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August 23rd 2020

Market Review

In line with our strategic call, U.S. stocks finished the week in positive territory with two benchmarks hitting record highs. The Dow Jones Industrial Average closed at 27,930.33 and finished the week nearly flat. The S&P 500, in contrast, rose 0.7% over the week to finish at 3,397.16, a new record closing high. The broad index posted its longest winning streak since the week ending December 27, 2019 when the market rose for five straight weeks. The Nasdaq Composite jumped 2.7% during the week and closed also at a fresh record closing high of 11,311.80. It was the tech-heavy benchmark’s 36th record close in 2020. Among the key S&P sectors, the technology sector was the best weekly performer, while energy dragged. The CBOE Volatility Index (VIX), widely considered the best gauge of fear in the market, traded near 22.5.

Short-Term Technical Condition

From a pure price point of view, the short-term trend of the market remains intact as the S&P 500 closed 87 points above the bearish threshold from the Trend Trader Index. Nevertheless, the situation looks completely different if we analyze the underlying momentum of that short-term oriented price-driven uptrend. There we can see that the Modified MACD continued to decrease and is, therefore, about to flash a bearish crossover signal soon within the next couple of trading sessions. Another bearish signal is coming from the Advance-/Decline 20 Day Momentum Indicator as it dropped to the lowest level for weeks. Hence, both indicators are showing a quite bearish divergence to the S&P 500 – especially if we consider the fact that the broad index hit a record closing on Friday. These are clear indications that the current price driven rally is slightly running out of steam. That of course increases the risk that we might see a break of the ongoing short-term oriented trend any time soon. As you probably know, a break of a short-term oriented price driven trend has a very poor forecasting power since such an event could also turn out to be a healthy breather. As a matter of fact, we analyze if such a potential price driven trend break is caused by a few heavy weighted stocks (e.g. Apple, Facebook, Alphabet, Tesla…) in the index, or if it is a result of a weak demand all across the board. If the second one holds, a potential bullish trend-break could easily transform into a stronger pullback immediately, since there is no safety net around to cushion such a move. Consequently, short- to mid-term market breadth will give us further guidance what will happen if we see a short-term oriented price driven trend break in the next couple of trading sessions.

Unfortunately, our entire short-term market breadth indicators weakened across the board although the S&P 500 reached an all-time high on Friday. This is telling us that the current rally is increasingly driven by a few heavy weighted stocks in the index, whereas the broad market is already faltering! Especially, the short-term gauges from the Modified McClellan Oscillator Daily and the Modified McClellan Volume Oscillator Daily showed major signs of exhaustion causing stronger bearish signals in both indicators.  This shows that the underlying momentum and volume of advancing stocks on NYSE literally collapsed, although the market finished with solid gains last week. This can be also seen if we focus on the Upside-/Downside Volume Index Daily, which also flashed a bearish crossover signal on Friday. Thus, it was also not a big surprise that the percentage of stocks which are trading above their short-term oriented moving averages (20/50) also declined and even dropped into bearish territory (SMA 20). This is another quite concerning tape signal as it shows that the current rally is running out of steam on a fast pace. Another weak signal is coming from the NYSE New Highs/New lows Indicator as we only saw 65 new highs on Friday (although the market finished with a record closing on that day). Moreover, we saw a small spike in new lows, which is often the vanguard for further troubles down the road. Nevertheless, from a pure signal point of view the indicator remains bullish as the number of highs is still outpacing the number of lows. As a matter of fact, the High-/Low Index Daily remains bullish although it has lost some steam recently. However, given the outright weak short-term oriented market breadth structure of the market, we strongly believe that the air is getting thinner, whereas the downside potential is increasing on a fast pace (once we see a short-term oriented trend break).

Further dark clouds are coming from the contrarian side. There we can see that our entire option-based indicators (All CBOE Put-/Call Ratio Daily, WSC Put-/Volume Ratio, WSC Put-/Volume Ratio Oscillator and the All CBOE Call-/Put Ratio Oscillator) are showing an extreme “stonks only go up” mentality among the small fry. This is probably the most concerning signal as such a strong imbalance in the put-/call ratio is often a vanguard for a stronger trend-reversal. This complacent is also shown by the WSC Dumb Money Indicator, whereas the Smart Money Flow Index has also not confirmed the latest high of the Dow Jones Industrial Average. If we focus on seasonal patterns (Presidential Cycle and the Decennial Cycle), the market often hits an important intermediate top in the first week of September, which is then followed by a limited but stronger pullback into late October. If we consider the weak short-term oriented tape structure of the market, such a scenario looks quite likely. On the other hand, the only signal which does not fit into the puzzle right now is coming from the AII Bulls & Bears survey. This survey shows that there is still enough firepower on the sideline, waiting for a good entry point. In the end – if we put all contrarian signals together – any upcoming pullback will most likely represent a good buying opportunity rather than being the beginning of a new bear market. A scenario, which fits very well into the seasonality roadmap.

