March 22nd 2020

Market Review

U.S. stocks attempted to rally on Friday, but failed, finishing another volatile and bruising week with sharp losses. After rallying more than 400 points earlier on Friday, the Dow Jones Industrial Average finished the week at 19,173.98. The blue-chip gauge dropped 17.3% for the week, its biggest one-week fall since October 2008, when it slid 18.2%. The S&P 500 closed the week at 2,304.92 and lost 15% week to date. The Nasdaq fell 12.6% from last Friday’s close to end at 6,879.52 (after jumping more than 2% on Friday). Both the S&P 500 and Nasdaq also had their worst weekly performances since the financial crisis in 2008. The 30-stock Dow Jones Industrial Average is now 35.2% below its all-time high level from February, while the S&P 500 is 32.1% below its high. All key S&P sectors ended once again in deep negative territory for the week, led by energy. The CBOE Volatility Index (VIX), widely considered the best gauge of fear in the market, traded near 66.

Strategy Review

In our last week’s comment, we warned our members not to go on a bargain spree since we expected to see another significant down-leg of the S&P 500 towards or even below its latest correction low at 2,478. In fact, the S&P 500 had its worst week since the financial crisis as it lost another 15% within a week. As a matter of fact, the market has been exactly following our projected path so far. The main rationale behind that bearish call was the fact that the bounce two weeks ago had literally zero positive impact on our indicator board back then. Moreover, we said we needed to see some typical bottom building pattern within our indicator framework first, before we would expect to see some form of stabilization process. To be more precise, we said that it was extremely important to monitor the expected down-leg quite carefully as it would give us further guidance where the market is heading! In this context we also said that if such a down-leg was accompanied with quite strong positive divergences in market breadth (shrinking downside volume and/or declining issues, decreasing new lows …) in combination with persistent buy signals and positive divergences within our contrarian/fear indicators (lower CBOE Volatility Index, spike in amount of bears on Wall Street, spike on put options …) we would receive the first ingredients that the market might not be too far away from an ultimate low. Otherwise further renewed waterfall declines could be expected and the process starts all over again. As a matter of fact, we put a strong focus on these patterns within our indicator framework right now.

Short-Term Technical Condition

Focusing on our short-term oriented trend indicators reveals that the short-term down-trend of the market remains well in force and even gained more bearish ground last week. From a pure price point of view, we can see that the S&P 500 closed 442 points (!) below the bearish threshold from the Trend Trader Index. In addition both envelope lines from this indicator are in a free fall. So from a pure price point of view, the S&P 500 is extremely far away from getting back into a short-term oriented uptrend. The same is true if we focus on the underlying trend momentum as the Modified MACD reached the lowest level for years. Moreover, we can see that this indicator also remains in a bearish free fall and is, therefore, far away from showing any signs of positive divergences yet. The situation is slightly different if we focus on the Advance-/Decline 20 Day Momentum Indicator. Although its gauge also plummeted to the lowest levels for years, we saw at least some minor positive divergence on Friday. Despite the fact that this divergence can be interpreted as some green shoots of recovery, we should not forget that this bullish divergence is still a bit too small to be taken too seriously at the moment.

From an absolute point of view, our entire short-term market breadth (tape) indicators remain outright bearish at the moment. The short-term gauges from the Modified McClellan Oscillator Daily and the Modified McClellan Volume Oscillator Daily continued to show major signs of exhaustion as they plummeted to their lowest levels for years. This tells us that the underlying momentum of advancing issues and advancing volume on NYSE literally vaporized last week. A fact which can be also seen if we focus on the Upside-/Downside Volume Index Daily, which is still showing an outright negative volume flow at the moment. Another outright bearish signal is coming from the percentage of stocks which are trading above their short-term oriented moving averages (20/50). Both indicators were hardly able to drop deeper for the week as both of them languished near zero percent. As a matter of fact, the current tape condition can be described at outright bearish at the moment. This picture is also confirmed by the NYSE New HighsNew Lows Indicator, as we saw strong spikes in the number of new lows during the whole week, whereas the number of new yearly highs was nearly zero (with a very, very small exception on Friday)! Consequently, the High-/Low-Index Daily is far away from flashing a bullish crossover signal at the moment and the current tape condition can be still described as outright bearish. Although these signals do look quite grim on an absolute level, we have also seen some small positive divergences, which do normally occur if the market is about to hit an important low/enters a stabilization phase. First of all, we only saw 299 daily new lows on Friday, although the S&P 500 plummeted to a new bear market low. Even on Thursday, we saw already less new lows than the day before. This is telling us that the latest down-leg was driven by a smaller basis (or by a few heavy weighted-stocks in the index), which is an early but typical pattern when the market is about to stabilize. As a matter of fact, the High-/Low-Index Daily has not fully confirmed the low on Friday. Another quite typical bullish divergence is coming from the Upside-/Downside Volume Index Daily as its bearish gauge has lost some momentum recently (indicating a decreasing downside participation/volume). These are quite surprising facts, if we consider that the S&P 500 faced its worst week since the financial crisis in 2008. On top of that we saw a spike in NYSE volume, which also often occurs near important lows. So all in all, the ingredients for an important low/stabilization-/bottom building process are definitely accumulating on a very fast pace.

