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The following is an excerpt from this week’s ‘Weekly Market Letter’ from Market Edge (www.marketedge.com).
Bulls Shrug Off Hawkish Fed
The major averages sank after coming back from the long, holiday weekend as a better-than-expected Services PMI sent yields higher and stocks lower. The NASDAQ tumbled for a seventh straight session, but equities bounced on Wednesday after Fed Vice Chair Lael Brainard said the Federal Reserve acknowledged the risks associated with overtightening. Investors jumped on her remarks as a dovish sign and yields nudged lower. The different indexes rallied off oversold levels and continued higher into Friday as the major averages snapped a three-week losing streak. The surge was broad based with every sector finishing positive led by more than 4+% leaps in Consumer Discretionary (XLY), Materials (XLB), Healthcare (XLV), Financials (XLF) and REITs (XLRE). Despite hawkish warnings from several Fed Presidents throughout the period that rates were going higher for longer to fight inflation, yields inched lower again ahead of the weekend, and the US Dollar weakened. The yield on the 10-year T-Bill ended the week at 3.31%, while the two-year Treasury landed at 3.57% as the yield curve narrowed. The dip in the dollar gave an added boost to equities and especially multinationals. Crude oil prices tumbled early in the week on demand concerns and fell to an eight-month low on Wednesday before firming ahead of the weekend. The CRB (Commodity) Index fell to its lowest mark since February. The three-day spurt was enough to send the major averages into the plus column for the week for the first time since mid-August.
For the period, the DJIA gained 833.27 points (+2.7%) and settled at 32151.71. The S&P 500 added 143.10 points (+3.6%) and closed at 4067.36. The NASDAQ outperformed picking up 481.45 points (+4.1%) and finishing at 12112.31. The small cap Russell 2000 jumped 73.10 points (+4.0%), finishing at 1882.35.
Market Outlook: The technical condition of the market improved this week, but it was a bit of a mixed bag as the different indexes were coming off very oversold levels. The Market Edge/S&P Short Range Oscillator (SRO) hit -7.36% on Tuesday, which historically has seen buyers come into the market. On the plus side, after rising above the June highs, the major averages have so far, stayed above the June lows setting a bullish chart pattern of higher highs and higher lows. The S&P 500, NASDAQ and Russell 2000 were able to clear resistance at their respective 50 and 100-day MA’s, another positive. Technicians will note that a rising 50-day MA crossed back above the 100-day MA on most of the different index charts which adds another degree of bullishness. However, the different indexes remain well below their falling 200-day MA, meaning the long-term trend remains bearish. The DJIA and DJ Transportation Index struggled at that resistance area, but positive momentum could push those indexes above that key level next week. Momentum, as measured by the 14-day RSI, is neutral, but several indexes saw that indicator cross above its mid-point on Friday, a positive for the market going forward. Most of the other technical indicators finished the week in neutral ground with MACD, a short-term trend gauge, close to crossing into bullish ground after Friday’s run. In addition, we saw secondary indexes the small cap Russell 2000 and Philadelphia Semiconductor Index outperform the broader market. Market technicians prefer to see these indexes, along with the transports, lead the market higher during rallies. Finally, every sector participated in the surge showing the spike wasn’t caused by a narrow group of stocks. Underlying breadth was positive, and Friday’s gains showed strong accumulation by the NYSE and NASDAQ Advance/Decline lines. Friday also saw more new 52-week highs outnumber the new lows on the NYSE. Lastly, investor sentiment once again reached overly bearish levels which can indicate that the market is trying to put in a bottom. The American Association of Individual Investors (AAII) survey shows only 18.1% of retail investors are bullish and the last time we saw that amount of bearishness was when the market bottomed in June. It also showed that 53.3% of retail investors are looking for the market to trade lower over the next six months. That’s double the historical average. Professionals are also close to throwing in the towel. The National Association of Active Investment Managers (NAAIM) Exposure Index dropped to 27.3% this week, down from 71.6% exposure to equities just four-weeks ago. These bearish indicators are regarded as contrarian indicators when they reach extreme levels such as these.
