admin No Comments

January 23rd 2022  |

Market Review |

U.S. stocks finished the shortened week with deep losses. The Dow Jones Industrial Average slumped 4.6% over the week to 34,265.37. The S&P 500 retreated 5.7% for the week to finish at 4,397.94. The Nasdaq posted a 7.6% loss for the week and finished at 13,768.92. Both the Dow and S&P 500 closed out their third straight week of losses and their worst weeks since 2020. All key S&P sectors ended in negative territory for the week, led by the discretionary sector. The CBOE Volatility Index (VIX), widely considered the best gauge of fear in the market, advanced to 28.9.

Strategy Review

Despite the fact that the market was just trading less than 3 percentages points below its all-time high two weeks ago, we received a growing number of evidences that the market environment was getting increasingly corrective. This was based on the fact that our indicator framework showed that the underlying trend quality was faltering quickly, although major indexes were still holding up quite well. Although not every weak trend quality market environment lead to a correction in the past, every correction started exactly that way. In other words, even though markets sold off in most cases, there were also times when such a narrow based consolidation period transformed back into a more broad-based set-up and vice versa. Such processes could take days or even weeks, whereas the tilt between supportive and corrective could get also quite narrow. In such a case, our standard procedure is to define a hard stop limit to exit if the tilt is getting too narrow (for further details have a closer looks at the indicator details of the Big Picture Indicator). Given the fact that the tilt looked extremely tight last week, we said it would make sense to place a stop-loss limit at 4,531 (since the situation had the potential to escalate within days). In fact, the gauge of the Big Picture Indicator jumped into the bearish consolidation quadrant on Tuesday, whereas our suggested stop-loss limit was also triggered later in the week as the S&P 500 retreated strongly until the end of the week. Consequently, the big question is if it is time for a bargain hunt or will the market face further declines? Normally, a typical bottom tends to occur as a process rather than as a V-shaped recovery. If the market hits an important bottom, we usually see a strong counter trend rally, which normally lasts for a couple of trading sessions. After that, the market tends to show renewed weaknesses, which could then lead to a retest or even a break of its previous low. If this weakness comes along with more positive divergences within our market breadth indicators (fewer new lows, a lower CBOE Volatility Index and further positive divergences), we can be quite sure that the market hits rock bottom. We saw such a typical bottom building processes in August 2015, January 2016 or just in February 2018. Otherwise, further declines can be expected. Currently, none of these mentioned patterns are visible.

Short-Term Technical Condition

Our entire short-term-oriented trend indicators remain outright bearish since they even gained more negative ground last week. The S&P 500 closed 265 points (!) below the bearish threshold of the Trend Trader Index. In addition, both envelope lines of this reliable indicator also started to decline, which is another indication for a well-established bearish short-term-oriented price driven trend at the moment. Thus, the broad index is extremely far away from getting back into a short-term-oriented uptrend. This fact is also confirmed by our Modified MACD, which continued its bearish free fall and once again reached the lowest level for months. On top of that, we can also see that the gauge of the Advance-/Decline 20 Day Momentum Indicator has also finally dropped below its bullish threshold last week. As this indicator tends to be a leading one and given the fact that our entire short-term-oriented trend indicators are now signaling a negative market environment, it is highly likely to see further pain down the road.

More importantly, this strong price driven short-term-oriented down-trend is now also strongly backed by the readings of our entire short-term-oriented trend-quality indicators (as they continued to deteriorate significantly last week). Both, the Modified McClellan Oscillator Daily and the Modified McClellan Volume Oscillator Daily turned bearish or widened their bearish gaps, showing that the momentum of advancing issues and advancing volume literally collapsed. This picture is also fully confirmed by the NYSE New HighsNew Lows Indicator, as the number of new lows significantly outpaced the number of new highs during the whole week (which ended with a quite confirmative spike on Friday). Consequently, the High-/Low-Index Daily rocketed to its highest bearish level for months. As a result, the market internals have clearly confirmed the pullback from last week. Further confirmation is coming from the percentage of stocks which are trading above their short-term oriented moving averages (20/50). There we can see that both gauges dropped to their lowest level for weeks as only 8/17 percent of all NYSE listed stocks are currently trading above their 20/50 days moving average. This signals that most of the selling pressure was coming from the broad market rather than being just the result of a mega-cap (tech) rout. A fact, which can be also observed if we focus on the Upside-/Downside Volume Index Daily. Thus the trend quality of that negative trend looks too strong to initiate a sustainable trend-reversal at the moment.

