THE BOTTOM LINE
Investors may soon be confronted with a “Gettysburg” like decisive moment as the bulls and the bears struggle for advantage and the July bear market high to date begins to loom just above S&P-500 4300.00. Until objective, measurable, and decisive evidence emerges, clients will continue to enjoy returns on nearly risk-free T-bills approaching 5% relative to historic equity returns over the last one hundred plus years of approximately 6%.
Given that inflation is historically difficult to defeat, the continuing and increasingly inverted yield curve, which is often a harbinger of recession, the geopolitical risks represented by the largest land war in Europe since WWII, the potential for a Chinese confrontation in the South China Sea and Taiwan, and the political game of “chicken” over raising the debt limit, then “nearly risk-free approaching 5% versus 6% historically” still looks relatively attractive lacking enough of a reasonable incentive to take on unknown and potentially rising risks, unless and until such time as a stronger and more definitive case for an emerging new leg up in an ongoing Great Bull Market arrives.
A TIPPING POINT?
Here is a quote from the January 7th update: “Today I want to review some stock market history and explore what it may mean for us, as this slow-moving bear market grinds its way lower. From 1966 to August 1982 the Dow was range bound between Dow 500 and 999 making successive round trips between the two extremes. Then in August 1982 the advance/decline line exploded as a new bull market blasted off. Prices were marked up dramatically and quickly as the emerging bull leg gained momentum, which continued until the summer of 1987 and was finally reversed by the historic October 19th crash, when the major stock indexes crashed almost 25% in a matter of hours.
Investors tend to project the recent past into the future during bull markets, which creates a psychological self-reinforcement mechanism, as pull backs seem to be endlessly brief and shallow. However, this plodding higher is often in sharp contrast to the exploding prices experienced during the period when investors pile into perceived bargains in the belief that the bear market is/has ended.
Financial institutions have become conditioned to treat pauses in bear markets as a potential replay of that historic blast off in August 1987, which in part potentially explains the powerful bear market rallies in the price as competitive forces cause institutions to want to be first into the perceived new bull market. Alas, that strategy does work well, when bear markets actually end, but currently the weight of the evidence in terms of the classic signs of exhausted sellers and resurging demand does not yet favor the emergence of a new bull leg up, or a new bull market. So, the strategy of beating the competition into equities carries some substantial risks, if the bear market has not expired, which is likely the case.
The time consuming, overlapping, slow moving and frustrating rally off the October low has continued to linger without the exploding advance/decline line of an August 1987, which casts a shadow on the credibility of the bull case, nor did this likely bear market countertrend rally emerge out of a classic bear market ending capitulation of exhausted sellers followed in short order of objective evidence of resurging demand as investors rush to snap up perceived bargains. However, the lingering rally has managed to rekindle the “animal spirits” prevalent at the January 4-5th 2022 all-time high and the desire to speculate arising out of the fear of missing out, aka “FOMO”. So, in terms of risks versus reward how do investors solve this dilemma?
First, let us review some market generated facts to shed some light on what the market is revealing about its current condition, which will help us to make fact-based decisions about what strategies and tactics may provide the most reward for the least risks. This exercise is being done in an environment where the continuing inverted yield curve, which touched a new extreme for this iteration this past week, has resulted in our clients enjoying a near riskless reward approaching five percent in T-bills. According to some pundits the long-term return in the stock market over the last hundred plus years or so has been approximately six percent. So, incremental risks appear to be poised to outrun reward for every basis point above the near risk-free yield available for as long as the yield curve stays substantially inverted. History also shows that inverted yield curves are often harbingers of recession, and the longer the inversion potentially the deeper the recession.
TATY — A REPRESENTATIVE OF A FAMILY OF STRATEGIC SUPPLY AND DEMAND INDICATORS
TATY is shown in Snapshot-380 in yellow with the S&P-500 overlaid in red and blue candle chart format. TATY finished the week at 137 after falling below the red zone surrounding the 140 level. Last week’s update observed that the rally would likely continue until the magenta up sloping support lines were broken on both the upper TATY chart and the Premium/Discount indicator in the lower panel, which turned out to be the case as both were breached and a decline in the price has begun.
A recent update described the red zone as being “where bear market rallies go to die”, and now a continuing decline into the caution zone surrounding the 115-125 level would provide additional evidence that the countertrend rally has likely ended. Additional evidence would come in the form of the Premium/Discount indicator in the lower panel declining below the zero line, then below the green line at minus five and on toward the red line at minus eight.
