Several short term bearish factors for the stock market

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by Troy

The stock market ends a shortened weak near all-time highs. Today’s post will highlight several short term bearish factors.

Go here to understand our fundamentals-driven long term outlook.

Let’s determine the stock market’s most probable medium term direction by objectively quantifying technical analysis. For reference, here’s the random probability of the U.S. stock market going up on any given day.

*Probability ≠ certainty. Past performance ≠ future performance. But if you don’t use the past as a guide, you are blindly “guessing” the future.

NASDAQ:S&P ratio

Tech stocks have led this rally (again), which is why the NASDAQ 100 vs. S&P ratio has just made a new high.

Here’s a long term chart.

Is this a “bullish breakout” sign?

Here’s what happens next to the NASDAQ 100 when the NASDAQ:S&P ratio makes a 1 year high for the first time in 6 months.

Contrary to what one would believe, this is actually a short term bearish sign for the NASDAQ over the next month.

Here’s what happens next to the S&P.

15 for 17: it’s the dot-com bubble all over again

The NASDAQ Composite has gone up 15 of the past 17 weeks.

A financial expert marketer would tell you “over the past 20 years, this has only happened 1 other time – the dot-com bubble”. Stoke your recency bias, trigger your fears, sell you a message.

But in order to remain objective, we must look at the data holistically and toss recency bias out the window.

From 1971 – present, here’s what happens next to the NASDAQ Composite when it is up at least 15 of the past 17 weeks.

Here’s what happens next to the S&P.

You can see that this happened in 2000, 1989, 1980, and 1972. With the exception of 1997 and 1993, all of these historical cases were within 1 year of a recession or bull market top.

So this does seem to be a worry for stocks.

Investor disbelief

AAII sentiment is one of the most widely followed sentiment indicators for the U.S. stock market.

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AAII breaks down sentiment into 3 parts: Bullish %, Bearish %, and Neutral % (neither bullish nor bearish).

Here’s an interesting chart from Bespoke:

As you can see, Neutral % keeps rising along with the stock market rally! This isn’t very common. In most cases, price moves sentiment. So as the market keeps going up, more and more investors become bullish simply because the price has been going up in the recent past (recency bias again).

This demonstrates that many investors are in disbelief of the recent rally, which is a sentiment that’s very popular in financial media and social media. Snarky and cynical sentiments are high (e.g. “this rally must be the Plunge Protection Team and evil Central Bank’s work”)

Here’s what happens next to the S&P when the S&P rallies more than 10% over the past 3 months, while AAII Neutral % remains above 40%.

Rare, and mostly short term bearish.

More disbelief

Here’s another sign of disbelief.

The University of Michigan publishes a sentiment survey asking participants the probability of an increase in the stock mraket price in the next year.

While the stock market has rallied in January and February, sentiment actually fell significantly (latest reading for month of February 2019).

Here’s a bigger picture look at this chart. Unfortunately, the data is limited.

Here’s what happens next to the S&P when the “probability of an increase in the stock market”‘s 3 month average falls more than 5% over the past 4 months.

But as we said, this is rare because sentiment is falling while the stock market is going up. In this indicator’s short history, this has only happened 1 other time:

Rolling over?

I’ve seen a lot of financial gurus do this:

  1. Draw a line or pattern
  2. Point to breakout/breakdown
  3. Extrapolate the recent past into the future and trigger your recency bias to sell a message.

These seem a little dishonest, because you can draw these things in whatever way you want to sell whatever message you want. Here’s an example.

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This is why we always try to quantify such patterns.

The S&P’s rally is slowing down. After a monstrous rally, it has swung within a less than 1.1% range over the past 2 weeks

Is this pattern a short term bearish sign? Is a breakdown “imminent” as the “the charts speak to us”?

Here’s what happens next to the S&P when it swings within a less than 1.1% range over the past 2 weeks, after rallying more than +10% in the past 3 months.

This is not a short term bearish pattern. And interestingly enough, this is consistently bullish 6-12 months later.

The last time this happened was April 2016 (for those who use recency bias when trading).


  1. XLY is the consumer discretionary ETF, who’s biggest holding is high-flying Amazon.
  2. XLU is the utilities ETF, which is traditionally considered to be a defensive sector

As you can see, the 4 month rate-of-change in the consumer discretionary (cyclicals) to utilities (defensive) ratio has reversed from its December low to present.

Here’s what happens next to the S&P when XLY:XLU’s 4 month rate-of-change goes from -13% to +13%

You can see that this happened quite often in the 2000-2002 and 2007-2009 bear markets.

Read Tech stocks made a new all-time high, S&P 500 almost there


Here is our discretionary market outlook:

  1. The U.S. stock market’s long term risk:reward is no longer bullish. In a most optimistic scenario, the bull market probably has 1 year left. Long term risk:reward is more important than trying to predict exact tops and bottoms.
  2. The medium term direction (e.g. next 6-9 months) is mostly mixed, although there is a bullish lean.
  3. We don’t predict the short term because the short term is always extremely random. At the moment, the short term does seem to have a slight bearish lean.
  4. In summary, 12-24 months = bearish, 12 months = neutral, 6-9 months = slightly bullish.

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


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