Is This Long-Term Volume Signal A Warning Flare For Stocks?

August 24, 2016

Does Volume Complement or Contradict Bullish Analysis?

An August 19 analysis outlined a long-term bullish signal for stocks that has occurred only ten other times in the last thirty-five years. Have we seen any other long-term signals in recent weeks? The answer is yes.

A Trend Change in Up/Down Volume?

The chart below shows up/down volume (1996-2010) for the NYSE Composite Stock Index, along with its 50-week moving average (thick blue line).

Notice how all-things-being equal, the probability of bad things happening increases when the 50-week moving average is flat or negative (see orange and red arrows below). Conversely, the probability of good things happening increases when the 50-week moving average turns back up in a bullish manner (see green arrows below). The S&P 500 is shown at the bottom of the image below for reference purposes.

Has The Line Turned Back Up In A Bullish Manner?

The answer to the question above is yes. In simplified terms, it appears as if volume patterns have shifted from favoring declining issues earlier in 2016 to favoring rising issues currently.

A Foolproof Signal?

Since there is no such thing as a foolproof indicator or signal in the financial markets, the recent bullish shift in up/down volume assists us with probabilities. As long as the slope of the 50-week remains positive, the odds of good things happening will be higher. With Yellen’s Jackson Hole speech coming Friday, the market will be processing some important new information in the coming days.

Long-Term Means Long-Term

Both the moving average analysis covered in a recent video and the analysis above relate to longer-term outcomes, meaning weeks, months, and years. Therefore, even if the bullish signals prove to be helpful, stocks could experience a fairly significant pullback before resuming the current bullish trend. Said another way, for these signals to be used effectively we must have realistic expectations about normal volatility within the context of a rising trend.

Will Yellen Stick To The New Normal Script?

August 23, 2016

Insight Into Jackson Hole

Janet Yellen will deliver the keynote address on the market’s calendar this week when she speaks at the Fed’s Jackson Hole conference Friday at 10:00 am ET. The Wall Street Journal’s Jon Hilsenrath has been covering the Fed for years. Earlier this week, Hilsenrath reiterated the Fed’s “new normal” narrative, which may provide some insight into Yellen’s remarks later this week. From The Wall Street Journal:

For much of the post-financial-crisis era, U.S. Federal Reserve officials have held to a belief that they could get back to their old way of doing things. Growth would resume at a modest pace, annual inflation would climb to 2% and interest rates would gradually rise from near zero to a normal level near 4% or higher. As they prepare to gather at their annual retreat in Jackson Hole, Wyo., officials are grimly coming to a view that it isn’t going to happen that way.

Yellen Acknowledged New Normal In June

Fed officials have been publicly stating the U.S. central bank may not be able to get back to the “old way” of doing things, a concept covered in detail on July 16 using the kale smoothie analogy. The text below comes from a Reuters story published on June 15:

In a news conference following the Fed’s latest meeting, Chair Janet Yellen said the central bank was still coming to grips with the likelihood that the neutral rate - the point at which monetary policy is neither spurring nor restraining economic growth - is stuck at a historic low and could limit the central banks room to maneuver. But “there are long-lasting, more persistent factors that may be holding down the longer-run level of neutral rates,” Yellen said.

“It could stay low for a prolonged time… All of us are in a process of constantly reevaluating where the neutral rate is going, and what you see is a downward shift over time, that more of what is causing this to be low are factors that will not be disappearing.” There could be revisions in either direction,” Yellen said. “A low neutral rate may be closer to the new normal.”

QE Will Most Likely Be The Weapon Of Choice

The Fed traditionally combats a recession by lowering interest rates, something that will be difficult to do in the future given interest rates remain near zero. Therefore, knowing negative rates have had mixed results in Japan, the Fed will most likely print more money, via quantitative easing (QE), in an attempt to keep debt-burdened financial markets elevated during the next recession. From The Wall Street Journal:

A research paper by Fed senior economist David Reifschneider argues that bond purchases and low-rate promises ought to be enough for the Fed to manage even a “fairly severe recession” that drives the unemployment rate up to 10%. Doing so would require the Fed to expand its securities portfolio by $2 trillion, and possibly as much as $4 trillion, the analysis shows.

Talk Of One More Rate Hike

Is it possible the Fed raises rates one more time? Sure, in fact it is likely, at a minimum, the Fed strongly considers another hike over the next four to six months. In terms of the September Fed meeting, the market currently puts the odds at 82% the Fed does nothing (18% they raise rates). From The Wall Street Journal:

This isn’t to say the Fed won’t raise short-term rates again sometime this year. Many officials expect it will. The Fed boosted its benchmark federal-funds rate—a rate on overnight loans between banks—by a quarter percentage point from near zero in December. But it does mean it isn’t likely to raise them much beyond its next few moves in the months and years ahead. “We probably don’t have a lot of monetary policy tightenings to actually do over time,” William Dudley, president of the Federal Reserve Bank of New York, told Fox Business Network.