Mid-Term Technical Condition

Anyhow, another reason why we get a bit more cautious (especially on the short-term) is because the mid-term-oriented trend condition of the market also showed some smaller signs of fatigue last week. This is because the gauge from the Global Futures Trend Index dropped by 7 percentage points last week to 87%, although the S&P 500 hit a new all-time high on Friday. Right now, this is not a big game-changer (for the current bull-market) as its gauge is still trading at the upper edge of the bullish consolidation area and, therefore, far above its bearish 60% threshold. Nevertheless, its negative momentum could be interpreted as another short-term oriented warning signal. Apart from that fact, the mid-term-oriented uptrend looks quite solid as the WSC Sector Momentum Indicator has not shown any signs of weaknesses yet. This signals that most sectors within the S&P 500 are still outperforming riskless money market on a relative basis. This view is also supported by examining our Sector Heat Map as the momentum score of all sectors (except energy like in the previous weeks) keeps trading above the one from riskless money market (currently at 5.0 percent).

Another red flag on the horizon is coming from the fact that mid-term market breadth has also started to show some stronger signs of exhaustion recently. Despite the fact the percentage of stocks which are trading above their mid-term oriented simple moving average (100/150) remains bullish from a pure signal point of view they decreased for the week. On top of that we can see that the bullish gauges from the Upside-/Downside Volume Index Weekly and the Advance-/Decline Index Weekly also dropped significantly last. Although both indicators have not flashed a bearish crossover signal so far, their absolute bullish levels can be described as quite weak-kneed/non-confirmative for the time being. This is a quite concerning development, because in the past, all corrections were accompanied by bearish or outright weak readings within both indicators (together with a Global Futures Trend Index score below 60 percent). Consequently, the risk for stronger disappointments grew last week. On top of that we can see that the bullish gap from the Modified McClellan Oscillator Weekly also started to narrow, which is another indication that the overall tape momentum of the market is slowing down. Also, our entire Advance-/Decline Indicators (Advance-/Decline Line Daily, Advance-/Decline Volume Line, Advance-/Decline Line Weekly) did not confirm the latest high of the S&P 500. So from a pure mid-term oriented tape perspective, it looks like the market is also running out of fuel and, therefore, the upside potential is getting thinner, whereas the downside potential of the market has started to increase. As a matter of fact, it seems that the market is heading into a make or break set-up within the next couple of days/weeks.

Long-Term Technical Condition

The long-term technical condition of the market still shows a quite robust picture as the gauge from the WSC Global Momentum is trading at solid bullish levels. This shows that most local equity markets around the world (in detail 68 percent) remain in a long-term oriented uptrend so far. Also, the Global Futures Long Term Trend Index increased last week and nearly passed the bullish threshold. In addition, the relative strength of nearly all risky markets remains nearly unchanged compared to the previous week. If we examine our long-term oriented tape indicators, we can see that the Modified McClellan Volume Oscillator Weekly and the High-/Low Index Weekly improved, while the SMA 200 weakened.

Model Portfolios

Last week, there were no changes within the WSC All Weather Model Portfolio, the WSC Inflation Proof Retirement Portfolio, the WSC Dynamic Variance Portfolio and the WSC Sector Rotation Strategy.

Bottom Line

Although the S&P 500 reached a new record closing high on Friday, we think it is time to get a more cautious stance. This is because our entire indicator framework started to deteriorate last week and remains, therefore, quite weak-kneed/non-confirmative for the time being. This is telling us that the latest record high was mainly driven by heavy-weighted (tech) stocks in the index, whereas the broad market has already started to weaken significantly. In general, such a large cap driven rally is quite dangerous to play. Because if we see a trend-reversal in these large-caps (and a further deterioration within our tape indicators), there is literally no safety-net around to cushion such a move. In such a situation, the risk of a strong and sharp trend-reversal remains outright high. On the other hand, it could be possible to see another large cap driven overshoot or even a longer lasting consolidation (into early September) which could then also lead to a re-strengthening of the broad market. This could then also transform the technical set-up back into a healthier environment. Moreover, we should not forget that we are still quite early with our cautious call since most of our indicators remain still bullish from a pure signal point of view. A fact, which can be also seen if we focus on our Big Picture Indicator, which is still moving around within its bullish quadrant. However, as things could change quite quickly during the week and since some indicators from the Big Picture Indicator are updated on weekly basis it is important here to get a bit more cautious right now. In such a fragile technical environment, it makes sense to reduce high leverage/beta- and short-volatility trades as well as other high risky bets as the risk for a short-term trend reversal remains high. Nevertheless, before we issue a strategic sell-signal we would like to see some negative price action first. Therefore, we would advise our members to place a stop-loss limit at 3,310 (intra-day level). This stop loss limit should be in place until our indicator framework turns positive again!

Stay tuned!