October 28th 2018

Market Review

U.S. stocks finished another week with deep losses. The Dow Jones Industrial Average slumped 3.0 percent over the week to 24,688.31. The S&P 500 plummeted 3.9 percent for the week to finish at 2,658.69. The Nasdaq booked a weekly loss of 3.8 percent and ended at 7,167.21. In October the S&P 500 has lost 8.8 percent, the Dow Jones Industrial Average is down 6.7 percent, and the Nasdaq has shed 11 percent. Friday’s downdraft also pulled the S&P 500 and the blue-chip index into the red for 2018. The Nasdaq is still up 3.8 percent year-to-date. All key S&P sectors ended in red for the week, led by energy. The CBOE Volatility Index (VIX), widely considered the best gauge of fear in the market, traded lower, near 24.2.

Strategy Review

Right in line with our recent outlook, the market continued to decline significantly last week. To be more precise, in our last week’s comment, we highlighted the fact that any upcoming strength should only be seen as a corrective bounce (bull-trap) rather than the start of a new sustainable uptrend. This was mainly due to the fact that we had not seen any ingredients for a typical bottom building process back then. Consequently, we advised our conservative members to stay at the sideline, whereas we said that our aggressive traders should not buy into any upcoming rebound (or to remain short) as we expected to see further strong selling pressure ahead. In fact, after the S&P 500 had bounced towards 2,753 on Tuesday, further significant selling-pressure dominated the rest of the week (where the S&P 500 almost lost another 100 points). Moreover, we said that (according to our indicator framework) the current correction cycle could easily turn out to be much stronger in its nature (than others might expect for the time being). In other words, the risk for a technical bear market (losses below minus 20 percent) is extremely high at the moment. This view is basically unchanged at the moment, as we have not seen any signs for a typical intermediate/sustainable bottom yet. 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 about 5 to 10 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 re-test comes along with quite positive divergences within our indicator framework (see list below) we can be pretty sure that the market hits rock bottom.

  • Significant less new lows at NYSE during a re-test process (or if the market hits a new major low)
  • Significant lower CBOE Volatility Index (VIX) during the re-testing process (or if the market hits a new major low)
  • Positive divergences within our short-term oriented trend- and tape indicators (Advance-/Decline 20 Days Momentum, Modified MACD, NYSE New Highs minus New Lows, Modified McClellan Oscillator Daily, percentage of stocks which are trading above short- to mid-term moving average and/or within the Global Futures Trend Index) during the re-testing process or if the market hits a new major low

We saw such a typical bottom building processes in August 2015, January 2016 or just in February this year. Consequently, our short- to mid-term oriented indicator framework remains key area of focus right now.

Short-Term Technical Condition

If we focus on our short-term oriented trend indicators, we cannot spot any positive divergences so far. To be more precise, the short-term down-trend of the market remains well in force and even gained more bearish ground last week. The S&P 500 closed 125 (!) points below the bearish threshold from the Trend Trader Index. Consequently, the short-term oriented price trend of the market remains bearish as long as the S&P 500 does not close above the upper threshold of the Trend Trader Index (2,828 points). Also both envelope lines of the Trend Trader Index began to free-fall. The setting looks completely the same if we examine the underlying momentum of this short-term oriented price trend. The gauges from the Modified MACD and the Advance-/Decline 20 Day Momentum Indicator plunged further into bearish territory last week (and have, therefore, not shown any signs of positive divergences so far)! As the latter indicator tends to be a leading one, we received further confirmation that it is still a bit too early to call for a major bottom right now.

Unfortunately, this view is also absolutely confirmed by our entire short-term oriented market breadth indicators. The short-term gauges from the Modified McClellan Oscillator Daily and the Modified McClellan Volume Oscillator Daily plummeted once again last week and to their lowest levels for months. This signals that the underlying momentum and volume of advancing stocks on NYSE has absolutely not recovered at all during the bounce process at the beginning of the week. Moreover, this view is also confirmed by the NYSE New HighsNew Lows Indicator, which showed again a very strong peak in the number of new lows, whereas the number of new yearly highs was nearly zero! Accordingly, the High-/Low-Index Daily rocketed again to one of the highest bearish levels for months (and has, therefore, clearly confirmed the latest sell-off from last week). Thus, the chances for a healthy (and sustainable) rebound are extremely low at the moment. And the latest decline was again driven by the whole market and not only caused by a few large caps within the S&P 500 as the percentage of stocks which are trading above their short-term oriented moving averages (20/50) have not shown any positive moves recently. Right now there are only 6/9 percent of all NYSE listed stocks which are trading above their 20/50 days moving average! This signals that most of the selling pressure was coming from the broad market rather than from a few large caps and, thus, it is a way too early to bet on a sustainable trend-reversal (at least for the time being).