On the contrarian side, the bullish ingredients for a stronger low are also accumulating on a fast pace. As already mentioned two weeks ago (respectively in many former market forecasts), a typical pattern during an important low is when the CBOE Volatility Index (VIX) decreases although the market is hitting a new bear market/correction low in that time period. If we focus on the CBOE Volatility Index (VIX), we can see that it dropped from to 82 to 64, although the market dropped to 2,295 on Friday (intra-day basis). Also our entire option based indicators grew further into bullish territory (AII CBOE Put-/Call Ratio Oscillator, Equity Options Put-/Call Ratio Oscillator and the WSC Put-/Volume Ratio). One specific option based indicator to mention here is the Daily Put-/Call Ratio All CBOE Options Indicators, since its z-score reached a value of 3.7. This is outright bullish, since from a statistical point of view such a number hardly occurs. Moreover, we can see that the amount of bears on Wall Street also spiked to 51. All these facts are telling us that a lot of fear/bad news is already priced in, leaving the market extremely vulnerable for positive surprises. In other words, a spark of good news might be enough to trigger a strong counter trend rally. Anyhow, on the other hand, we can see that the Smart Money Flow Index did not confirm the low on Friday, whereas the WSC Capitulation Index is also showing that it might be time to consider a risk-on market environment soon. So all in all, the typical ingredients for a stronger counter trend rally are accumulating.

Mid-Term Technical Condition

Not surprisingly, the mid-term oriented condition of the market looks quite damaged. The gauge from the Global Futures Trend Index dropped once again and has finally reached the bottom (0.6%), thus, the lowest level for years. As a consequence, the technical condition of the market can be still described as outright corrective at the moment – especially if we consider the very weak readings in mid-term oriented market breadth. Consequently, any upcoming counter-trend rally should lead to stronger improvements within this indicator. Otherwise, the previous (bear market low) will be tested or broken again. Anyhow, another negative fact for the time being is that the gauge from the WSC Sector Momentum Indicator also dropped significantly for the week and reached the lowest level for months. This is the confirmation that more and more sectors within the S&P 500 are underperforming riskless money market on a relative basis. This fact is also illustrated in our Sector Heat Map where the momentum score of riskless money market rocketed 28 percentage points (!) last week to end at 82.4%. So as long as we do not see a significant drop in this number, the mid-term technical condition of the market remains quite fragile.

This picture is widely confirmed by mid-term market breadth. Our Modified McClellan Oscillator Weekly widened its bearish gap last week and also the SMA (100/150) has not shown any recovery recently and kept trading at its lowest levels for months. This indicates that the underlying trend momentum of the market is absolutely bearish and all NYSE listed stocks remain in a strong downtrend at the moment. However, the most concerning signal is coming from the Advance-/Decline Index Weekly and the Upside-/Downside Volume Index Weekly, as both indicators widened their bearish gaps tremendously. These facts indicate that once again a lot of purchasing power was pulled out of the market last week.

Long-Term Technical Condition

Also the long-term oriented trend of the market continued to weaken last week. The WSC Global Momentum Indicator hit rock bottom, indicating that the bear-market is global in scope since all local equity markets around the world (which are covered by our Global ETF Momentum Heat Map) are trading below their long-term oriented trend-lines. This global risk-off market environment can be also observed if we focus on the WSC Global Relative Strength Index since all risky assets lost momentum last week. Finally, also our Global Futures Long Term Trend Index dropped last week (although it was holding up quite well the previous weeks). Another concerning fact is that our entire long-term oriented tape indicators (Modified McClellan Volume Oscillator Weekly, the SMA 200 and the High-/Low Index Weekly) weakened significantly last week.

Model Portfolios

If we have a closer look at our Model Portfolios, we can see that there have been no changes in the allocation advice from the WSC All Weather Model Portfolio, the WSC Inflation Proof Retirement Portfolio and the WSC Dynamic Variance Portfolio. As the underlying risk management indicator (WSC Sector Momentum Indicator) of the WSC Sector Rotation Strategy turned bearish, the portfolio is switching into its predefined bear-market allocation.

Bottom Line

The latest correction leg of the S&P 500 to 2,295 was definitely accompanied with some typical patterns we usually see when the market is about to hit an important bottom. As a matter of fact, the ingredients for a stronger and longer-lasting counter-trend rally are definitely increasing on a very fast pace. The main reason, why we mentioned important and not final low is due to the fact that the quality of the upcoming rally will answer that question. Right now, we are still early in that process since apart from these positive divergence mentioned above, we have not seen any bullish (crossover-) signals within our short-term oriented indicator framework so far. Consequently, it could be possible to see some further down-testing ahead, but the chances for an impulsive break-out are definitely increasing (as long as we see a strong decreasing amount of new lows/increasing new highs and an improving short-term oriented indicator framework). Consequently, the best approach for our conservative members (with a strong focus on preservation) is to stay on the sideline until we see at least some bullish (crossover-)signals within our short-term oriented indicator framework. Aggressive traders should start focusing on the long-side again (or should close profitable short-positions) if we see further improvements within short-term indicator framework (especially within our NYSE New Highs-/New Lows Indicator).

Stay tuned!