Look For The Wick

I have come to utilize charting techniques less and less as their ability to help handicap asset price movements continues to wither away.

You’re either trading algorithmically in front of the market or you’re a trading loser.  Every single chart pattern and set of indicators in every conceivable combination has already been mathematically expressed by people smarter than technical analysts, and easy profits have been completely arbitraged out of the market from visual chart cues.

There will always be pockets of sheer luck.  There are always exceptions.  But earning consistent profits on price/indicator pictures…get real.

I have come to rely more and more on fundamental analysis, experience (see “gut”), and semi-quantitative tools to manage the risks of trading capital.  Like a degenerate heroine addict, I still chart.  I’ll never give it up, but it’s just another input.  Mostly noise.  Sometimes valued signal.

Despite all that, here’s one visual cue I think a lot of professionals are probably waiting for and that is a second long-stem on the S&P 500.  It could potentially indicate that risk appetites have returned.  If the HFTs see this then we could see a “schooling” move upward, like fish or a flock of birds, as the programs feed on each other’s momentum calls.

Take a look to better understand.  We are looking for a 2% to 3% wick below the weekly closing price.  That’s it.

Everybody's Waiting for a Stem - SPX (3-28-2018)

That might be all it takes to re-engage risk taking.  Not without increased volatility, of course, because liquidity is draining and conditions are tightening.

Flat or Bumpy: Choose Your Own Adventure

                                                                     The Abominable Volatility

Last week’s “whopping” 1.8% selloff on Wednesday shocked market players but was also blown way out of proportion.  The selloff also presented a nice little set-up to possibly scalp a few bucks out of the market over the next week or two.

Was Wednesday’s price action a precursor to some further weakness?  Or was it a one-inch pothole in the continued advance of this bull?

You choose the trade.  For you children of the 80’s, remember these books?  Hours of time wasted flipping back and forth as the protagonist.  The book reference is a good metaphor for the current state of the US stock markets.

                                            Volatility Hunter                 Don't Bother Trading

As I see it, the price action is saying we’re in for another little move downward.  I suspect no more than 5% down to around 2,260 on the S&P 500.  In the chart below, I’ve circled and described what I think can happen.

SPX Weekly (5-19-2017)

The recovery on Thursday and Friday are just small snapback moves for the real players and market makers to close out certain positions with a more positive effect on P&Ls.  Then the rug get’s pulled out from the crowd in a panic-inducing 5% “real” selloff.

This is just what the price action is telling me.  I’ve arbitrarily assigned a probability and bet (regional banks) and hedged (volatility) accordingly based on nothing but my hunch.

Incidentally, my old friend in the credit department thinks there’s room for a little further downside in the larger market.  Below is the chart of the action of what the credit-friend thinks.  Notice the tight correlation between the S&P 500 and my credit-friend.  It’s only over 90% positive, so maybe it’s nothing.

Friend in Credit (5-19-2017)

Besides my friend in credit, there is the alarming increase in vol shorts.  Or maybe the crowd is right.

VIX Shorts - ZH (5-21-2017)

To scalp or not to scalp?  You choose your own trading adventure the next couple of weeks.

Volatility and Price Action

On March 13th, I made a call that I thought it was time for the markets to begin consolidating. Now some may label that call incorrect as the markets have moved a couple of percent higher, even surpassing 2,100 at one point, but I stand by the call. I think late-comers to the rally pushed the S&P 500 that 2% higher.

Specifically, I guessed we’d “see about 7 weeks of sideways consolidation.” Well in order to get a sideways move, the market will need to see a little correction soon. I suspect we’ll get one starting this week. It wouldn’t surprise me to see a move downward of about 5% in the S&P 500 to the 2,000 – 1,975 area over the course of this week and possibly the next. That stem created last week on a weekly chart is the tell.

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But here’s the thing. I think market participants will completely overreact to the 5% or any move downward. I think the bears will start beating on their keyboards and cranking out articles and blog posts saying things like, “See! I told you! Here comes the real start of a 50% correction!” Pay these cranks no mind.