Million Dollar Question

If the Fed raises rates and also sends a message rates will remain low longer-term, will the market sell off or focus on the longer-term new normal? Ultimately, the market will decide. However, given the facts we have in hand now, asset class behavior seems to be following the lower-rates-longer script.

2016 Investor Fund Flows Nothing Like Excessively-Optimistic 2007

August 22, 2016

“You Can’t Lose Money On Tech Stocks”

If you have been involved with the markets for the last twenty years, you may recall hearing excessively-optimistic statements such as “you cannot lose money on internet stocks” in the late 1990s. Unfortunately, the excessive optimism was followed by painful losses in technology stocks.

“Housing Has Changed The Markets”

Between 2004 and 2007, the excessive optimism was based on the theory that ever-increasing home values would allow for endless borrowing to fuel spending and investment.

Flight To Safety As Markets Break Out

As outlined in detail on July 25, August 1, and August 3, the recent breakouts from long-term consolidation patterns by the three major U.S. stock indexes are typically very bullish signs. From afar, it may seem like investors are once again in excessive-optimism territory. However, given actions speak louder than words, if anything, investors may be excessively pessimistic in 2016. As shown via the @ukarlewitz tweet and Wall Street Journal graphic below, instead of piling into optimistic and growth-oriented stocks, investors have been piling into conservative and defensive-oriented bonds.

What Do The Facts Say About The Prospects For Stocks?

This week’s video examines a rare bullish occurrence that historically has marked a good time to add to equity holdings, rather than reduce them. The video is based on objective data, allowing for a rational assessment of present day odds of good things happening vs. the odds of bad things happening. The results, from a probability perspective, do not support an overly defensive portfolio allocation looking out several months, or in many cases several years.

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Video

Video

Investment Implications - The Weight Of The Evidence

The term odds implies uncertainty. Therefore, we are always open to a shift in the weight of the evidence. Right now, the longer-term weight of the evidence remains favorable for risk-on stocks.

Rare Signal: How Have Stocks Performed In The Past?

August 19, 2016

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Video

Video

Stock Rally Is Based On More Than Just Central Banks

August 18, 2016

Stocks Never Move Based On One Input

Are central banks the only reason stocks have not collapsed in 2016? The Citigroup Economic Surprise Index says no. From a Wall Street Journal article dated July 12:

“Economic data is finally beating expectations. The Citi U.S. Economic Surprise Index, which gauges how data compare with economists’ forecasts, is at its highest since January 2015. Meanwhile, it’s positive for the first time since November–meaning data are topping expectations rather than missing.”

The S&P 500 Before The Data Started To Improve

On Monday, June 27, the Citigroup Economic Surprise Index was still in an indecisive range and the market was concerned about the economic impact of the recent Brexit referendum.

The S&P 500 After The Data Started To Improve

Central banks have played a big role in helping stocks get off the deck in 2016. However, the stock market has also responded to improving economic data.

Post Brexit Economic Data

Not only has the economic data in the U.S. improved, but data in the wake of Brexit in the United Kingdom is also coming in better than expected. From CNBC:

U.K. retail sales posted a strong beat on Thursday, adding to a positive picture for the country’s economy following the decision to leave the European Union. July retail sales - an indicator of post-Brexit vote sentiment - posted a monthly rise of 1.4 percent versus consensus expectations of a 0.2 percent increase. The yearly figure saw a rise of 5.9 percent, according to official data by the Office for National Statistics.

Investment Implications – The Weight Of The Evidence

As outlined in detail on August 17, the hard technical data has improved significantly since June 27. The Citigroup Economic Surprise Index tells us the economic data has also improved since June 27. The odds of success in economically-sensitive assets, such as stocks and commodities, improve when the technicals and fundamentals are singing from the same hymnal. The wisdom of the market wizards also reminds us to keep an open mind about the “whys” behind the recent push higher in equity prices.

“The second item is something that Ed Seykota taught me. When a market makes a historic high, it is telling you something. No matter how many people tell you why the market shouldn’t be that high, or why nothing has changed, the mere fact that the price is at a new high tells you something has changed.”

Larry Hite
Market Wizards

Link To Wednesday’s Post

August 17, 2016

Today’s post is on See It Market.

These Four Charts Say A Lot About The Stock Market

August 16, 2016

Retail Trying To Break Out

The consumer is often referred to as the lifeblood of the U.S. economy. Even though retail is in a state of Amazon-flux, the sector is trying to clear an area that has previously been dominated by sellers.

