What To Look For Next

• Primary trend indicators are still bullish
• Short-term indicators still overbought
• Very short-term indicators already at extremes
• Bonds bottoming short-term?

I have been saying for some time that the market’s primary trend is a bullish one and that we should not get hung up with short-term corrections. That theory is certainly being tested right now. The Pause in an Ongoing Uptrend that I wrote about last week, is turning out to be more like the first drop in a roller coaster than a friendly pause. I think we have to ask ourselves a couple of questions. First, has price action in the last few days done anything to rupture the bullish long-term trend? Second, are we sufficiently oversold to trigger the next rally. The first is pretty simple to address. Chart 1, for instance shows that the S&P is well above its 65-week EMA and the long-term KST continues to trade above its EMA as well.

Chart 1

Primary trend indicators are still bullish

Moreover, the confidence indicators that I talked about in my February webinar, continue to hold up pretty well. If we were poised for a major downtrend I would have expected the ratio between the iBoxx High Yield  and Barclays 7-10-year ETF’s (HYG/IEF) in Chart 2 for instance, to be experiencing a serious decline. It’s true that this relationship has diverged negatively with the S&P for the last 2-years. However, Since September it has been in gear with the market on the upside, and that’s what I am focused on right now. The one thing I would not like to see, would be a rupturing of the up trend line for the ratio and its 200-day MA, as that would place it in a negative mode.

Chart 2

Regarding the oversold question we have to bear in mind that corrections can take many forms. One common one is for prices to sell off very sharply and reach their price lows pretty quickly. The major part of that corrective process takes the form of ranging action, as market participants regain confidence following the drop. A second possibility is for the ranging action to take place first, and the major part of the downward part of the correction developing at the end. Either way the short-term oscillators gain enough time to reverse their overbought conditions to a position where they are able to support a new rally.

Chart 3 tells us why we should expect to see more corrective action take place in the coming weeks. That’s because the NYSE and the NYSE common stock A/D Line have both ruptured important uptrend lines. Working on the assumption that they are not false breaks, this action suggests, either that the broad market is headed lower, or that the loss of upside momentum, which the trendline breaks reflect, will be followed by some ranging action.

Chart 3

Short-term indicators still overbought

Charts 4 and 5 show us that two reliable indicators are not even close to triggering a buy signal. Chart 4 features my Dow Diffusion indicator, an oscillator that monitors a basket of Dow stocks in a positive trend. It fell below its MA a few days ago and continues to register a very overbought reading.

Chart 4

The same is true for my Global Net New High oscillator, in Chart 5. It’s definitely rolled over and triggered a sell signal. However, it is nowhere near even a neutral reading from which we might expect to see a resumption of the global bull market.

Chart 5

Very short-term indicators already at extremes

Normally I like to look at something like a 10-day rate of change or some similar time parameter to make a judgement on a specific oversold condition. The problem with the recent decline is that it has only been underway for half that period. Consequently, Chart 6 features a 5-day ROC for the Dow. Excluding the off the charts once in a generation 2008-9 bear market bottom, we find that it has already fallen to the kind of level that has consistently triggered five rallies since then. Now it must be stressed that this indicator has not yet reversed, but it is clearly at an unsustainable level and must be close to a turn.

Chart 6

A high reading in the $VIX, which is subsequently reversed, has historically offered some pretty timely buy signals. You can get a feel for this from the bottom window of Chart 7. This indicator is clearly at a high level, consistent with the bullish reading seen in the late summer of 2015. However, the 10-day ROC of the VIX, which arguably is a better way of looking at things, has reached a stratospheric level. I thought it was a bad print when I first saw it (remember the scale for the ROC is on the left), but on checking I have no reason to doubt it.

Chart 7

Chart 8 gives us a more complete history and shows that reversals from, at, or above the 100 level have all been followed by a rally of some kind. Except for the 2009 signal, the low signalled by this approach held for at least 6-months. Again, we have to bear in mind that despite its extreme reading this series is still rising and has not yet told us that volatility has peaked

Chart 8

Bonds bottoming short-term?

One of the reasons given for the sell-off has been rising rates. That’s certainly true, and many indicators are signalling that a secular or very long-term uptrend is underway. However, whenever a theme gets overly  popular we should always be on the lookout for a reversal. Chart 8 shows that the Barclays 20-year Trust, the TLT experienced an outside bar on Monday. To be sure that’s only a short-term bullish indication, and is in no way indicating a reversal in the long-term indicators. However, it may be sufficient to prevent any further declines for a while, which would be helpful for stocks. Also, volume has expanded towards selling climax proportions, which also suggests that Monday’s low will hold for a while.

Chart 9

Conclusion

Whenever, the stock market becomes the lead story on the nightly news as it has done this week, it reflects the fact that everyone is aware of the selling spree and the reasons for it. Typically, that means that the panic liquidation is either over, or close to it. We also see that in the current readings of the 5-day ROC of the VIX and major averages.  If this truly is a bull market, and we have few reasons to believe otherwise, current readings in these very short-term indicators are probably very close to signaling a low. Given the overbought nature of the oscillators described in Charts 4 and 5. It seems likely that some ranging action over the next few weeks is likely prior to any sustainable advance. The big problem prior to this sell-off was overconfidence. That is no longer a problem and the wall of worry, so necessary for any bull market, is back in town.

Good luck and good charting,
Martin J. Pring

The views expressed in this article are those of the author and do not necessarily reflect the position or opinion of Pring Turner Capital Group of Walnut Creek or its affiliates.