Several other markets and indicators are not confirming the stock market’s rally

by Troy

The stock market’s intraday volatility has been higher than usual, with stocks swinging up and down on trade war headlines. Today’s headlines:

  1. Existing Home Sales is weak
  2. VIX’s spike has faded
  3. Value Line Geometric Index is diverging from the S&P
  4. U.S. Dollar is strong
  5. Sentiment is extreme?
  6. Trade war damage
  7. Volume is really low today

Go here to understand our fundamentals-driven long term outlook. For reference, here’s the random probability of the U.S. stock market going up on any given day.

Existing Home Sales

Existing Home Sales have fallen in 5 of the past 6 months.

Is this bad for the stock market? The last time this happened was in September 2018, just before the Q4 2018 stock market crash.

To avoid recency bias, let’s look at every historical case in which Existing Home Sales fell in 5 of the past 6 months.

6-12 month forward returns are slightly (but not significantly) more bearish than random.

VIX

After a brief spike last week, VIX is once again falling.

Here’s what happens next to the S&P when VIX rises above 20 and then falls below 15 within the past 3 weeks.

Here’s what happens next to VIX

Of particularly interest is VIX’s forward returns over the next 1 week – 2 months. You can see that VIX is slightly more bullish than normal, which demonstrates that many > 50% of VIX spikes tend to come in pairs. This is because many stock market pullbacks and corrections occur in 2 down-waves. While the S&P may make a lower low on the 2nd down-wave, VIX won’t always make a higher high.

Value Line Geometric Index

The Value Line Geometric Index is an equal-weighted index containing 1675 stocks from the U.S. and Canada.

Traders often look for “divergences” between an equal-weighted index and the market-cap weighted S&P.

So just how bad is this divergence? Is this an example of “trouble under the hood”?

Here’s what happens next to the S&P when the Value Line Geometric Index is more than -10% below its 1 year high, while the S&P is less than -2.5% below its 1 year high.

Here’s what happens next to the Value Line Geometric Index

Not quite long term bearish for the S&P. This does appear to be more bearish for the Value Line Geometric Index 6-12 months later. So expect more of these “Value Line Geometric Index is diverging from the S&P!” messages in the media and social media over the next half year.

*The equal weighted S&P 500 Index is still doing ok.

Strong Dollar

The U.S. Dollar has been doing well over the past few months. Its 20 week correlation with the S&P 500 is quite high, at 0.78

Conventional trading wisdom states that stocks and the dollar should not move in the same direction – after all, shouldn’t a strong dollar hurt U.S. corporate earnings and sales?

Regardless of conventional wisdom, here’s what happens next to the S&P when the USD and S&P’s 20 week correlation is above 0.75 for 3 consecutive weeks.

Not consistently bearish for the S&P on any time frame.

Here’s what happens next to the U.S. Dollar Index

The U.S. Dollar is more bearish than the S&P, particularly in the short term. This is because the 20 week correlation between the USD and S&P is mean reverting. The 2 assets cannot remain this positively correlated for a long period of time.

Arms Index

The Arms Index is a short term indicator used to gauge the stock market’s overall sentiment.

The 10 day moving average in the Arms Index Inverted is very low right now.

It’s tempting to see this as a short term bullish sign for the stock market. However, this isn’t always the case. Here’s what happens next to the S&P when the Arms Index Inverted’s 10 day moving average is below 0.88

Forward returns are mixed, especially over the next few weeks

Trade war damage

CNBC had an interesting article today.

It is quite rare to see so many big name Dow companies so far below their all-time highs while the S&P is close to an all-time high.

Here’s every single case in which Apple, Intel, Boeing, Caterpillar, and 3M are more than -20% below their 1 year highs.

You can see that this almost exclusively happens when the overall stock market has fallen significantly.

There’s only 1 other historical case in which the S&P was less than -10% below its 1 year high when all these individual stocks were more than -20% below their 1 year highs.

Low volume

Volume was very low today, which is rare considering that the S&P rallied more than 0.9% today. Low volume days tend to occur when the stock market goes nowhere on an individual day.

Here’s what happens next to the S&P when SPY rallies more than 0.9% today, but volume is more than -40% below its 1 year average.

More bullish than bearish over the next few weeks.

Read Is someone secretly smashing the stock market at night?

We don’t use our discretionary outlook for trading. We use our quantitative trading models because they are end-to-end systems that tell you how to trade ALL THE TIME, even when our discretionary outlook is mixed. Members can see our model’s latest trades here updated in real-time.

Conclusion

Here is our discretionary market outlook:

  1. The U.S. stock market’s long term risk:reward is not bullish. In a most optimistic scenario, the bull market probably has 1 year left.
  2. Most of the medium term market studies (e.g. next 6-12 months) are bullish.
  3. The short term is very noisy right now. There is no clear risk:reward edge in either direction. Some short term market studies are bullish, and others are bearish.

Goldman Sachs’ Bull/Bear Indicator demonstrates that risk:reward does favor long term bears.

 

 

 

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