September 20th 2020

Market Review

The major averages posted modest losses for the week. The Dow Jones Industrial Average lost less than 0.1% to finish at 27,657.42. The S&P 500 dipped 0.7% in five trading days to end at 3,319.47. The Nasdaq finished at 10,793.28 and lost 0.6% this week. The Dow is down 2.7% for the month-to-date and the S&P 500 down 5.2%. Among the key S&P sectors, energy was the best weekly performer, while comm. services dragged. The CBOE Volatility Index (VIX) – seen by many investors as the best “fear gauge” on Wall Street – traded near 25.8 on Friday.

Strategy Review

Earlier this year, the S&P 500 recorded its fastest bear-market in history, by dropping more than 35%  from its high on February 19 to its low on March 23. In the subsequent market forecast, we successfully predicted that the market had hit rock bottom (Market Comment 29th of March – Further bottom confirmation! Time to raise exposure again!), after we had seen already a lot of non-confirmation in our indicator framework one week earlier (see Market Comment 22nd of March –  Bounce successfully corrective! Time to raise exposure soon?). Since then our strategic bullish outlook remained unchanged although we saw some bumpy sessions during that incredible 50 percent rally which took place afterwards. Given the fact that the S&P 500 hit our suggested stop-loss level at 3,315 on Friday afternoon, we think it is time to downgrade our strategic view from bullish to bearish (biased). To be more precise, in late August we started to warn our members that the ingredients for a stronger sentiment driven washout/sell-off were increasing on a fast pace. As a result, we advised our members not to take too much leverage (or any kind of high-beta or short-volatility bets …), although our strategic bullish outlook had remained unchanged back then. Indeed, after the market had reached a new all-time high in early September, the sentiment driven sell-off marked the starting point for a quite volatile consolidation period. Given the fact that our indicator framework continued to deteriorate last week, it looked like the ongoing consolidation transformed into a more corrective set-up. Consequently, we issued a more cautious view in our latest Market Forecast as the risk-/reward ratio started to deteriorate significantly. However, as there was still a very small chance left that this corrective consolidation would transform back into a healthier set-up (albeit this was not our preferred scenario), we recommended to stay bullish as long as the S&P 500 kept trading above 3,315. On Friday, the S&P 500 slightly dipped below that important threshold before bouncing back into the closing bell. Consequently, our strategic view has clearly turned bearish (biased) since then.

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 81 points below the bearish threshold from the Trend Trader Index. In addition both envelope lines from this indicator formed a rounding top and finally started to decrease. This shows that – from a pure price point of view – the S&P 500 is 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 increased its bearish gap and has, therefore, not shown any signs of stabilization/bullish divergence so far. This is another indication that it might take a while until we see a sustainable trend reversal ahead. Consequently, any upcoming bounce should be limited in price and time. This is quite an important fact, since the Advance-/Decline 20 Day Momentum Indicator showed a minor positive divergence on Friday. As a result, we would not be surprised to see some form of bounce next week, but overall we should not forget that this bullish divergence is still a bit too small to be taken too seriously at the moment.

If we focus on the readings from short-term oriented market indicators, we can see some smaller signs of stabilization although the overall picture remains quite bearish biased. This applies in particular to the percentage of all NYSE listed stocks which are trading above their short-term oriented moving averages (20/50), which showed a small recovery since last Friday. Nevertheless, both gauges have not managed to pass their bullish threshold yet indicating that the overall upside-participation remains weak-kneed. Basically, the same is true if we focus on the momentum of advancing stocks (Modified McClellan Oscillator Daily) and advancing volume (Modified McClellan Volume Oscillator Daily). Despite the fact that both indicators slightly have narrowed their bearish gaps recently, they still remain quite bearish from a pure signal point of view. Consequently, we would not bet on the chances that any upcoming bounce will transform into a sustainable uptrend. On the other hand we should not forget that the market internals have not fully turned bearish yet since we have not seen a significant spike in new lows so far. Moreover, we can see that the latest sell-off on Friday was still mostly driven by profit taking as the number of new yearly highs (66) was still higher than the ones dropping to a new yearly low (22). As a matter of fact, the High-/Low-Index Daily has not turned bearish yet although its bullish signal remains outright weak-kneed at the moment. A fact, which can also be observed if we focus on the Upside-/Downside Volume Index Daily since down-volume is not really dominating up-volume so far. Consequently – from a strict technical point of view – the market still remains in a consolidation process, albeit with a quite corrective tilt. In such an environment it is quite common to see stronger bounces which are then followed by renewed selling pressure (since the tape condition is too weak to justify higher prices but still somehow supportive to trigger immediate waterfall decline). In the end, the market is also drifting lower, although this move is accompanied by increased volatility.

