Market Timing Models – Wild Swings for 2+ Years and A Strange Day

ETFs Ranked by WASS

Note that the ETF ranking tables at the top are separate from this commentary. The ranking tables are designed to help with trend-momentum strategies, while the analysis below is based on price structure, setups, chart patterns and pattern breaks. Click here for a detailed article and video explaining the Weighted Average Stochastic Score (WASS) and how it can be used for a rotation strategy.  

Upswing Nears Danger Zone

Well, it was another wild week in the markets and there is a lot to cover today. They, and I do mean the infamous “they”, say that the four most dangerous words in investing are: It’s different this time. In general, I subscribe to this thesis because trading psychology and human emotions have not changed.

As noted in this April 1st commentary on the three stages of a bear market, Charles Dow suggests that there is often a relief rally after the first leg down and this rally emboldens the bulls. Well, this rally is certainly emboldening the bulls, but I still view it as a bear market bounce.

As the chart below shows, the decline to the March low marks the first leg (two steps down) and the bounce over the last 13 days marks the relief rally (one step up). SPY poked its head in the danger zone, RSI is in the momentum danger zone and S&P 500 %Above 20-day EMA (!GT20SPX) exceeded 80%, another danger zone.  

Despite what they say, things are just a bit different today. This is the first global pandemic since 1918, much of the world is in lockdown, the Fed is going all-in with purchases and fiscal stimulus is likely to break records. No wonder things are so chaotic. We have central banks and government rescues battling a global pandemic and lockdown. Pandemic and lockdown had the upper hand in mid March, the Fed and G-men have the upper hand the last 13 days. The situation is fluid.

If you think the Government, Fed and Treasury are out of control, just look at the stock market since January 2018. The S&P 500 SPDR has gone everywhere and nowhere since January 2018. With the close at 278.20, SPY is right back where it was in January 2018. During this round trip, the ETF experienced the following swings: -12%, +16%, -20%, +45%, -35% and +29%.

Chartists probably see the broadening formation and classical charting books define this as a bearish reversal pattern. I think these patterns are too rare to make an objective assessment and prefer to simply see what is actually there. The widening swings show an out of control market and there is no discernible trend. Chartists looking to make a play need to watch these swings.

The indicator window shows weekly RSI(14) with the bull and bear ranges. RSI fluctuated between 40 and 90 until October 2018 and moved into the bear range (20 to 60). This lasted until mid March when RSI broke above 60 and stayed in a bull range until late February. The break below 40 in late February started a bear range.

Strange Days Indeed

Friday was another one of those strange days with some seriously mixed performance. The Russell 2000 ETF (IWM) and Finance SPDR (XLF) surged over 4%, while the Nasdaq 100 ETF (QQQ) and Technology SPDR (XLK) were flat. The Regional Bank ETF (KRE) jumped almost 8% and the Semiconductor ETF (SOXX) fell around 2%. Despite a “risk on” day, the Gold SPDR (GLD) was up over 2% and the 20+ Yr Treasury Bond ETF (TLT) closed higher. These stock-alternatives are holding their own during this historic surge.

Index Breadth Model Gets Some Green

There were two bullish breadth signals in the Index Breadth Model this week. The 10-day EMAs of Advance-Decline Percent for the S&P SmallCap 600 and S&P MidCap 400 surged above +30%. This is not too surprising because the market has been on a tear the last 12 days. It is, however, a bit surprising that the S&P 500 did not trigger a bullish breadth thrust. The breadth thrust indicators are usually the first of the breadth indicators to trigger. This means they have less lag and more chance of whipsaw. The High-Low Percent and %Above 200-day EMA indicators are not even close to triggering bullish so the Index Breadth Model remains bearish on the whole.

Click here for an article and video explaining the indicators, signals and methodology used in the Index Breadth Model. This article also includes the signals of the last five years.

The High-Low Percent and %Above 200-day EMA indicators are longer-term in nature. A breadth thrust can trigger with two weeks of strength, but follow-through is needed to see new highs expand and stocks exceed their 200-day EMAs. The latter two cannot be swayed by a big counter-trend bounce after an even bigger decline.

REITs Turn Bullish on Sector Breadth Model

On the whole, the Sector Breadth Model remains overwhelmingly bearish with 10 of 11 sectors net bearish and 27 of 33 signals bearish. There were bullish breadth thrusts in the Finance, Utilities, REIT, Energy and Materials sectors. XLRE High-Low% ($XLREHLP) also triggered bullish with a move above +10%. Thus, we have bullish breadth thrusts in finance and the four smallest sectors. XLRE, which accounts for 3.18% of the S&P 500, is net bullish because two of the three signals triggered bullish.

Looking at the %Above 200-day EMA indicators, Healthcare, Consumer Staples and Utilities are around 48 to 50 percent. The other 8 sectors are below 30 percent. Industrials %Above 200-day EMA (!GT200XLI) is at 5.56% and Consumer Discretionary %Above 200-day EMA (!GT200XLY) is at 7.97%. These are not numbers one would see in a bull market environment.

