago, most everything I read had a negative bent to it. Everyone was just SO sure that the stock market would bump its head on the obvious resistance level at S&P 2020. Everyone was also sure that stocks would proceed to head directly south and take another trip through the range. And everyone in the bear camp was pretty darn sure that the market was going to break to new lows.

But if 28 years of experience has taught me anything it is that once everyone begins to sing the same song in this game, Ms. Market tends to go out of her way to make a fool of the crowd.

Sure enough, the day after the chorus had grown quite loud about the dire outlook for stocks, the market turned around. Sure enough, on October 15th, the S&P 500 erased the prior two days of "disappointing action." And then sure enough, just when everybody thought 2020 was the ceiling, but bulls found a way to "break on through to the other side.".

Super Mario to the Rescue!

Sure, "Super Mario" certainly had a hand in the bulls regaining their long lost mojo as traders on every inch of the planet now know what to do when a central bank starts openly talking about more QE. And then when you add in the rumblings out of China about more stimulative activity, well, it appears that the mood at the corner of Broad and Wall has definitely changed.

And frankly, there is a good reason for the mood swing seen in the market recently. You see, if the ECB is already talking about doing what it takes to get the Eurozone economy out of the dumps and the Chinese are preparing all kinds of plans to keep their economy growing at a reasonable rate (aka 7% per year), then the primary worry in the stock market - weakening global growth - can be easily refuted.

In other words, it is hard to worry about global growth going south when the primary players involved (U.S., Europe, and China) are focused on making sure that growth occurs, right?

S&P 500 - Daily

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So, the question facing investors as we enter the last week of the month - which just happens to coincide with the beginning of the strongest seasonal period for stocks - is, where do we go from here?

To be sure, stocks are currently overbought. Our short-term indicators (the stochastic in the lower clip of the chart above is a decent quick-and-dirty example of a short-term overbought/sold indicator) tell us that stocks have indeed moved a long way in a pretty short period of time. And to most traders, this means that it is time to "go the other way" for a day or three.

As such, it would be completely logical/normal to see a pullback of sorts in the coming days as the bulls could use a respite after such a spirited advance (I've drawn in a likely scenario for price on the chart above).

However, it is important to note that a strong overbought condition can also be a "thrust signal," which is a good thing. In short, when the bulls are "in gear" the moves tend to have some "oomph" behind them. And while today's algo-driven trading environment makes it harder to tell when a thrust is "real" (versus a period of time in which the algos are seen chasing their tails in one direction or the other), our momentum indicators are starting to show some signs of life.

What Do the Indicators Say?

Below is a table showing the current readings and the corresponding historical returns of those readings for some of our favorite indicators.


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The first section contains a series of classic market momentum indicators. A quick glance at the colors on the indicator readings really tells the story as there is a fair amount of green here. The bottom line is that momentum is pretty decent and we are starting to see some of the "thrust" indicators flash buy signals. (Oh, and it doesn't hurt that my "desert island" indicator is back on a buy signal.)

The next section is a group of "early warning" indicators. While there is some red visible, the overall reading from this group of indicators is mostly neutral. As such, there isn't a strong reason to get overly concerned about an intermediate-term "mean reversion" move in stocks at this time.

And finally, there are the "external factor" indicators/models. These are designed to give us a feel for the state of the big-picture drivers of stock prices. And as you can plainly see, there is a lot of green on that screen. In fact, the only negative is the "absolute valuation" component, which can be offset by the "relative valuation" reading. But even with the negative in the valuation area, the average historical return for the group remains pretty healthy.

The Bottom Line

The bottom line here is fairly straightforward. On a short-term basis, the bulls have gained control of the ball and appear to be large and in charge at the moment. However, stocks are now overbought and due for a pause. As such, a pullback to test support would be logical. But from a longer-term perspective, seasonality is favorable, the central banks of the world remain the bulls' best friend, and the external indicators are largely positive.

Therefore, it looks like the corrective phase has come to an end and I would not at all be surprised to see the bulls continue make the bears' lives miserable as we head into year-end.

The Pre-Game Indicators

Here are the Pre-Market indicators we review each morning before the opening bell...