Instead, utilize the negative sentiment to leverage a potential move in volatility. I could see the VIX spiking to 20 in an over-reaction by hedgers. Those same late-comers to the rally in February will overdue it with VIX options potentially causing a spike.

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So how do you leverage the potential? As usual, if you’re a futures player then just structure your option strategy to take advantage of the fear. For the ETF traders and retail guy trying to swing trade some profits off his work salary, there’s the ProShares Ultra VIX ETF, UVXY. Now this ETF is a trading tool only and it’s not for the faint of heart. If you’re going to trade it then you have to be nimble and ready to take profits. The moves are sudden and quick, but profits can be spectacular if you accurately time an upward thrust.

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You can see in the last two moves of late summer last year and the start of this year, that perfectly timed trades have huge potential. In a 3 week run last August, UVXY moved up almost 300%. From late December to February, it moved up 150% in just 6 weeks. Again, not for the undisciplined. If this puppy isn’t played right, it’s easy to get shell-shocked and lose any profit potential.

Are these calls bold? Maybe, in that I don’t have any quantitative analysis to back my assessment. It’s just the gut feel I’m getting from price action and general sentiment. It can be dangerous to trust someone else’s instincts, let alone your own. A trade like this requires precision and a hawk-like watch over the action. Trading volatility can very often turn into a sucker’s bet. Let price action as opposed to greed guide your moves.

The Correction and a Trade Update

We’ll begin with Alibaba. It’s funny; there was article after article talking about how the BABA IPO may top-tick the market and yet not really much chatter at all from the financial sources about how BABA actually did top-tick. Like literally to the day, if somehow you were unaware of that. Have a look:

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You can literally find dozens of articles on the subject. Some were written before September 19th. Others were written just a handful of days afterwards. One even had the gall to act as if some specific blogger nailed the top. To his credit the blogger did nail it to the hour, but it wasn’t exactly going out on a serious limb. Here’s a listing to go back and peruse:

1. www.marketwatch.com/story/did-alibabas-ipo-signal-a-top-in-the-stock-market-2014-09-23
2. blogs.wsj.com/moneybeat/2014/09/12/alibabas-ipo-not-necessarily-a-sign-of-market-top
3. www.usatoday.com/story/money/markets/2014/09/25/first-take-did-alibaba-ipo-mark-market-top/16225725/
4. finance.yahoo.com/video/alibaba-not-top-market-trader-160000682.html – here’s Ponytail Najarian “Gartmaning” the call on the short-term top
5. finance.yahoo.com/blogs/talking-numbers/why-the-alibaba-ipo-may-mark-a-top-for-stocks-182746661.html
6. www.mercenarytrader.com/2014/09/the-alibaba-debut-bears-uncanny-similarity-to-a-year-2007-top
7. finance.yahoo.com/news/stock-market-blogger-nailed-top-211049421.html – and here’s the top calling blogger at Philosophical Economics who did actually call it a top

BABA’s IPO really was a bell at the short-term top, not the long-term. I strongly feel this move is simply a correction allowing for further upside for the equity markets, as I laid out with my “chop & drop” charts. The real question is whether we get a V-shaped correction into a breakout of new highs as the bull trend resumes or is there further downside action. It’s hard for speculators to let go of 2013.

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You can see that despite all the fuss being made over the 200-day MA being passed on a daily chart, there’s virtually no chance of that happening on a weekly chart(which has more meaning). Additionally, one can see that the 50-day on a weekly presented a natural support area. Subsequent price action proves that out.

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The sell-off reached extremes in so many names during the course of last week, that by Friday, we were due for an immediate bounce. This is perfectly normal behavior in a correction of over 10%. Yes, I say 10% because this one probably hasn’t reached its nadir yet. Using my drug-store technical analysis, the blue-line above represents a fairly basic resistance point for the S&P 500 to obtain in the bounce. Six months ago I shared my thoughts that in order for the S&P 500 to finally take a break, the market would need to see what I deemed to be all 3 legs of the “risk stool” to be kicked out. It started with biotech. Then moved on to small caps. Finally, high-yield fixed income sold off. Combine that with the liquidity vacuum of Alibaba in combination with some Ebola fears for the airlines, the darlings of hedge funds, and WHAMMY! The sell-off has greeted us in fine fashion to start the fall season.

