Market Summary

By: Gregory Clay | Sun, Nov 15, 2015
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Wall Street sold off for three consecutive sessions as the stock market ended its worst week in over three months. The three major U.S. indexes ended the week down more than 3%, firmly putting the brakes on a fast rally that began in October. The Dow lost 3.7% for the week, the S&P 500 shed 3.6% and the Nasdaq declined 4.3%. Up 4% year-to-date, Nasdaq is the only major index in the black for the year. Wall Street, which enjoyed its best October in four years and started off fast in November, reverted back to risk-off mode. Investors are finding more reasons to hold off on buying stocks, with worries ranging from overvalued stocks, higher interest rates, weak results from key retailers and ongoing angst over the impact of China's economic slowdown. If the Fed hikes rate in December it could mark an unprecedented conflict between a tightening cycle starting at the same time as earnings fall into recession. "We can't think of any instances when the Fed was hiking during an (earnings) recession," said Joseph Zidle, portfolio strategist at Richard Bernstein Advisors in New York. "In the last six months one can point at a lot of different things. But if you think about fundamentals, falling corporate profits and the threat of rising rates" are behind the market stalling, Zidle said.

YTD Performance

A standard chart that we use to help confirm the overall market trend is the Momentum Factor ETF (MTUM) chart. Momentum Factor ETF is an investment that seeks to track the investment results of an index composed of U.S. large- and mid-capitalization stocks exhibiting relatively higher price momentum. This type of momentum fund is considered a reliable proxy for the general stock market trend. We prefer to use the Heikin-Ashi format to display the Momentum Factor ETF. Heikin-Ashi candlestick charts are designed to filter out volatility in an effort to better capture the true trend. Last week's analysis "...a pending change in the market trend...indicators point to declining momentum while the trend has converted into a trading range. This supports our contention that the grossly overbought strength indicator needs to be resolved before the stocks move much higher..." This analysis is confirmed in the updated chart as investors aggressively selling off stocks have started a price downtrend. Momentum indicators have turned bearish to confirm the downtrend.

MTUM Daily Chart

A tool to help confirm the overall market trend is the Bullish Percent Index (BPI). The Bullish Index is a popular market "breadth" indicator used to gauge the internal strength/weakness of the market. It is the number of stocks in an index (or sector) that have point & figure buy signals relative to the total number of stocks that comprise the index (or sector). So essentially it is the percentage of stocks that have buy signals. Like many of the market internal indicators, it is used both to confirm a move in the market and as a non-confirmation and therefore divergence indication. If the market is strong and moving up, the BPI should also be moving higher as more and more stocks are purchased. The Nasdaq Composite Bullish Percentage Index (BPCOMPQ) chart below confirms a price downturn. Nasdaq stocks have been the market leader for most of the year. As highlighted, if recent behavior is a guide, investors selling off more Nasdaq stocks usually leads to other stock classes selling off as well.

NASDAQ Bullish Percent Daily Chart

We like to compare the DOW Industrials and Transports to confirm the current market trend. In the chart below, the DOW Industrials and Transports have both turned down to confirm the current downward move.

Dow and Transports Daily Chart

Investors are grappling with uncertain market conditions due to the first Fed rate hike in nearly a decade, global economic worries, falling oil prices and fears of a weakening retail sector. S&P 500 earnings are on track to close their first reporting season of negative growth since the Great Recession and estimates call for sub-zero growth in the current quarter as well. As reported by Reuters, with more than 90% of S&P 500 components having reported, S&P 500 earnings are down 0.9 percent in the third quarter. Absent surprisingly high numbers from the companies left to report, it will be the first negative growth quarter since the third quarter of 2009. Fourth-quarter estimates are for a 2.4% earnings contraction, according to Thomson Reuters IBES data; that would set up the two quarters of declining earnings, required for a bona fide 'earnings recession.' That already occurred in the second and third quarters, according to FactSet Research Systems, which calculates its quarterly results slightly differently than does Thomson Reuters. Furthermore, the decline in revenue has been steeper than that in earnings, a bad sign for investors who like to put money into companies that are growing sales and not just cutting costs or buying back their own shares. Last quarter's sales are seen falling 4.3% and estimates for the current quarter are for a 2.7% decline. Last week was the first down week of the fourth-quarter. As seen in the graph below, quarterly results remain solid for equity indexes. Interest rate sensitive asset classes such as bonds and precious metals remain depressed ahead of the Feds December interest rate announcement.

