Category Archives: Technical Analysis

Decision Time

This is another market commentary following my post on March 23rd, A Correction May Be Upon Us; and 29th, Lightly Held Opinions. The prediction was a drop then bounce in April, then a deeper drop in May that could potentially last into July. The bounce in April was flagged to have the potential to make a new high in the 2nd post. So what has happened so far?

The chart is of the S&P where the low of 2322 was reached on the 27th. There was a retest of the low on Apr 13th as concerns with North Korea reached a fevered pitch. The bounce up to 2398 was just shy of the 2400 peak on March 1st. The other indices behaved slightly differently: the DOW made a lower low whereas both Nasdaq and Russell 2000 made new highs on the bounce. Overall, I’d say things played out as predicted. The bigger question is, will the deeper correction come?

I’m leaning towards “yes” on that one, although I would temper the probability for the most severe scenarios — retesting of the election or even the Brexit lows. If you take a look at the Fibonacci levels in the first post, 2280 would be the first target, the breaking of which will put into question the 2240 level which is also the current 200 DMA. I would expect the next support at 2200 to hold in most cases. In terms of near term catalysts there is plenty: the FOMC meeting, April employment report and the French election all within a week’s time, not to mention North Korea. That said I always view external events as excuses for releasing the internal pressure: in this case there being too many people along for the ride, and the market never makes it easy for everyone to make money.

What I’ve done in the mean time

I added to a couple names on weakness. I sold puts on Apr 13th when there was well over 1% premium on 2-week OTM puts. They have expired worthless. I also sold some covered calls and 1 stock in the last two days. Not a whole lot different if I was just DCA in the absence of any directional views. The biggest portfolio change was deciding to trim my emergency fund allocation. I sold a CD and moved that money to the active accounts such that its cash position is now 14%.

What if I’m wrong and the market goes straight up from here?

First of all, I don’t see a bear market developing, and if that’s your view you should examine your information sources and your logic. If the correction doesn’t come, I’ll continue to DCA into the names I already picked out. Fortunately we should know the answer soon. One thing is for sure: I’ll not leave cash on the sidelines when this bull market takes off.

So why pay so much attention to this particular intermediate low when my stated approach to market timing is to avoid the real nasty bear markets and hold through the shorter gyrations? First, to constantly validate our hypothesis against the market is how we learn and improve. Second, there are leveraged bets that require a margin of safety that comes when “there’s blood on the street”. The flip side to avoiding the bear market is to fully take advantage of the bull market, both require accurate reading of the situation.

Lightly Held Opinions

The last post was about my then view of an on-going intermediate correction. I went at length explaining why even have an opinion and the extent of my conviction. I felt I need to further clarify given the recent market actions and my own activities.

The market proved more stubborn than the technical indicators or at least my interpretations led me to believe. In fairness any projections are inherently probabilistic in nature. The refusal to break down and the bounce yesterday have led me to consider the possibility that the “April bounce” originally framed within the context of the intermediate decline may instead produce a new high. Though I still see the decline in May-July bringing us below where we’re currently.

As mentioned, my timing moves to the extent of a 12.7% cash position in the active accounts were “incidental” to the portfolio realignment due to tax considerations. It’s never my plan to trade around an intermediate decline of weeks to several months in duration, especially in the larger context of what I believe will be a memorable bull market. The fact that I’m buying individual stocks rather than the whole market gives more flexibility. As such today I added to BAC, and existing position; and opened a position in MO. Both are at or below their 50 DMA due to recent weakness. The purchases were short of the final intended size.

I hope I have illustrated the nature of my market predictions: they are opinions with a rationale basis that I can defend, but I’m not married to them. I fully accept that I’ll be wrong as often as right; and when the market proves me wrong, I change my mind. There’s nothing to prove, no intellectual battle to be won. My ego won’t provide for my family. In the end, I rather be making money than being right.

A Correction May Be Upon Us

The long waited correction may be finally upon us. The 1%+ drop in the S&P on Mar 21st was the first in over 100 days. The bounce on the 22nd was anemic and accompanied by low volume. Most of today (23rd) was spent in positive territory but sellers took over in the last two hours — a very tell-tale sign. As in the chart below, we have broken below the trend line from the November election. Given this evidence, I’m of the opinion that an intermediate correction of months in duration has started.