From a pure contrarian point of view, the picture remains almost unchanged compared to last week. The market is quite oversold (Advance-/Decline Ratio Daily and the Upside-/Downside Ratio Daily), plus most of our option based contrarian indicators (Daily Put-/Call Ratio All CBOE Options, Global Futures Put-/Volume Ratio, All CBOE Options Call-/Put Ratio Daily, All CBOE Options Call-/Put Ratio Oscillator and the Equity Options Call-/Put Ratio Oscillator Weekly) remain outright bullish at the moment. As a matter of fact, strong bouncing cannot be ruled out at the moment. Apart from these facts, the picture on the contrarian side looks quite grim. The Smart Money Flow Index clearly confirmed the sell-off from last week and even indicates that the current correction will turn out to be much stronger in its nature. Another concerning fact is that the WSC Capitulation Index has not shown any signs of weaknesses so far. So from a pure contrarian point of view, it looks like that the worst is not over yet (although stronger cannot be ruled out).

Mid-Term Technical Condition

This view is also supported by our mid-term oriented trend indicators as they continued to deteriorate last week and have not shown any signs of bullish divergences so far. The gauge from the Global Futures Trend Index dropped one percentage point to 6 percent. This is the lowest level since January 2016. As always pointed out, the current correction cycle will be definitely not over as long as its gauge remains far below its outright bearish 60 percent threshold. Also from a pure price point of view, the mid-term oriented uptrend of the market continued to deteriorate, as the WSC Sector Momentum Indicator continued its bearish ride. Currently, just only 27 percent of all sectors within the S&P 500 are outperforming riskless money market on a relative basis. Also the momentum score of riskless money market weakened as it jumped to 46 percent. Three weeks ago, it was zero percent. And as shown in our Sector Heat Map, currently already 4 sectors are trading below the one from riskless money market.

Another threatening fact is that our entire mid-term oriented breadth indicators continued to deteriorate last week. Once again our Modified McClellan Oscillator Weekly widened its bearish gap significantly. Also the percentage of stocks which are trading above their mid-term oriented simple moving average (100/150) dropped to their lowest level for years. This indicates that the underlying trend momentum of the market is outright bearish, as most of all NYSE listed stocks are definitely in a strong down-trend at the moment. Another concerning signal is coming from the Advance-/Decline Index Weekly and from the Upside-/Downside Volume Index Weekly as both indicators strengthened their bearish signals. This indicates that again a lot of purchasing power was pulled out of the market last week. Moreover, our entire advance-decline indicators (Advance-/Decline Line Daily, Advance-/Decline Line in Percent, Advance-/Decline Line Weekly and the Advance-/Decline Volume Line) dropped to their lowest levels for months. Therefore, we expect to see further pains ahead.

Long-Term Technical Condition

The long-term oriented trend of the market also weakened again. Although the WSC Global Momentum Indicator showed some small signs of improvements last week (as it increased 2 percentage points), it is still trading near the lowest level for years. This indicates that only 12 percent 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 continued to drop, although it is still holding up quite well and trading in solid bullish territory. This signals that the long-term oriented trend of U.S. equities is slightly reversing from quite elevated levels. Our WSC Global Relative Strength Index reveals that the relative strength of nearly all risky markets is trading below the one from U.S. Treasuries (which is another indication for a risk-off market environment). And like in the past weeks, our long-term oriented tape indicators had to take a hard hit. The Modified McClellan Volume Oscillator Weekly reached its worst readings for months and the High-/Low Index Weekly and the percentage of stocks which are trading above their 200 day moving average their worst readings for years. This is another piece of evidence that the market looks vulnerable for further (and stronger) disappointments on a mid-term time horizon.

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 Global Tactical ETF Portfolio, WSC All Weather Portfolio and the WSC Inflation Proof Retirement Portfolio. As the momentum score of utilities rose above average and above the one from the S&P 500 within our Sector Heat Map, we received a buy signal for that ETF within our WSC Sector Rotation Strategy. This signal fits quite well to our current outlook, as the portfolio is definitely getting a quite defensive stance.

Bottom Line

The overall outlook remains almost unchanged compared to last week. In line with our recent call, the market is in the middle of a correction. Therefore, conservative members should keep staying on the sideline as the current risk-/reward ratio is too low at the moment to act contrarian. This is mainly due to the fact that we have not seen any major ingredients for an important intermediate bottom yet. Nevertheless, from a pure contrarian point of view an oversold but corrective bounce cannot be ruled out at the moment. As a matter of fact, aggressive traders should sell into strength rather than chasing the market too aggressively on the upside.

Stay tuned!