Quarter Performance

The CBOE Volatility Index (VIX) is known as the market's "fear gauge" because it tracks the expected volatility priced into short-term S&P 500 Index options. When stocks stumble, the uptick in volatility and the demand for index put options tends to drive up the price of options premiums and sends VIX higher. Next week is critical for determining the markets' trend. Option contracts expire at week's end, which usually upsurges volatility. This past Friday the VIX ended above 20 for the first time since Oct. 6 and rising nearly 41% for the week, its second biggest weekly gain for the year, behind the week ended Aug. 21st. If last week's trend continues the S&P 500 will intersect with the Volatility Index which might return to recent highs.

VIX Daily Chart

Put/Call Ratio is the ratio of trading volume of put options to call options. The Put/Call Ratio has long been viewed as an indicator of investor sentiment in the markets. Times where the number of traded call options outpaces the number of traded put options would signal a bullish sentiment, and vice versa. Technical traders have used the Put/Call Ratio for years as an indicator of the market. Most importantly, changes or swings in the ratio are seen as instances of great importance as this is commonly viewed as a change in the tide of overall market sentiment. Recently, traders had been in a bullish mode and buying a lot more calls compared to puts.The current Put/Call Ratio confirms traders' nervousness as they are now buying more puts to protect against a market crash.

Total Put/Call Ratio

The American Association of Individual Investors (AAII) Sentiment Survey measures the percentage of individual investors who are bullish, bearish, and neutral on the stock market for the next six months; individuals are polled from the ranks of the AAII membership on a weekly basis. The current survey result is for the week ending 11/11/2015. The most recent AAII survey showed 34.30% are Bullish and 23.00% Bearish, while 42.70% of investors polled have a Neutral outlook for the market for the next six months. The current survey results support range-bound (neutral) trading.

AAII Sentiment

The Nation Association of Active Investment Managers (NAAIM) Exposure Index represents the average exposure to US Equity markets reported by NAAIM members. The blue bars depict a two-week moving average of the NAAIM managers' responses. As the name indicates, the NAAIM Exposure Index provides insight into the actual adjustments active risk managers have made to client accounts over the past two weeks. The current survey result is for the week ending 11/11/2015. Third-quarter NAAIM exposure index averaged 56.15%. Last week the NAAIM exposure index was 69.16%, and the current week's exposure is 68.58%. As discussed above, traders have suddenly become cautious and more risk adverse. Quarterly earnings season is winding down and money managers are probably leery of increasing equity exposure until after the Fed announcement.

NAAIM Exposure Percent


Trading Strategy

The updated graph below reflects investors' expectation of a December rate increase. The S&P Financial sector is soaring because financial institutions normally benefit from higher interest rates that they can pass on to their customers. Other S&P sectors are starting to wane ahead of the Feds December rate announcement. Utilities sectors is getting smashed because similar to bonds, these stocks perform better in a low rate environment. According to the Stock Trader's Almanac, the week before Thanksgiving has an overall bullish history. The DOW was up 16 of the last 21 years the week before Thanksgiving with losses in 2003(-1.4%), 2004 (-0.8%), 2008 (-5.3%), 2011 (-2.9%) and 2012 (-1.8%). Next week is also an options expiration week. Monday of expiration week has been down 9 of the last 16 years for the DOW, but Friday is up 11 of the last 13 years with an average gain of 0.7%. S&P 500, NASDAQ and Russell 2000 have not been as bullish as the DOW around or on November option expiration. S&P 500 has advanced only 14 times during options expiration week while NASDAQ and Russell 2000 have climbed only 12 and 11 times respectively over the past 21 years. Any weakness next week could be a good entry point for new longs ahead of the usually bullish Thanksgiving holiday. There is usually solid strength during the week after options expiration since 2001. The worst blemish on the recent 14-year history is 2011.

S&P Sector ETF 30-Day Performance

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Gregory Clay

Author: Gregory Clay

Gregory Clay
Option Strategist
High Value Option Trader
Weekly Income Credit Spreads
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