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HOW RELATIVELY LOW RISK BUYING OPPORTUNITIES FORM IN THE STOCK MARKET

The past several days have been a good example of the kind of increase in market volatility we expect as the stock market continues to march toward the 2020 election. The week included a decline of 800 Dow points, which was blamed on the yield curve inverting, the possibility of which has been apparent for weeks. The gyrations in the price would suggest that there has been a substantial change in the dynamics of the supply and demand balance, but so far our supply and demand metrics have been relatively less impacted than the sharp 800 point decline in the Dow would seem to suggest. At this point in its development, the correction looks to be on schedule to become a correction in an on going bull trend. This could change of course, but for now the historic markers of a classic major top forming in the stock market remain mostly absent.

TATY   —   A REPRESENATIVE OF A FAMILY OF STRATEGIC SUPPLY AND DEMAND INDICATORS

TATY is shown above in the first chart above in yellow with the S&P-500 overlaid in red and blue candle chart format.

This week’s print of 145 for this indicator appears to have completed a bottom in the red zone, which historically is indicative of demand in the superior position relative to supply. I have no record of a major top forming when this strategic indicator is forming bottoms on the weekly chart in, or near, the red zone. So, far as long as TATY continues to paint bottoms in the red zone the bull trend is likely to remain viable, which suggests another assault on new all-time highs once the current correction has ended. However, once the correction has run its course, it will be important for TATY to continue to improve upon where it paints out its highs, the higher the better for the health of the bull trend. Given the recent volatility in the price, the strength being displayed in the TATY family of strategic indicators is surprising, and could even be characterized as atypical.

The premium/discount to value indicator in the lower panel of the TATY indicator is reflecting a more normal circumstance relative to the atypical behavior of the TATY indicator. The 800 point plunge in the Dow has driven the premium/discount indicator deeply into the discount range, as the indicator is approaching the minus eight level. What we would like to see in the days to come is for TATY to continue to bottom in, or near, the red zone while the premium/discount indicator bottoms, and then turns back up first toward minus three, then on up past the zero line back into positive territory. As these two things are happening, we would like to see the price continue to test the recent low resulting in a large positive divergence between the weakening price, and the strengthening indicators. So for the strategic indicators, we are beginning to see some necessary developments for a bottom in the price, but not likely enough to be sufficient to produce a resumption of the previous bull trend.

SAMMY   —   A REPRESENATIVE OF A FAMILY OF TACTICAL SUPPLY AND DEMAND INDICATORS

The SAMMY family of tactical indicators are shown above alone, and below with the SPXL 3X leveraged S&P-500 ETF overlaid. Please note that the SPXL ETF is used for reference purposes only.

SAMMY has not yet produced a buy signal, but it is showing some tendency toward the sellers becoming exhausted. Exhausted sellers are a necessary condition for a market bottom, but not sufficient. It takes both evidence of exhausted sellers, and evidence of resurgent demand to confirm an end to a market correction, and/or bear market. At this point there has not been any objective evidence of resurgent demand for stocks. And, ideally that evidence should be some time in the future to allow for the development of a strong positive divergence in the indicators, while the price continues to test the lows. These are the kinds of buy conditions, which result in the potential for very low risk purchases of stocks, or in our case equity ETFs. If these conditions come to pass, then we will use the low risk opportunity to put excess cash to work in equities.

THE BOTTOM LINE

Some of the conditions necessary for a bottom in the stock market are beginning to appear. However, these necessary conditions must be joined by evidence of other positive conditions in order for the mix to become sufficient to produce a low risk tradable bottom. The appearance of objective evidence of exhausted sellers is a necessary condition, but objective evidence of resurging demand must also appear in order to complete the mix necessary to be sufficient to confirm a low risk bottom, and the probable imminent resumption of the bull trend. When both the necessary and sufficient conditions for a tradable bottom are met, then we will consider using excess cash in client accounts for new equity purchases, which would meet our criteria for a low risk entry for putting new money into the equity market.

There are other optional paths for the market, but the outline above is in general how corrections, and/or bear markets end, which produce low risk buying opportunities, which in turn yield profitable trades, or investments over time. This classic process drives the weak hands out of the market, which creates discount to value situations, which in turn attracts long term investors to the perceived relative bargains. A rally back to new all-time highs, which begins without both the necessary and sufficient conditions having been met would likely be viewed as having a much higher risk profile, and potentially a fragile trap for new purchases. Given the proximity to new all-time highs, the historic length of the post Great Recession recovery, the inverted yield curve, and the uncertainties implied by the looming election; I will view any potential new purchases as optional, and taken only if the necessary and sufficient conditions for prudent risk management are met.

 

DISCLAIMER: Optimist Capital LLC, does not guarantee the accuracy and completeness of this report, nor is any liability assumed for any loss that may result from reliance by any person upon such information. The information and opinions contained herein are subject to change without notice and are for general information only. The data used for this report is from sources deemed to be reliable, but is not guaranteed for accuracy. Past performance is not a guide or guarantee of future performance. Optimist Capital LLC, and any third-party data providers, shall not have any liability for any loss sustained by anyone who relied on this publication’s contents, which is provided “as is.” Optimist Capital LLC disclaim any and all express or implied warranties, including, but not limited to, any warranties of merchantability, suitability or fitness for a particular purpose or use. Our data and opinions may not be updated as views or information change. Using any graph, chart, formula or other device to assist in deciding which securities to trade or when to trade them presents many difficulties and their effectiveness has significant limitations, including that prior patterns may not repeat themselves continuously or on any particular occasion. In addition, market participants using such devices can impact the market in a way that changes the effectiveness of such device. The information contained in this report may not be published, broadcast, re-written, or otherwise distributed without prior written consent from Optimist Capital LLC.

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