The deflationary action in commodity prices, specifically oil, has compounded the speed of the move downward in equity markets. I think that will help to compound the fear a little longer, which is why I suspect we’ll see a bounce and resumption versus a V-shape move off the low. Fear has a predictive way of making people wait for a bounce and then selling off again at whatever profit can be garnered, further exacerbating the corrective action. About a week ago, SentimenTrader shared a chart displaying typical action in the VIX, “the fear gauge.” It showed price action over the last 20 years, anytime the VIX jumped 100% off its six-month low. The chart may be instructive because you can see that except for 1997 and 2006, there was always further to go before a bottom.

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McClellan offered his opinion of the level of extremes based on his Summation Index. The oversold levels of the stock markets have already led to the beginning of a bounce, however it doesn’t mean we’re out of the woods yet. The same thing occurred back in 2011.

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If you want to start nibbling at a wish list, then you can follow in the footsteps of many of the giants of finance. Even Uncle Warren said he was buying at these prices. As I’ve stated throughout this article, I don’t think this move is quite done yet and “discretion is the better part of valor.”

Let’s come back to JJG, the ETF holding corn, wheat, and soybeans. In an earlier post, I’d stated I would tell readers when I thought it was go-time on this commodity trade. Well that time is now. My go-to indicators are giving a buy signal. Yes, bumper crops are expected but as we know, supply and demand are not always the ultimate arbiters of value in futures pricing. Sentiment reached extremes and speculators are positioning accordingly. The price action may bounce around at bottom here for a bit, but the downside risk has been significantly reduced. Additionally, you’d hate yourself if you missed out on a coffee-style trade.

I also want to revisit my Delta Airlines short. That was liquidated for a profit, but it was a difficult one for me to stomach, as I irresponsibly held the position. It was a simple trade. I played some Calls on the Transports, and some Puts on Delta. You can debate the finer points of whether I was hedged or simply neutral. I didn’t run the trade through a monte carlo simulator while statistically evaluating the correlations, so forgive my lack of sophistication on this one. I made a move. It paid off, fortunately. The problem was that I profited much faster on the Transports and then closed the position leaving me unhedged in Delta. The unrealized loss in the position was quite extreme, but my analysis felt sound and the duration of the option gave my thesis plenty of time. That was very undisciplined and a trader should always mind their stops. Sometimes though, a human’s hunches get the best of them. I’m not different. This situation worked out.

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Because along came Alibaba and Ebola and away we went with the downside move. I had stated that I thought $30 would be the profit point, and fortunately I was able to liquidate the holding for a tidy 50%. My analysis was sound, but I got lucky despite my lack of discipline in this particular trade. The total market catalysts really assisted the drive to profit, but I’ll take’em as they come.

Keep your eyes open and don’t get too jumpy on your shopping lists. If you have to buy, then ease into a position. That’s how the professionals allocate capital into holdings and you’d be wise to speculate in the same way when establishing a stake. Although I’ve called for a resumption of the downtrend to further lows, nobody should be surprised by a liquidity-backed V-shaped correction. Anything’s possible in today’s equity markets.

Triple Top Into the Chop & Drop

I hate to keep writing about corrections and being a fear mongerer. At this point, it’s pretty useless as the S&P 500 stays constantly bid under all conditions. The last little correction lasted a week exactly and took the SPX down approximately 4%. Before that was the approximate 6% correction we saw from January 23rd to February 3rd. That was 11 days and a casual observer of the market would have thought the rails had come off of everything the way sentiment crashed so quickly.