Major Foreign Markets:
    Japan: +0.65%
    Hong Kong: -0.16%
    Shanghai: +0.51%
    London: -0.13%
    Germany: +0.09%
    France: -0.62%
    Italy: -0.56%
    Spain: -0.03%

Crude Oil Futures: +$0.05 to $44.65

Gold: +$4.10 at $1166.90

Dollar: higher against the yen, euro, and pound

10-Year Bond Yield: Currently trading at 2.068%

Stock Indices in U.S. (relative to fair value):
    S&P 500: -4.80
    Dow Jones Industrial Average: -27
    NASDAQ Composite: -8.40

Thought For The Day:

"Character is much easier kept than recovered" --Thomas Paine

Current Market Drivers

We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).

      1. The State of Global Central Bank Policy
      2. The State of China/Global Growth
      3. The State of the U.S. Economy

The State of the Trend

We believe it is important to analyze the market using multiple time-frames. We define short-term as 3 days to 3 weeks, intermediate-term as 3 weeks to 6 months, and long-term as 6 months or more. Below are our current ratings of the three primary trends:

Short-Term Trend: Positive
(Chart below is S&P 500 daily over past 1 month)

Intermediate-Term Trend: Moderately Positive
(Chart below is S&P 500 daily over past 6 months)

Long-Term Trend: Moderately Positive
(Chart below is S&P 500 daily over past 2 years)

Key Technical Areas:

Traders as well as computerized algorithms are generally keenly aware of the important technical levels on the charts from a short-term basis. Below are the levels we deem important to watch today:

  • Key Near-Term Support Zone(s) for S&P 500: 2020
  • Key Near-Term Resistance Zone(s): 2135

The State of the Tape

Momentum indicators are designed to tell us about the technical health of a trend - I.E. if there is any "oomph" behind the move. Below are a handful of our favorite indicators relating to the market's "mo"...

  • Trend and Breadth Confirmation Indicator (Short-Term): Positive
  • Price Thrust Indicator: Positive
  • Volume Thrust Indicator(NASDAQ): Neutral
  • Breadth Thrust Indicator (NASDAQ): Positive
  • Intermediate-Term Volume Relationship: Negative
  • Technical Health of 100+ Industry Groups: Moderately Positive

The Early Warning Indicators

Markets travel in cycles. Thus we must constantly be on the lookout for changes in the direction of the trend. Looking at market sentiment and the overbought/sold conditions can provide "early warning signs" that a trend change may be near.

  • S&P 500 Overbought/Oversold Conditions:
          - Short-Term: Overbought
          - Intermediate-Term: Neutral
  • Market Sentiment: Our primary sentiment model is Moderately Negative .

The State of the Market Environment

One of the keys to long-term success in the stock market is stay in tune with the market's "big picture" environment in terms of risk versus reward.

  • Weekly Market Environment Model Reading: Moderately Positive

Wishing you green screens and all the best for a great day,

David D. Moenning
Founder and Chief Investment Strategist
Heritage Capital Research


Indicator Explanations

Trend and Breadth Confirmation Indicator (Short-Term) Explained: History shows the most reliable market moves tend to occur when the breadth indices are in gear with the major market averages. When the breadth measures diverge, investors should take note that a trend reversal may be at hand. This indicator incorporates an All-Cap Dollar Weighted Equity Series and A/D Line. From 1998, when the A/D line is above its 5-day smoothing and the All-Cap Equal Weighted Equity Series is above its 25-day smoothing, the equity index has gained at a rate of +32.5% per year. When one of the indicators is above its smoothing, the equity index has gained at a rate of +13.3% per year. And when both are below, the equity index has lost +23.6% per year.

Price Thrust Indicator Explained: This indicator measures the 3-day rate of change of the Value Line Composite relative to the standard deviation of the 30-day average. When the Value Line's 3-day rate of change have moved above 0.5 standard deviation of the 30-day average ROC, a "thrust" occurs and since 2000, the Value Line Composite has gained ground at a rate of +20.6% per year. When the indicator is below 0.5 standard deviation of the 30-day, the Value Line has lost ground at a rate of -10.0% per year. And when neutral, the Value Line has gained at a rate of +5.9% per year.

Volume Thrust Indicator Explained: This indicator uses NASDAQ volume data to indicate bullish and bearish conditions for the NASDAQ Composite Index. The indicator plots the ratio of the 10-day total of NASDAQ daily advancing volume (i.e., the total volume traded in stocks which rose in price each day) to the 10-day total of daily declining volume (volume traded in stocks which fell each day). This ratio indicates when advancing stocks are attracting the majority of the volume (readings above 1.0) and when declining stocks are seeing the heaviest trading (readings below 1.0). This indicator thus supports the case that a rising market supported by heavier volume in the advancing issues tends to be the most bullish condition, while a declining market with downside volume dominating confirms bearish conditions. When in a positive mode, the NASDAQ Composite has gained at a rate of +38.3% per year, When neutral, the NASDAQ has gained at a rate of +13.3% per year. And when negative, the NASDAQ has lost at a rate of -8.5% per year.