Charting the Signals in XLRE

The chart below shows XLRE with the three indicators. There are 31 stocks in this ETF and four recorded new highs on Friday. There were no new lows. Thus, High-Low Percent equals (4-0)/31 or 4/31 or (+12.9%). Note that you can create this chart for the other sectors by swapping out XLRE for the sector SPDR symbol ($XLREHLP > $XLKHLP or $XLREADP > $XLKADP or !GT200XLRE > !GT200XLK).

The bottom indicator window shows 10-week Fast Stoch to measure the retracement over the last three weeks. This indicator shows the level of the close relative to the high-low range back to mid February. QQQ returned to the 40-week SMA and retraced a little less than 50%. This is reflected with the 10-week Fast Stoch, which is at 49.

A peruse through the component charts shows a lot of stocks with long-term downtrends. Also notice that REIT %Above 200-day EMA (!GT200XLRE) is at 25.81%, which means some 76% of components are still below their 200-day EMAs. Here is a list of XLRE components (unadjusted).


The chart below shows then new highs in _AMT, _DLR, _EQIX and _SBAC. You can use the 255-day price channel to mark the 255-day high-low range.

Fed Goes for the Bazooka

The Fed balance sheet expanded yet again, but that was not the real story this week. First, the chart below shows the balance sheet expanding from $4.31 trillion in mid March to $6.08 trillion here in April. That ain’t chump change. Moreover, this expansion is much bigger than in 2008, which suggest that, perhaps, the current problems are much bigger.

The Fed and the Treasury also announced a $2.3 trillion package to shore up the credit markets. This involves buying investment grade corporate bonds based on their rating before the current crisis. Thus, if a bond was downgraded from the lowest investment grade rung (BBB) to junk status over the last few weeks, the Fed will still treat that bond as BBB. As far as I know, bonds that were rated junk before the crisis are not covered in this deal (yet).

In any case, this news sent the Corporate Bond ETF (LQD), High-Yield Bond ETF (HYG) and Aggregate Bond ETF (AGG) sharply higher on Thursday. In addition, yield spreads narrowed, but not to pre-crisis levels (red line). This spread plunged to 8% on Thursday. Thus, junk bonds still yield some 8% above Treasuries and this spread is still quite high, but it is moving in the bullish direction.

Added note from a subscriber: In the new program announced by the Fed, eligible ETFs have been expanded to include ETFs “whose primary investment objective is exposure to U.S. high-yield corporate bonds.” Thanks BK.

The next chart shows the spread between AAA bonds and Treasuries, and BBB bonds and Treasuries. The Fed is buying these bonds and the spreads fell sharply the last two weeks. Notice that the stock market rallied as their spreads narrowed. The spreads have not fallen back to their pre-crisis levels, but continued narrowing could keep the bid in the stock market.

Rants on the Situation with Macro and Covid-19

I am happy to announce the beginning of a new era. Gone are the days when defaults were possible in corporate bonds, municipal bonds and mortgage-backed securities. The Fed made it clear that liquidity problems will not lead to insolvency. The Fed has taken risk off the table in the credit markets and the cycle is dead. Or is it?

Monetary policy, via the Fed and Treasury, can shore up the credit markets and stave off a financial crisis, aka 2008. Fiscal policy, via the Government, can help businesses and individuals through an economic crisis. Basically, three bazookas are pointed at the credit markets and the economy, and by extension, the stock market.

At this rate, the Fed would likely start buying stocks should the market retest the March lows. This is not a prediction, but clearly the Fed is going to do whatever it takes to prop up the markets and dampen the down cycles. Is the Fed bigger than the markets? Can the Fed prevent an economic cycle? Can the Fed reverse the primary trend in the S&P 500?

Even though the Fed and Treasury have come to the rescue, these historic measures reflect the depth of the problems in the credit markets. Where there’s smoke, there’s fire.  

These drastic measures are designed to dampen the fall, not spur growth. Demand will return to 2019 levels when everyone can freely move about with confidence (air travel, concerts, conferences, spectator sports, happy hour, restaurants, festivals, etc…). This is not going to happen overnight and will likely involve a process with ups and downs.

The return to economic growth depends on the “marginal” consumer and choices. In good times, getting marginal consumers to buy is relatively easy and the economy grows. In bad times, the marginal consumer must make choices. Pay for groceries, gas and rent or buy a new TV, go to the ball game or upgrade that cell phone. The challenge now is that future choices will not be driven by just economics. Consumers will be faced with health-related choices: lay low and stay safe or venture out and take a chance.

The markets are forward looking beasts and 2021 could be a great year for the economy. The stock market discounted the worst-case scenario with the March low, but seems to have removed this discount with the surge over the last 13 days. I am not sure how far ahead the markets look, but 2021 is eight months away and it is likely to be a bumpy ride on the way to the end game for this crisis, especially in the coming three months.

Thus, while this is a new era regarding action by the Fed, the Treasury and the Government, I do not think these actions will turn economic contraction into economic expansion overnight. These actions provide a floor for the credit markets and stock markets, but they do not remove the ceiling. With a floor and ceiling in place, this means we could be range bound in the S&P 500.

Buy the dips and sell the bounces.

Thanks for tuning in and stay safe!

-Arthur Hill, CMT
Choose a Strategy, Develop a Plan and Follow a Process

Scroll to Top