Honestly, I’m getting tired of hearing myself with the correction talk, so this will be my last post regarding correction or downturn talk for a little bit. I’ll find something else to entertain and possibly inform you with, because this subject is tired. Especially, when you consider the following charts. I originally titled this post as I meant to write it several days back, when the SPX looked like this:

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However, we seem to have experienced a “clear” breakout so we’re not technically talking about a triple-top anymore…unless it’s a bull trap. Is it a bull-trap? Hindsight will inform us. In my humble and probably very ignorant opinion, I think it’s a bull-trap. There’s just enough buying power left to draw in some last suckers before corrective action. It’s not unheard of for a third top in a triple top to be higher than the first two. The tape shouldn’t be ignored but neither should the myriad of signals running counter to the tape.

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Of course, I could be wrong. I’ve been early to the short party before, and I took a couple lumps to my account and ego for being a wannabe, turn-calling notshot. I maintained tight stops so the damage was minimal, but top calling is a suckers bet that continues to be fun to make.

Complacency is the topic du jour around the financial blogosphere and professional commentaries. The VIX pushed under 12, as denoted by the blue line in the following chart. Recently, hitting or going sub-12 tends to be a precursor to a spike in volatility but it is far from indicating a definite, imminent move.

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Many commentators and “experts” have been turning to more esoteric signals to ensure that the S&P 500’s new highs are a “legitimate” breakout in a positive trend. For the record, I happen to really enjoy and appreciate the consistently insightful commentary put out by the three sources I’m about to list. All the same, have a look at these 3 articles:

1. Chris Puplava – http://www.financialsense.com/contributors/chris-puplava/further-signs-market-bottom-building
2. Bespoke – http://www.bespokeinvest.com/thinkbig/2014/5/30/long-term-vix-chart.html (no mention of unprecedented easing the last 6 years)
3. Tom McClellan – http://www.mcoscillator.com/learning_center/weekly_chart/equity_options_vs._index_options/

Maybe it’s my lack of statistical sophistication or inexperience in professional money management, but these 3 articles seem to be really stretching for evidence that a significant correction is not going to occur this summer and the breakout in the S&P 500 is 100% the real deal. I like to keep things simple, by observing the obvious signals. Market leaders at the time(biotech and small caps) broke down several months ago. Now they’re retracing to perfectly natural Fib. areas before potentially continuing downward which I think will have the effect of finally pulling the S&P 500 with them. Volume is anemic. The VIX is saying, “Wait a second here.” Is it because it’s the start of summer? All sorts of economic indicators have given a red light or at least a yellow light, despite all the cheer leaders. High yield fixed income keeps getting bid higher and higher with no downturn in sight.

So many signals are readily apparent but we still need a trigger. In my last post, I thought that the high yield bond market may be the catalyst for a downturn in the S&P 500, but maybe it just finally gets pulled down with the risk indexes without junk correcting. What will the trigger be? Who knows? It could be anything. Maybe we get some sort of sell-off in another asset class causing a fixed income dash to cash, with the best returns being locked in from their high yield segments. Geopolitical activity may induce fears, although nobody in the markets seems to give a damn about the chess moves conducted by Russia or China. The markets continue to confound even the savviest.

“YEAH, YEAH, YEAH! We’ve heard all this non-sense in your last post! How does this apply to AND what the hell is a “chop & drop?”

Well “chop & drop” is a pattern that is seen typically before major dislocations. John Hussman, Ph. D, who is consistently labeled as a perma-bear and broken clock, generates very good and widely read commentary that does skew to a negative outlook. He just calls it how he sees it based on his extensive research. Everybody’s got an opinion. It’s just a matter of whether you value it or not. I happen to value his commentary, but I don’t base my decisions on how I speculate by any one market commentator. It’s all about taking in as much as possible from as many credible sources as possible to assist one in firming up their own mental picture of the state of things.

Anyways, he put out a piece recently titled, The Journeys of Sisyphus. Have a read if you’re in the mood for some confirming of your bias to your own negative outlook. In the piece he produces several Dow Industrial Jones charts leading up to the major downturns of the last 85 years. For the record, he did not comment on any chopping and dropping in the post. I only reference his work because of the charts. My commentary is in no way affiliated with Dr. Hussman, nor has he endorsed this post in any shape or form.

