WEDNESDAY, JUNE 11, 2008
Oversold In a Bear Market
06/11/08 4:30 PM EST
 |
|
|
As of: SPX 1386 |
|
This morning, we went over a couple of data points that suggested it might not be totally unjustified to look for a short-term, speculative rally in equities, particularly technology.
The Nasdaq 100 (NDX) is the last major index that was sitting on possible support, and it still hadn't generated the series of lower highs and lower lows that marked the downtrends in the other indices like the S&P 500 and DJIA.
We went over a few sentiment surveys, which were displaying nearly as much pessimism now as they were near the March low, and on a short-term basis the Down Pressure indicator, which had stretched to 80% on the NDX. That is a sign of truly extreme selling pressure.
The average drawdown after prior signals was usually limited to -1.3% over the next few days, and we violated that today as the index took out its May lows (and kept going).
I checked for any other time that the Down Pressure hit 80% or more, then the NDX lost 2% or more the next day. There were only five occurrences dating back six years, and the next day the NDX bounced back every time, averaging +3.1%. By three days later, all were still positive, but the average return remained pretty much the same, suggesting any pop higher was typically immediate. For those curious, the dates were 7/23/02, 8/5/02, 4/30/04, 8/6/04 and 11/12/07.
That July 23, 2002 date is notable, because it also came up in another study we discussed earlier today. This is the first time since that July 2002 date where the Up Issues Ratio on the NYSE has been at 35% or below for four consecutive days.
I showed a table earlier today which detailed the other instances over the past 25 years. All of them but one (and it was a big "but", right before the '87 crash) led to a positive return when looking out over the next month.
I checked the study again, this time using all the data going back to 1962, but requiring that the most current day showed a ratio under 20%, which is where we ended today (meaning that of all stocks moving up or down today, fewer than 20% moved up).
There were 22 instances, of which 12 bounced back the next day. Every one of the last six occurrences, dating back to 1980, showed a gain the next day that averaged +3.4%. Again, for those who like to check the dates, they were 12/11/80, 4/14/87, 10/19/87, 4/4/94, 8/31/98 and 7/23/02. Those are all remarkable dates, highlighting short- and intermediate-term turning points.
Like I mentioned earlier today, prior to the last 25 years or so these kinds of oversold breadth conditions weren't nearly as positive. Part of that is due to harsher market conditions, and part of it is due to changing market dynamics. There is much more money now behind "long only" fund managers, who use any weakness to buy more stock. That is part of the reason why oversold readings have become more effective over time, even during the last bear market from 2000 - 2003.
We are seeing some truly unprecedented action in Financials, both banks and brokers. Stalwarts like Merrill Lynch are showing some of their lowest one-month returns in their history, or very close to it. That either means we're exceptionally close to the "puke" point, or we're witnessing a form of capital destruction we haven't seen in many decades. I tend to err on the more optimistic side about these things, but I have to admit that if we don't see a sustained turn soon, I'm worried about many of these firms' ability to remain ongoing concerns.
I took a small long on the Nasdaq 100 this morning based on the data we discussed before the open, which obviously didn't turn out too pretty. One of the dangers of bear markets is that they continually present very intriguing oversold types of conditions, but then don't follow through on them, so we have to be careful about falling into the oversold trap.
We went over that in January, and using some patience helped to avoid a few losing trades. We may be seeing the same now, and with little solid evidence of technical support anywhere near (1320ish on the S&P 500?), buying into these abysses is something of a leap of faith.
I am intrigued with the data we went over above with regards to the Down Pressure indicator and the string of bad breadth, so I'll be considering the wisdom of another shot on the long side. I'm not convinced that's the best idea, or even a good one, so it'll take some time tonight to see how our other indicators turn up to see if we've seen enough of a drop to justify risking capital on a bounce idea.
Have a good evening and we'll see you tomorrow.
Four Days of Bad Breadth
06/11/08 11:25 AM EST
|
|
|
|
As of: SPX 1386 |
|
A larger-than-expected draw on supplies led to a big spike in Oil prices, and subsequent fall-off in equities, but since then Oil has come back in and it has helped stocks to recover a bit from their lows.
In the meantime, the Nasdaq 100 briefly violated that 1940 area I noted earlier, and that will remain a focus as the day progresses. Below that, I would have no interest in trying to hold the index.
Yesterday, I mentioned an oddity with regards to breadth. Despite two positive days in the S&P 500 (at the time), the Up Issues Ratio on the NYSE was below 35% both days. That means that of all stocks moving up or down on the day, fewer than 35% of them were moving up.
That was a rare situation - in fact, we'd never seen it before (at least since 1962). Breadth is horrid again today, driving the Up Issues Ratio down to 26%. If we close below 35%, then that will mark four straight days with the Ratio below 35%. The last time we'd seen that was July 23, 2002.