From a purely sentiment point of view, the chances for a short-lived but corrective bounce are increasing. The market is quite oversold (Advance-/Decline Ratio and the Upside-/Downside Volume Ratio), plus we saw spiks in some of our option based sentiment indicators (WSC Timing Indicator, AII CBOE Put-/Call Ratio and the AII CBOE Call-/Put Ratio Oscillator). This shows increased heading activities among market participants which are then often followed by some kind of short-lived stabilization. The main reason, why we mention short-lived here is based on the fact that the absolute level of fear (measured by the CBOE Volatility Index), still remains below average (given the magnitude of the decline). Moreover, we can see that the z-score of the Daily Put-/Call Ratio All CBOE Options has not reached extreme levels yet. Another red flag is coming from the Smart Money Flow Index, which dropped to a new low on Friday. This shows that the big guys started to reduce their equity exposure significantly, whereas the general market sentiment measured by the AII Bulls & Bears survey still shows some degree of complacent (given the magnitude of the recent decline). Another mid-term oriented negative sign is coming from the WSC Capitulation Index, which is now clearly showing a risk-off market environment.

Mid-Term Technical Condition

Another reason, why it is too early to buy the dips is based on the fact that the latest decline has definitely left its mark on the readings of our mid-term-oriented indicators. The gauge of our Global Futures Trend Index dropped into the middle part of its bearish consolidation area (35%). This is telling us that the market is highly at risk for further declines, whereas any upcoming gains tend to be outright fragile/corrective in their nature. Consequently, the current correction cycle will be definitely not over as long as its gauge remains far below its outright bearish 60% threshold (or does not show any stronger signs of positive momentum). On the other hand, we can also see that the purely price driven mid-term-oriented uptrend of the market remains intact. Although the WSC Sector Momentum Indicator dropped for the week, it keeps trading at quite bullish levels for now. This can also be observed if we examine our Sector Heat Map, as the momentum score from riskless money market remains at 0%. In addition, all sectors within the S&P 500 are trading above the momentum score from riskless money market. As long as this is the case, the risk that the current correction will transform into a bear market is quite limited (at least for now).

More importantly, also the quality of that mid-term-oriented trend (also known as market breadth) deteriorated significantly last week. First of all, our Modified McClellan Oscillator Weekly continued to show a widening bearish gap, whereas the percentage of stocks which are trading above their mid-term oriented simple moving average (100/150) dropped to the lowest level for more than one year. This indicates that the trend and momentum of the broad market is outright negative at the moment. Further concerning signals are coming from the Advance-/Decline Index Weekly and from the Upside-/Downside Volume Index Weekly. Both indicators widened their bearish gaps significantly last week, indicating that a lot of purchasing power was pulled out of the market. Moreover, it is also telling us that – from a purely trend quality point of view – any upcoming gains tend to be corrective or outright fragile in their nature (as long as we do not see a recovery there). In addition, our entire advance-decline indicators (Advance-/Decline Line Daily, Advance-/Decline Line Weekly and the Advance-/Decline Volume Line) confirmed the latest pullback and, therefore, it might be a way too early for a bargain hunt.

Long-Term Technical Condition

The long-term-oriented trend of the market also weakened last week. The WSC Global Momentum Indicator dropped by more than 20 percentage points. This signals that now only 23% of all local equity markets around the world (which are covered by our Global ETF Momentum Heat Map) are trading above their long-term oriented trend-lines. Also, our Global Futures Long Term Trend Index, which has been decreasing for weeks now, dropped to the lowest levels for months. Although it remains in solid bullish waters, this fact is telling us that the long-term oriented trend of U.S. equities is weakening. The WSC Global Relative Strength Index of U.S. equities dropped significantly and now, commodities remain the strongest asset class in relative terms. Reviewing our long-term oriented trend quality indicators also shows a deteriorating picture all across the board (High-/Low Index Weekly, Modified McClellan Volume Oscillator Weekly and SMA 200).

Model Portfolios

Last week, there were no changes within the WSC All Weather Model Portfolio, the WSC Inflation Proof Retirement Portfolio and the WSC Dynamic Variance Portfolio. As the momentum score of materials and consumer discretionary dropped below average and below the momentum score of the S&P 500, we received a sell signal for these ETFs within the WSC Sector Rotation Strategy. Thus, the WSC Model Portfolio Composite is also selling these ETFs and is, therefore, increasing the weight of its remaining holdings of the WSC Sector Rotation Strategy. Moreover, we are proud to announce that our entire model portfolios were holding up relatively well compared to their benchmarks. Especially, the WSC Inflation Proof Retirement Portfolio and the WSC Sector Rotation Strategy.

Bottom Line

Although an oversold bounce cannot be ruled out, any upcoming gains should turn out to be limited in price and time. This is based on the fact that we have not seen any kind of positive divergences in our indicator framework so far. A fact, which can also be observed within our Big Picture Indicator (as its gauge dropped deeply into its bearish consolidation quadrant on Friday). Thus, further selling pressure can be expected as the market remains in the middle of a stronger sell-off cycle. Thus, conservative members should stay on the sideline since the current risk-/reward ratio looks too low to justify any kind of bargain hunt at the moment. Aggressive traders should focus on the short side as long as we do not see stronger improvements within our indicator framework.

Stay tuned!