High Beta Clearing Hurdles

The High Beta ETF (SPHB) carries dominant weights in financials (XLF), energy (XLE), and technology (XLK). As shown in the chart below, this economically-sensitive investment is trying to break above an area that has acted as resistance for a year. As recently as June 28 (point C below), SPHB looked to be on the ropes.

Materials: One Hurdle Down

When investors are more confident about future market outcomes, they tend to prefer economically-sensitive materials (XLB) over defensive-oriented intermediate-term Treasury bonds (IEF). As shown in the chart below, the confident vs. concerned ratio is trying to break out in a confident manner.

Materials: One Hurdle To Go

Materials have some work to do relative to longer-term Treasury bonds (TLT). Both XLB and TLT are in positive trends when viewed in isolation. The ratio below helps us monitor the market’s tolerance for risk; it also gives us some insight into longer-term interest rate expectations. The market believes one more Fed hike could be coming in the next six months, but has doubts about a third hike ever seeing the light of day.

While risk tolerance has picked up since the June 28 Brexit reversal, the last time materials made a new high relative to long-term bonds was back in late April (point A above); the last new low was made in June (point B).

How Can We Use All This?

The charts above show an increasing tolerance for risk, which improves the odds of the S&P 500’s recent bullish break to new highs being sustainable. These charts can also be used to monitor any shifts in investor expectations about the markets, economy, and central bank policy.

It should also be noted the recent bullish pops higher on the charts of XRT (retail), SPHB (high beta), and XLB (materials) vs. IEF (bonds) are still near areas of prior resistance, meaning those breakouts still need to prove they can be sustained. The longer a breakout holds the more meaningful it becomes. The current bullish slant of the charts above aligns with the recent comparison of the market peaks in 2000 and 2007 to the present day.

How Does 2016 Compare To Stock Market Peaks In 2000 And 2007?

August 15, 2016

2000 Dot-Com Peak: 200-Day Was Helpful

“As a trader who has seen a great deal and been in a lot of markets, there is nothing disconcerting to me about a price move out of a trading range that nobody understands.”

Bruce Kovner
Market Wizards

A market’s 200-day moving average can assist in monitoring investors’ net aggregate tolerance for risk. Notice in the first chart below the S&P 500 was unable to recapture its 200-day after dropping below it in October 2000. Compare and contrast the top chart to the bottom chart; notice how unlike 2000, the S&P 500 was able to recapture its 200-day after the Brexit bottom was made on June 27, 2016.

How Can Trends And These Charts Help Us?

If Michael Phelps was open to providing some insight into how to swim faster, most swimmers would be happy to listen. In a similar way, we can learn from the best money managers of our time. This week’s video covers many basic tenets of the “market wizards” and provides a clear example of how moving averages can be helpful in managing risk and reward.

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Video

Video

2007-08 Financial Crisis Peak: 200-Day Was Helpful

The situation was similar in 2007-08. Notice in the first chart below the S&P 500 was unable to recapture its 200-day after dropping below it in December 2007. Compare and contrast the top chart to the bottom chart; notice how unlike 2008, the S&P 500 was able to recapture its 200-day after the Brexit bottom was made on June 27, 2016.

Removing Price Allows Us To Focus On Trends

The concept of trends is easier to see if we remove the day-to-day fluctuations in price from the equation. Notice how during the dot-com bust bear market, the S&P 500’s 50-day moving average (blue) was never able to recapture the 200-day moving average (red). Compare and contrast the present day look (second chart below) of the 50-day and 200-day to the look in 2000-2002.

In the 2016 chart above, two favorable things from a trend perspective have happened recently that never occurred during the dot-com bear market: (1) the slope of the S&P 500’s 200-day turned back up in a positive manner, and (2) the 50-day crossed back above the 200-day.

Similar Concepts 2007-08 vs. 2016

Notice how during the financial crisis bear market (top chart below), the S&P 500’s 50-day moving average (blue) was never able to recapture the 200-day moving average (red). Compare and contrast the present day look (second chart below) of the 50-day and 200-day to the look in 2007-2008.

In the 2016 chart above, two favorable things from a trend perspective have happened recently that never occurred during the financial crisis bear market: (1) the slope of the S&P 500’s 200-day turned back up in a positive manner, and (2) the 50-day crossed back above the 200-day.

How Can These Charts Help Us?

No chart from any period, including 2016, can predict the future. However, charts and moving averages can help us better understand the “probability of bad things happening” vs. “the probability of good things happening”.