Breadth Thrust Indicator Explained: This indicator uses the number of NASDAQ-listed stocks advancing and declining to indicate bullish or bearish breadth conditions for the NASDAQ Composite. The indicator plots the ratio of the 10-day total of the number of stocks rising on the NASDAQ each day to the 10-day total of the number of stocks declining each day. Using 10-day totals smooths the random daily fluctuations and gives indications on an intermediate-term basis. As expected, the NASDAQ Composite performs much better when the 10-day A/D ratio is high (strong breadth) and worse when the indicator is in its lower mode (weak breadth). The most bullish conditions for the NASDAQ when the 10-day A/D indicator is not only high, but has recently posted an extreme high reading and thus indicated a thrust of upside momentum. Bearish conditions are confirmed when the indicator is low and has recently signaled a downside breadth thrust. In positive mode, the NASDAQ has gained at a rate of +22.1% per year since 1981. In a neutral mode, the NASDAQ has gained at a rate of +14.5% per year. And when in a negative mode, the NASDAQ has lost at a rate of -6.4% per year.

Bull/Bear Volume Relationship Explained: This indicator plots both "supply" and "demand" volume lines. When the Demand Volume line is above the Supply Volume line, the indicator is bullish. From 1981, the stock market has gained at an average annual rate of +11.7% per year when in a bullish mode. When the Demand Volume line is below the Supply Volume line, the indicator is bearish. When the indicator has been bearish, the market has lost ground at a rate of -6.1% per year.

Technical Health of 100 Industry Groups Explained: Designed to provide a reading on the technical health of the overall market, this indicator takes the technical temperature of more than 100 industry sectors each week. Looking back to early 1980, when the model is rated as "positive," the S&P has averaged returns in excess of 23% per year. When the model carries a "neutral" reading, the S&P has returned over 11% per year. But when the model is rated "negative," stocks fall by more than -13% a year on average.

Weekly State of the Market Model Reading Explained:Different market environments require different investing strategies. To help us identify the current environment, we look to our longer-term State of the Market Model. This model is designed to tell us when risk factors are high, low, or uncertain. In short, this longer-term oriented, weekly model tells us whether the odds favor the bulls, bears, or neither team.


Disclosures

The opinions and forecasts expressed herein are those of Mr. David Moenning and may not actually come to pass. Mr. Moenning's opinions and viewpoints regarding the future of the markets should not be construed as recommendations. The analysis and information in this report is for informational purposes only. No part of the material presented in this report is intended as an investment recommendation or investment advice. Neither the information nor any opinion expressed nor any Portfolio constitutes a solicitation to purchase or sell securities or any investment program.

Any investment decisions must in all cases be made by the reader or by his or her investment adviser. Do NOT ever purchase any security without doing sufficient research. There is no guarantee that the investment objectives outlined will actually come to pass. All opinions expressed herein are subject to change without notice. Neither the editor, employees, nor any of their affiliates shall have any liability for any loss sustained by anyone who has relied on the information provided.

The analysis provided is based on both technical and fundamental research and is provided "as is" without warranty of any kind, either expressed or implied. Although the information contained is derived from sources which are believed to be reliable, they cannot be guaranteed.

David D. Moenning is the owner of Heritage Capital Management (HCM) a registered investment adviser. Advisory services are offered through Heritage Capital Management, Inc. For a complete description of investment risks, fees and services review the HCM firm brochure (ADV Part 2) which is available from your Investment Representative or by contacting HeritageHCM also serves as a sub-advisor to other investment advisory firms. Neither HCM or Heritage is registered as a broker-dealer.

Employees and affiliates of Heritage and HCM may at times have positions in the securities referred to and may make purchases or sales of these securities while publications are in circulation. Editors will indicate whether they or Heritage/HCM has a position in stocks or other securities mentioned in any publication. The disclosures will be accurate as of the time of publication and may change thereafter without notice.

Investments in equities carry an inherent element of risk including the potential for significant loss of principal. Past performance is not an indication of future results.