This might also explain the quite  patchy situation on the contrarian side. On a very short-time frame another stronger but not sustainable bounce attempt cannot be ruled out as some of our option based oscillators (Equity Options Call-/Put Ratio Oscillator and the WSC Put-/Volume Raito Daily) have shown some form of increased heading activity recently. Nevertheless, the option market (All CBOE Put-/Call Ratio) has not shown any signs of stronger capitulation yet, indicating that there is still enough down-side potential left. This case is supported by the Smart Money Flow Index which still showed that the big guys started to reduce their equity exposure significantly. Another quite threatening signal is coming from the WSC Capitulation Index as its gauge jumped to the highest level for month (although the market has only lost a few percentage points so far). Given its forecasting power, this is definitely a major red flag on a short-term time perspective. The only signal which is still not fitting into the puzzle right now, is the huge number of bears on Wall Street. Consequently, the risk that any upcoming pressure would turn out to be more than just a normal correction in an ongoing bull market looks quite low. So if we put all these information into context, seasonality (Presidential Cycle and Decennial Cycle) might provide a reasonable answer. There we can see that the market tends to be bearish (biased) until mid-/late October, albeit this move tends to be accompanied by quite nasty bounces/increased volatility. This scenario perfectly matches our base case scenario, at least for now.

Mid-Term Technical Condition

Such a scenario might also explain the fact that the mid-term oriented up-trend remains intact so far, although it continued to deteriorate. Especially the Global Futures Trend Index is still trading in the middle part of its bullish consolidation area, although it continued to decrease for the week. This slow paced deterioration would perfectly underline the short-biased market environment from the Presidential Cycle. So far, another supportive mid-term oriented trend signal is coming from the WSC Sector Momentum Indicator which is still holding up quite well. As a matter of fact, the underlying price trend of the S&P 500 has not been broken yet. Nevertheless, we can also see some stronger deterioration here since the momentum score of money market rose to 13.2% last week. This is definitely another indication that the market looks quite vulnerable for further disappointments (although we would not expect to see anything more than a normal pullback in an ongoing uptrend).

Given the fact that most of our mid-term oriented tape indicators continued to deteriorate last week, mid-term market breadth still looks supportive but not confirmative anymore. This is another indication that the current short-term oriented slow-down might not be over soon. This can be seen if we focus on the Advance-/Decline Index Weekly and the Upside-/Downside Volume Index Weekly. Although both indicators remain bullish form a pure signal point of view, they continued to deteriorate for the week. If this trend continues it might be just a question of time until we see a bearish crossover signal here. In the past, bearish readings in both indicators were always a reliable predictor for stronger losses ahead. If we consider the weak short-term oriented tape structure, we would not be surprised to see a further deterioration within these indicators. Consequently, we remain quite cautious although we have not received the ultimate sell-signal here. This view is amplified by the fact that the Modified McClellan Oscillator Weekly is about to flash a bearish crossover signal soon. Consequently, it looks like that the mid-term oriented tape momentum continued to fade away. The situation looks a bit different if we focus on the percentage of stocks which are trading above their mid-term oriented moving averages (100/150). There we can see that both indicators still remain bullish from a pure signal point of view (and even managed to improve slightly for the week). Consequently, it looks like that the mid-term oriented uptrend of the market still remains quite robust so far. A fact which can be also observed if we focus on our entire advance-/decline indicators (Advance-/Decline Line Weekly, Advance-/Decline Line Daily, Advance-/Decline Volume Line). So from a current mid-term breadth point of view, the upside- as well as the downside potential of the market looks quite capped at the moment.

Long-Term Technical Condition

The long-term technical condition of the market also still shows a robust picture as the gauge from the WSC Global Momentum Indicator is trading in quite bullish territory. This shows that most local equity markets around the world (in detail 68%) remain in a long-term oriented uptrend so far. Also, the Global Futures Long Term Trend Index continued its bullish ride which has been lasting for weeks. This might be another indication that any upcoming pullback will just be a normal event in an ongoing bull-market. In addition, the relative strength of all risky markets are still outperforming treasuries, which is another supportive long-term oriented signal. If we examine our long-term oriented tape indicators, we can see that all of them Modified McClellan Volume Oscillator Weekly, High-/Low Index Weekly and SMA 200) are giving no reason to worry right now.

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 we have not received the ultimate sell-signal from our indicator framework yet, we think it is time to downgrade our strategic bullish view from bullish to bearish (biased). So even if we do not see stronger selling pressure immediately, with such weak readings across the board the upside potential of the market looks extremely capped at the moment. As a matter of fact, the risk-/reward ratio looks too low to justify a strategic long position at the moment. This view is also supported from a pure seasonal point of view, where the risk for stronger headwinds up until October remains high. So even if we see a longer-lasting and volatile consolidation period instead of another strong down-leg, we would sacrifice 2 to 3% upside potential until our indicator framework would flash an all clear signal again. Thus, our bearish view will remain unchanged as long as we do not see a significant recovery within our short- to mid-term oriented indicator framework. The main rationale behind that call is that capital appreciation is still the strongest driver for long-term success. So in the end, we would recommend our conservative members to hedge/sell their equity positions, whereas aggressive traders should focus on the short-side (albeit they should use close stops given the risk of quite nasty bounces).

Stay tuned!