It was a volatile week that ended positive, with some wild intraday swings in prices. Despite hawkish comments from several Federal Reserve committee members during the period, including Fed Chair Jerome Powell on Thursday, investors seemed to shrug off the warnings. Rates moved lower as market participants are counting on Tuesday’s CPI (Consumer Price Index) report to show a big drop in prices due to falling gasoline and food prices. Food and energy however, aren’t included in the core-CPI! That will be followed by a slew of economic data on Thursday, the last before the September FOMC Meeting kicks off the following week. That should show the impact the Fed’s rate hikes are having on growth. Remember though, for rates, good news could be interpreted as bad news allowing the Fed to keep the foot on the gas for longer. On Friday, the CME Group FedWatch Tool showed a 90% probability of a 0.75-point hike in rates at that meeting. While we could see the major averages surge on a lower CPI number, will investors still be as bullish if the Fed states that at least another 0.50-point increase could come in November or beyond? The stock market doesn’t seem to believe the Federal Reserve’s tightening will slow growth enough to cause a recession. That may be, but investors may want to remain cautious a while longer. Besides weak seasonality ahead, the CPI only represents one data point that the Fed considers. Any increase in inflation could result in another sharp selloff in equities. A chart of these indicators can be found by going to the Market Edge Home page and clicking on Market Recap, which is on the right-hand side of the page just below the Second Opinion Status numbers.
Cyclical Trend Index (CTI): The underlying premise of the CTI is that the market, as measured by the Dow Jones Industrial Average (DJIA), tends to move in cycles that often resemble sine waves. There are five identifiable cycles, each with different time durations at work in the market at all times. Currently, the CTI is Negative at -7, down six notches from the previous week. Cycle E is bullish, while Cycles A, B, C and D are bearish. The CTI is projected to remain in a negative configuration into October.
Momentum Index (MI): The market’s momentum is measured by comparing the strength or weakness of several broad market indexes to the DJIA. Readings of -4 and lower are regarded as bearish since it is an indication that a majority of the broader based market indexes are weaker than the DJIA on a percentage basis. Conversely, readings of +4 or higher are regarded as bullish.
The Momentum Index is Neutral at -3, up three notches from the previous week. Breadth was mixed at the NYSE as the Advance/Decline line gained 2999 units while the number of new 52-week lows exceeded the number of new highs on three of the four sessions. Breadth was also mixed at the NASDAQ as the A/D line added 3253 units while the number of new lows out did the new highs on each day. Finally, the percentage of stocks above their 50-day moving average jumped to 40.5% vs. 35.7% the previous week, while those above their 200-day moving average increased to 25.5% vs. 23.7%. Readings above 70.0% denote an overbought condition, while below 20% is bullish.
Sentiment Index (SI): Measuring the market’s Bullish or Bearish sentiment is important when attempting to determine the market’s future direction. Market Edge tracks thirteen technical indicators listed below that measure excessive bullish or bearish sentiment conditions prevalent in the market. The Sentiment Index is Positive at +4, up a notch from the previous week. In addition, we track money flows into and out of Equity Funds and ETFs which as of 9/07/22 shows outflows of $12.9 billion.
Market Posture: Based on the status of the Market Edge, market timing models, the Market Posture is Bearish as of the week ending 8/26/2022 (DJIA – 32283.40).
Ask Mr. Seifert
Question: What Is IV Rank (IVR) And IV Percentile (IVP) And Why Do I Care?
Answer: Implied volatility rank (IVR) is a statistic measurement used when trading options. It reports how the current level of implied volatility in a given underlying compares to the last 52- weeks of historical data. That means if implied volatility ranged between 30% and 60% during the last 52 weeks in stock XYZ, and implied volatility is currently at 45%, XYZ would have an implied volatility rank of 50.
Similar to implied volatility rank, implied volatility percentile (IVP) provides insight into the current level of implied volatility as compared to the last 52 weeks of data. Implied volatility percentile reports the percentage of days over the last 52- weeks that implied volatility traded below the current level of implied volatility. Market participants can use both IV rank and IV percentile in conjunction with each other to assess the current level of implied volatility in a given underlying as compared to the last 52 weeks of data.
Generally speaking, market participants often view elevated levels of IV rank and IV percentile as attractive for selling options when it is over 50 and great when it is over 80. Depressed levels of IV rank and IV percentile, under 20 are viewed as attractive levels when buying options.
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