Last week’s update was on the topic of “the pause which refreshes”, and advised investors to not be surprised, if the stock market encountered some weakness in the range of 3 to 8% before assaulting new all-time highs. On Tuesday the Dow plunged over 400 points intraday, and appeared well on the way to a much needed consolidation, or brief correction. However, by Friday’s close the popular stock indexes had recovered to slightly below new all-time highs leaving those of us with some cash needing to be invested a bit frustrated that the very brief decline did not give us a classic buying setup vis-à-vis our proprietary indicators. We prefer to be buyers when measurable evidence of exhausted sellers is followed by resurging demand. And, which is also confirmed by measurable evidence that the price has been compressed below “value”, which in turn creates a very low risk buying opportunity.
In strong bull trends corrections tend to be shallow and brief, which has the effect of not allowing would be buyers an opportunity to join the bull party at a significant discount. Stock market psychology is a bit upside down in that rising prices tend to create more buyers, when in other disciplines it tends to take declining prices to attract larger pools of buyers. It is not unusual in the history of the equity markets for bull trends to accelerate as prices rise, and in some cases this acceleration phenomenon can sometimes result in what is known as blow off tops at very elevated valuations, as buyers finally exhaust themselves.
We are not in the predicting business, as we prefer to leave that very difficult exercise to those, which believe they have the ability to know the future. However, this past week’s almost instantaneous encounter with motivated buyers after such a shallow, and brief dip in the price, makes me inclined to take into account the possibility that this record setting bull trend may have a strong enough residual bid under it to power an acceleration higher, the news and rich valuation be damned? Please note that taking into account a possibility is not the same as stating the probabilities favor such an outcome.
Objective measures of the balance of supply and demand continue to favor demand over supply, so yes the probabilities continue to favor assaults on new all-time highs, but at this point the notion of an accelerating bull trend higher is just one of a number of possible pathways to new all-time highs.
TATY — A REPRESENATIVE OF A FAMILY OF STRATEGIC SUPPLY AND DEMAND INDICATORS
TATY is shown above in the first chart in yellow with the S&P-500 overlaid in red and blue candle format.
TATY finished the week at 154, which is well above the red zone surrounding the 140 level. As long as this strategic indicator paints out BOTTOMS in, or close to, the red zone the bull trend is likely to continue to attempt new all-time highs. An excursion by this indicator into the caution zone surrounding the 115-125 level would be our first warning that the balance of supply and demand may be changing enough to cause supply to over take demand. If this condition was met, and then followed by the completion of a “Big Chill” warning setup, then Alexander and I would be compelled to consider taking defensive action to preserve accumulated profits, and/or protect client wealth from rising risks of a significant decline, or in the extreme a budding bear market.
Please note that the premium/discount indicator shown in the lower panel of the TATY chart was not driven much below the zero line by this past week’s shallow, and brief decline. Low risk buying opportunities are defined by the premium/discount indicator being driven below the minus eight level (red line) and then beginning a recovery back to the minus three level (green line), and then on to above the zero line. When this condition is met, and the SAMMY tactical indicator shows evidence of resurging demand, often a very low risk buying opportunity has arrived. As my former friend and mentor, Paul Desmond of Lowry Research, used to opine bottoms require evidence of exhausted sellers followed by evidence of resurging demand. In the current case Tuesday’s decline was so fleeting that it never painted out the required setup for us to deploy all the new cash coming into our firm.
SAMMY — A REPRESENATIVE OF A FAMILY OF TACTICAL SUPPLY AND DEMAND INDICATORS
SAMMY is shown above alone, and below with the SPXL 3X leveraged S&P-500 ETF overlaid. The SPXL is used for reference only.
SAMMY is interesting this week. TATY failed to paint out the conditions we needed to be buyers, as the premium/discount indicator never got anywhere close to a significant discount to value, but SAMMY did register some evidence of resurging demand. And, as a counter-balance to the possibility of an acceleration higher, SAMMY developed a big negative divergence with the rallying price as the week wore on. Careful inspection of the SAMMY chart shows the SPXL ETF nearly touching a new high, like most of the popular stock indexes, but the SAMMY indicator is not even close to its previous high. This is called a negatively diverging indicator to the price. Investors want the price confirmed by indicators, not the indicators negatively diverging as SAMMY is in the current case.
This condition suggests Tuesday’s plunge may be just the first leg down in a “flat” or “irregular” correction, which needs another leg down to complete the correction at, or marginally below Tuesday’s low. Yes, it really is complicated in the short term, but not in terms of the big picture, which is the odds favor new all-time highs soon, or after the completion of another leg down in a shallow correction. Investors should be aware that if there is another leg down to come in an ongoing correction, then it is likely to be quite nasty, violent and fast. A nasty, violent and fast leg down would likely create the conditions we need for a low risk buying opportunity, so if between now and the end of the year the market literally looks as if it is “falling out of bed”, then please do not be concerned, as what is actually happening is opportunity disguised as a brief panic, perhaps in reaction to some news driven event. This kind of situation would likely purge any would be sellers from the investor mix, and give the buyers a chance to tighten their grip on the stock market.
THE BOTTOM LINE
While the road to new all-time highs may take some unexpected twists and turns, the balance of supply and demand still favors demand over supply, so the odds are favorable that the stock market is on the road to new all-time highs late, or soon.
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.