Right now, given the look of the 2016 charts above, the probability of good things happening today is much higher than it was in early 2001 and early 2008. Nothing says the 2016 cannot breakdown and morph into a look similar to 2001 or 2008. However, that has not happened yet. Therefore, we will continue to hold positions in markets with positive trends, including U.S. stocks. The three charts below summarize the concepts presented above.

2016 And The Wisdom Of The Market Wizards

August 12, 2016

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Video

Video

Self-Inflicted Productivity And Debt Wounds Will Prolong Super-Easy Interest Rate Era

August 10, 2016

Low Productivity And Excessive Debt Fueled By Ultra-Low Rates

Global central planners often cite high global debt levels and decreasing productivity as valid reasons to extend the QE/zero/negative rate era. From the front page of Wednesday’s Wall Street Journal:

The longest slide in worker productivity since the late 1970s is haunting the U.S. economy’s long-term prospects, a force that could prompt Federal Reserve officials to keep interest rates low for years to come. Nonfarm business productivity—the goods and services produced each hour by American workers—decreased at a 0.5% seasonally adjusted annual rate in the second quarter as hours worked increased faster than output, the Labor Department said Tuesday. It was the third consecutive quarter of falling productivity, the longest streak since 1979.

Low-Rate Loans Lead To Unproductive Projects

Let’s assume you were running a company years ago when the going rate for a business loan was 8%. As someone responsible for producing profits, you would have to come up with a creative and productive idea in order to borrow money at 8%. Marginal ideas rarely get implemented at 8% since the return on investment will not even cover the interest payments on the loan.

As rates get lower and lower, the hurdle rate for borrowing money gets lower and lower, which means numerous less-productive and less-creative ideas can be put into production. These concepts were outlined in the context of easy central bank policy on July 16. Therefore, central bank policy is contributing to low productivity. Ironically, central banks will use low productivity as an excuse to keep rates ultra-low.

Bailouts Lead To Low Productivity

In what now seems to be a distant memory, there was a time when a major financial institution or industrial company failed to bring productive and profitable ideas to the free markets, they were weeded out of the economic garden via the laws of supply and demand.

Bankruptcies and debt defaults penalize companies that specialize in unproductive projects. Bailouts and band aids keep unproductive companies in business, which also helps drag down overall productivity. Low productivity also leads to low worker morale, which in turn can lead to populist movements (see U.K. and United States).

Central Planners Concerned About High Debt Levels

Given their printing presses and zero/negative rate policies have spurred a gigantic boom in unproductive borrowing, it is almost comical that central bankers are expressing concerns about too much debt. From CNBC:

Central bankers from the U.S., India and Malaysia pointed to debt as a key factor holding back the global economic recovery from the financial crisis.

Dr. Zeti Aziz, who recently retired as Malaysia’s central bank chief after serving from 2000-2016, added that it wasn’t just public indebtedness hurting fiscal spending, but also private sector debt weighing on growth.

However, Rajan noted that one cause of slow growth may come from continued easy monetary policy globally.

“Perhaps the pressure on poorly performing firms to get out of business has been lower than otherwise,” he noted. “What is called the zombie problem by some economists in Japan may be more prevalent than in other areas of the world because if easy access to finance.”

Why Is There Too Much Debt?

There are numerous reasons for high debt levels and low productivity, but extremely low interest rates and bailouts are a good place to start. Recessions, like other processes in nature, help identify weak players in the public and private sector. During recessions, the rate of bond defaults increases, which is a natural way to purge bad debt from the global economy. The problem is central planners have pumped up asset prices to such lofty and artificial levels, central bankers fear that letting economic natural selection into the debt-purging process could set off a hard to stop deflationary spiral in asset prices. Below are just a few examples from the central planning bailout collection:

  1. $17.4 Billion Bailout U.S. Auto Industry
  2. Insurance Company Bailout
  3. U.S. Bank Bailout
  4. European Bank Bailout
  5. Third Bailout For Greece

Investment Implications: Central Banks Will Continue To Print And Prop Up

Instead of nearing the end of the easy money era, central banks are moving toward becoming even easier. From The Wall Street Journal:

The BOE’s revival of its QE program was accompanied by an interest-rate cut and a new funding program for banks. It also said it intends to buy some £10 billion of corporate bonds alongside its gilt purchases. The central bank was reacting to what it sees as a darkening outlook for the U.K. economy following the Brexit vote. Officials said they expect growth to slow and inflation to rise amid the uncertainty caused by the surprise result.

The low-rate game can continue, but central banks’ ability to keep asset markets in line will greatly diminish if the U.S. slips into a recession and/or inflation starts to rise. For now, the recent breakouts in stocks, bonds, and gold are holding up, aligning with the market’s expectations central banks have numerous hands to play, including firing up money-dropping helicopters.