The first chart obviously displays 1929. In it you can observe the pattern of a notable correction with a recovery into some sideways chop followed by another notable correction leading into a final, euphoric run-up. This pattern of “chop & drop” almost always occurs in the final two years.

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Before presenting the rest of the charts, I am fully aware of the human brain’s abilities in the area of pattern recognition. It’s one of the distinguishing factors of our intelligence as a species, and is a key differentiator from the unevolved brains of other species as well as machines…for now. These set-ups could just as easily be illusory conjunctions of patterns established by a biased mind attempting to create the ability to foresee market outcomes. In other words, I could just be full of it. Believe me, I get that. I’m still going to present the rest of the charts and you the reader can establish your own outlook.

Here in 1972, we have the “chop & drop” but with a pseudo final run-up to sort of fakeout speculators. Compare this to 1929 where the chop went right into the final drop.

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The action in 1987 lacked an initial heavy drop and recovery into the chop. Instead prices consolidated(or chopped) until that first drop before the extremely euphoric run-up prior to Black Monday.

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Finally, we’ve reached a time where a majority of readers may have actually had some money in play. The bust that started it all for a lot of us, the Dot.Com bust.

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In 2007, the action was tight with the chopping and dropping occurring in less than a year. The outcome was still the same, a mega bust. In fact, if you think about the action of the dislocation it was kind of tight, too. All the action was essentially squeezed into 2008. Yes it began in November of 2007 and bottomed in March of 2009, but the real gut wrenching, heart breaking action occurred in 2008.

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And finally we come to the present, 2014. Now remember this whole exercise is pure speculation, but what I think we saw in that 6% correction in February was the first drop. We already recovered and have chopped along since then. At some point in the summer we could then move into a more serious drop of at least 10%. I suspect this may signify the last major drop before recovering into the final euphoric run-up which could last into 2016 before a major dislocation.

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Of course I run the risk of being wickedly wrong. But as I provide these posts free of charge and I do not manage money professionally, I’m ok with sticking my neck out and assessing the cycles of fear and greed as such. There’s no career risk. As for reputation risk, I’ll wait till my small following of readers can no longer be labeled small before I worry about my street cred.

Just for kicks, here’s some statistics and notes regarding the Triple Top pattern from forex-tribe.com. It’s a good site to use for a little education into basic technical analysis patterns. However, they do not list where they obtained their data and how it was quantified. I was reluctant to even share it, but it’s just for kicks. If you’re relying on old school patterns without quantifying risk and reward ahead of time, well then shame on you.

Alleged triple top statistics:
– In 85% of cases, there is a downward exit
– In 50% of cases, the target of the pattern is reached once the neckline broken
– In 84% of cases, a pullback occur
– In 85% of cases, there is a pursuit of the movement once the neckline broken

May closed out at a one-year high for the S&P 500. This is a very, very infrequent event; which is why the cliché “Sell in May and go away” even exists. Don’t be surprised if May selling just gets pushed back to June and July. Do not take your eye off the ball for any reason out there if you’re aggressively trading. For you long money players, take some time to consider the charts we reviewed today.

Don’t discount that sovereign debts are at all-time highs across all the developed nations. Don’t discount that every major economy is monetizing debts or manipulating currencies via swaps or taking some other related action to sway economic activities. Don’t discount that credit derivatives exist in the hundreds of trillions with multiple collateral lines traced to multiple counter parties amongst the holders of said derivatives. Don’t discount negative GDP reads in developed nations. Don’t discount anything. Nothing is what it seems in the markets anymore and it could pay big to be prepared well in advance of what historical price action has already told us.

I’m signing off but before I go, the biggest laugher of the week has to be that Italy and Great Britain are including prostitution and illegal drug sales in their respective GDP calculations. Seriously, you just can’t make this crap up anymore. Good day.