I’ll go out on a limb again in trying to forecast a duration and depth of this correction. My model is signaling a bounce in April and a resumption of decline in May with a hard drop and bottom into July. I have little confidence in the exact path but a correction of 4+ months in duration will match that of the rise, a symmetry that would be appealing. The Fibonacci levels for this “Trump rally” aligns nicely with regions of minor support/resistance. I don’t trade at those time intervals but it’s interesting nonetheless. Given the nature of the in-flows of this rally, and that the market is never kind to Johnny-came-latelies, there is a high probability we’ll retrace all the way to the November bottom and more. I would go so far as saying that the “Brexit” bottom of 1991.68 is also in play.

Why do I bother with this kind of predictions and what do I plan to do with that information anyway? First and foremost it’s to develop a feel for the market and secondly to build confidence in the model. I’ve been clear on my approach to market-timing. My main goal is to be able to avoid the “big one” and ensure that my family is provided for. The skills that I’m honing are essential in deciphering the macro trends.

Since the inception of this blog, my most significant market timing move, in terms of duration and amount of capital, was the avoidance of nominal bonds. 35-40% of my passive portfolio has been in stable value funds paying 2 or 3% per annum. It’s been a good move — AGG has lost 3% since Aug’16. Compared with that that my pruning of stocks is rather opportunistic. In full disclosure, my pace of selling picked up in Feb/Mar, but it was not due to my market view. The main reason was the rotation in my fixed income allocation precipitated a desire to limit dividend payouts. This morning I closed out the MCD/DIS option spreads mentioned in this post, along with a couple other positions to give me a 12.7% cash position in my active portfolio. I don’t have plans for more sales; instead there are 7-9 buy candidates. My longer term view remains that we are in a full-blown bull market; but first, we’ll have to wait out this correction.

Bull Bear Markets and P/E Ratios

I haven’t shown any charts in my writing so far on this site even though I use them regularly to get a feel for the overall market and for entry/exit points. To me technical analysis is just another arrow in the quiver. I’m not terribly interested in philosophical debates on why or how it works; it works for me, that is sufficient. Anyway, in today’s post, I want to share a few charts with you.

The first is the daily on the S&P showing the narrow trading range it has been in since December. This, rather than the “round number effect”, is why decisive breaks of DOW 20K and S&P 2300 are significant. In this struggle, bulls are having a slight upper hand but recent volume is not confirming. Overall, I think there is equal probability to breaking out and sideways, and a lot less to breaking down. A chartist will tell you that such a consolidation pattern will more likely than not resolve in the same direction as prior to the consolidation.

The next chart is from an excellent piece from Doug Short on Bull and Bear markets. It’s well worth a read. I agree with the bull/bear classification he used. The trend lines are mine. Note the red, power-up lines. The bull markets from the 1877 and 1949 lows started with those power moves and then slowed down. The bull markets from the 1921 and 1982 bottoms ended with them. The current bull market has a section, 2011-13, that seemed to follow the same slope. It remains to be seen how it will play out. I drew the last line — obviously one or many different ways it can be drawn — to coincide with my S&P target of 3400 in Q4’18 that I first laid out here.

The discussion on P/E ratios was fascinating. The referenced piece from Ed Easterling is also well worth a read even though I don’t agree with its conclusion. P/E ratios are important, but they are a derived metric, while price should always be the primary signal. The key chart from that work is below. Bull and Bear markets are indicated with green and red bars with historic P/E ratios underneath.

Again the difference in opinion lies in the classification from 2009 onwards. To me the disagreement is profound. If my model is correct, the P/E ratio will continue to expand and will likely approach 40, a territory only before seen during the dot-com bubble. The model also predicts a drastic but not cataclysmic decline that will likely bottom at a historically-still-elevated P/E in 2020. If that turns out to be the case, anyone insisting on a single-digit P/E stands to miss the boat. Profound indeed.