If the bear rally has expired, then frustration on the part of the bulls at yet another rally failure may result in some acceleration lower. Otherwise with some supply and demand indicators already reaching oversold zones on their daily charts the current dip may give rise to another rally leg in the absence of any negative divergences at the top to date off the October low. I would much prefer to see another rally attempt with a cohort of supply and demand indicators peeling away into dramatic negative divergences. This outcome would be a more definitive expiration of the bear market rally on fatigued and exhausted buyers, and if that happened approaching the overhead resistance surrounding S&P-500 4300, the July rebound top, then all the better.
SAMMY — A REPRESENTATIVE OF A FAMILY OF TACTICAL SUPPLY AND DEMAND INDICATORS
SAMMY is shown above in yellow with the S&P-500 eMini futures contact in red and green candle chart format. SAMMY did a good job of alerting us to the strength of the demand driving the rally as it continued and then rallied above its dashed red resistance line. SAMMY also double topped as the price rally was running out of gas, which resulted in the current decline over the last six days.
If SAMMY cannot hold above its horizontal dashed red support line and continues to weaken, then the weight of the evidence may begin to favor the bear rally having expired. However, if SAMMY gains strength and TATY remains above the caution zone surrounding the 115-125 level, then I would expect an assault attempt on chart resistance surrounding the S&P-500 4300 level. A rally above the July S&P-500 high would shift the odds more in favor of a “stealth bottom” having formed in October from which an assault on new all-time highs may happen.
However, Vincent Randazzo, a friend and colleague from my days at Lowry Capital and a very talented analyst, has observed in a recent “white paper” that bear market bottoms usually meet five criteria and the October low met only two, and one of those was for just one day. And, he further observed that when bottoms not meeting all five criteria happened the resulting rally tended to fail only marginally above the previous high, which in this case is S&P-500 4818.
STERLING — A REPRESENTATIVE OF A NEW FAMILY OF SHORT TO INTERMEDIATE TERM INDICATORS UNDERGOING TESTING
STERLING is shown above in the upper panel with the S&P-500 eMini futures contract in the lower panel. STERLING yielded no negative divergence at the early February high but was instead dramatically rejected, observe the solid long red bar on the SAMMY chart, which implied the rally had been rejected as TATY was also in the red zone “where bear rallies go to die”. The bears are expecting the price to accelerate lower, but there is a clue in SAMMY that implies “not yet”. Please notice that SAMMY is painting out “candles” completely below the lower Bollinger Band, which is an oversold behavior.
Given the lack of negative divergences in a cohort of supply and demand indicators at the early February high and SAMMY exhibiting oversold conditions, I am very suspicious the rally still has enough demand to attempt an assault on overhead resistance. If this were to happen with a cohort of supply and demand indicators negatively diverging, and with “animal spirits” and euphoria rampart, then a setup for a classic bear trap would be in place. Please remember that bear markets are insidious masters of deceit and disguise, which exists to fool most investors.
Screenshots-1146 (above) and 1147 (below) are the S&P-500 eMini futures contract and S&P-500 cash index, respectively. The lower dashed horizontal resistance lines have now been breached, which brings the next higher chart resistance into play as shown by the horizontal dashed red lines. These upper chart resistance zones will now become important as a potential tipping point between bull and bear market analysis. A rally failure nearing these dashed horizontal red zones of resistance would likely create great frustration on the part of the bulls, resulting in potentially a re-emergence of the bear trend. On the contrary, a rally above these resistance levels accompanied by a continuing improvement in our supply and demand-based indicators would likely frustrate the bears and tip the weight of the evidence in favor of a “stealth bear market bottom” having formed in October resulting in a new emerging leg up in a continuing Great Bull Market.
Screenshot-1149 (below) is the S&P-500 cash index with two Fibonacci grids emanating from the March 23, 2020 low at 2190 and the March 9, 2009 low at 666, and blue horizontal rectangles showing support created by the price during its long journey to the all-time high at 4818. The percentage color coding is identical for each projected level, orange for 25%, red for 38%, yellow for 50%, and green for 62%. Obviously the projection off the 666 low is moot unless the March 23, 2020 low at 2190 is eventually breached, which would be a very serious event with dire implications for chaos socially, economically, financially, politically and geopolitically.
There are some clues suggesting the market may be painting out a large “degree” bear market, so why wait to the last minute to begin briefing clients on what that may mean, hence the ongoing education even though the odds do not appear favorable at this point for a breech of S&P-500 2190. The chart is updated through Friday’s close and the crudely drawn in dashed white line decline projection is for illustrative purposes only and not meant to be definitive as there are other paths, which are also valid.