The table below shows all such instances over the past 25 years, along with how the S&P 500 performed over the following month. The one-month forward return is shown, along with the maximum amount the S&P lost during the next month, and the maximum amount it gained.
The results are obviously impressive. All but one of the occurrences led to a positive return, averaging +3.6% (+6.1% if we ignore the early October 1987 signal that triggered before Black Monday). Ignoring that one outlier, the max gain was four times the max loss, a good ratio.
Why did I just use the last 25 years? That's a good question, and something you should always wonder whenever you see stats bandied about - from me or anyone else. I used 25 years because before that, well, the signal just didn't work.
From 1962 - 1983, the average one-month return was -1.2% and had only 38% winning trades. That doesn't necessarily mean that the signal is invalid - I happen to put more weight on recent occurrences than ones from 30 years ago anyway. But it's also notable that the market was in a super bull cycle for most of the past 25 years, which obviously helps to give us bullish results. In the 1970's, for example, buying after these oversold breadth signal was a monstrously bad strategy.
So I don't want to jump up and down about the bullish implications of our recent breadth travails, but I also think it would be a mistake to ignore it outright. Oversold breadth conditions have been excellent tells over the past couple of decades, even during the last bear market. I would mark this one as a conditional positive - something we can point to as supporting evidence, but not a solid enough reason for a trade/investment.
Other than that, not much is popping up on my radar. I'm still watching the 1940ish area on the NDX as a fulcrum point, and will not waste my time and money trying to buy oversold conditions if it drops and holds under there. Above it, and we still have some reason to believe in an oversold rally as outlined this morning.
A General Sense of Pessimism
06/11/08 9:25 AM EST
|
|
|
|
As of: SPX 1386 |
|
Good Wednesday morning...We begin the day with flat-lined pre-market futures. Foreign markets were mixed to slightly negative, Oil is staging another comeback, and the Dollar is giving back a bit of its historic gain from yesterday.
Yesterday afternoon I mentioned that I had a gut feeling that was telling me to take a flier on either the DJIA or Nasdaq 100 for a trade, just based on their proximity to possible technical support levels. The problem was that I am not a "gut" trader, and require a solid, objective edge in order to risk capital.
One thing we can finally point to is our Down Pressure indicator, which looks at the depth of the selling pressure in the S&P 500 and Nasdaq 100 over the past three trading sessions. When the indicators reach 80%, we know we've hit an extreme in selling and that is usually an exhaustive move.
This may seem familiar, which is because I just wrote about it on May 22nd. And like most of the others before it, that signal preceded a nice rally in the NDX, as it fulfilled its average bounce of 2%+ over the next several sessions, making the signal 11 for 11 since 2007 (feel free to read the comment from May 22nd in the archives for more detail on the signal).
The average maximum drawdown over the next few days after the Down Pressure reached this much of an extreme was -1.3% since 2002, and -0.7% since 2007, meaning the NDX really shouldn't decline any further than 1940ish if we're to rely on this as a potential positive. That just happens to equate to the May lows in the index.
The recent weakness has taken a toll on sentiment. The latest survey from Investor's Intelligence showed a drop in bullishness, and remains at a low level compared to historical readings, though it's not quite at what I would consider an extreme level of bearishness. The same goes for the AAII survey of individual investors.
But the Market Vane survey continues to hover around its lows for the year, and the latest Consensus, Inc. poll came in at 26%, one of the lowest readings of the past several years. It got down to 21% near the March low, but this is still a very low level of bullishness.
A couple of tertiary surveys are also showing some extremes. The latest poll among Realmoney.com readers showed that 54% of nearly 2,000 readers were negative on the market's prospects. The overall tone of the poll was even worse than it was at the market low in March (though the survey has been more negative in the past). This survey has been a good contrary indicator during its short history.
And the latest data from a survey of blogs via Ticker Sense is showing the worst outlook since March as well, after having seen a surge in bullishness in April and May.
Taken together, it looks like we have a few ingredients on hand for a potential rally, and I will be watching the NDX in particular. That index has violated its up-trend line drawn from the March low, but it still has not formed a series of lower highs and lower lows - its price pattern still shows higher highs and (so far) higher lows. The fulcrum there will be the May lows around 1940, and as long as it can remain above that level I'm giving it the benefit of the doubt. So with some oversold readings for that index, and a general sense of pessimism in the air, I'll be watching for that index's ability to stage at least a short-term rebound.
All the best,
Jason Goepfert
President and CEO
Sundial Capital Research, Inc.
Forwarding or otherwise distributing this copyrighted material is a breach of your subscriber agreement. Violators are subject to termination of their subscription with any received subscription fees forfeited. Any references to historical performance are based on data we deem to be reliable, but are based upon feeds from third parties. We do not recommend subscribers take positions based on data presented here alone, but rather incorporate it into a comprehensive investment outlook.
© 2008 Sundial Capital Research, Inc. All Rights Reserved. www.sentimenTrader.com