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The following is an excerpt from this week’s ‘Weekly Market Letter’ from Market Edge (www.marketedge.com).
It was one for the books this week as volatile trading whipped the major averages higher and lower as retail investors discovered the ‘Art of Shorting Stocks’. With the stock prices of GameStop (GME), BlackBerry (BB), AMC Entertainment (AMC), Bed, Bath & Beyond (BBBY) and Koss Corp (KOSS) skyrocketing in the background, investors juggled delays in stimulus, shortfalls in Covid-19 vaccines, mixed economic data and stronger than expected Q4 earnings. Blowout earnings from Apple (AAPL), Microsoft (MSFT), Broadcom (AVGO), Caterpillar (CAT) and others failed to move the needle as stock prices had rallied into earnings and most stocks traded lower on the results. Calls for more coronavirus relief stimulus induced morning pops in the different indexes but the gains failed to hold. Stocks were hammered on Wednesday at the open as hedge funds and investors were caught in short-squeezes in high-flying shares and forced to liquidate positions to cover losses. The major averages turned in their biggest point drop since October as the different indexes dropped more than -2% across the board. The DJIA carried a five-day losing streak into Thursday before equities bounced on an improving jobs report, but ended the session well off the early highs. The major averages rolled over again on Friday however, and the DJIA, S&P 500 and DJ Transportation Index finished the month of January in the red. Every sector was caught in the week’s selloff, led lower by more than -4% losses in growth sectors Energy (XLE), Materials (XLB), Financials (XLF), Consumer Discretionary (XLY) and Industrials (XLI). Defensive sectors REITs (XLRE), Utilities (XLU), Consumer Staples (XLP) and Healthcare (XLV) outperformed. Interest rates were little changed after the January FOMC Meeting left rates unchanged on Wednesday. The week ended on a sour noted as the extreme volatility in the market had market watchdogs calling for more regulation and the major averages turned in their worst weekly percentage losses since October. It was the first losing month for the DJIA and S&P 500 since October, while the NASDAQ extended its win streak to a third month.
For the period, the DJIA tumbled 1013.46 points (-3.3%) and closed at 29982.62. The S&P 500 lost 127.23 points (-3.3%) and settled at 3714.24. The NASDAQ fell 472.37 points (-3.5%) to 13070.69, while the small cap Russell 2000 sank 95.12 points (-4.4%) finishing at 2073.64.
Market Outlook:The technical condition of the market deteriorated this week as the major averages gave back most of 2021’s gains. The technical indicators ticked lower with MACD ST, which gauges the short-term trend, sliding into Bearish ground and Momentum, as measured by the 14-day RSI, in negative ground for most indexes. The DJIA and DJ Transportation Index dropped below their 50-day MA, while the S&P 500 finished the week sitting on that support level. The NASDAQ, Russell 2000 and Philly Semiconductor Index fell down to their respective 30-day MA before finding support. For the Philly Semiconductor Index it was the biggest weekly percentage drop since the March correction. The DJ Transportation Index held support at its 100-day MA on Friday. Despite the selloff, parts of the market remain overbought by some measures, however, the S&P 500, which at one point in mid-January had drifted +16.6% above its 200-day MA, finished Friday only about +10% above it. That’s more in line with historical norms and the closest the bellwether index has come to the 200-day since the first week of November. Negative divergence was seen in weakness in the DJ Transportation Index and Philly Semiconductor Index which were the biggest losers falling about -6%. Underlying breadth was bearish as new 52-week highs contracted significantly and the NYSE and NASDAQ Advance/Decline lines both lost ground. Investor sentiment, which by some measures had touched extreme levels, was reined in this week. The National Assoc. of Active Investment Managers (NAAIM) dropped to 83.5 from 112.9 the previous week showing professionals were raising cash. However, the Percentage of Bullish Investment Advisors was above 60% for a 10th consecutive week, a red flag for excess bullishness.
Last week I mentioned that the rally had left the different indexes overbought and stretched and that coming off margin would be a good way of selling into strength. Although the major averages should start next week with a bounce, it’s likely that we’re now in the realms of what will probably be a 5-7% pullback. As mentioned last week, the small cap Russell 2000 had surged +40% since the first of November and the NASDAQ had rallied 24% and were overdue for some consolidation. A healthy market is going to go through periods of strength and weakness and with the Market Edge Cyclical Trend Index (CTI) projected to move into negative ground as early as next week, it’s likely we’re in for a few more weeks of back and forth trading to consolidate those gains. Keep an eye on 3700-3710 on the S&P 500 as an area of support. A break below that support level could induce more selling.
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 Positive at +2, down a notch from the previous week. Cycles A, C, D and E are bullish, while Cycle B is bearish. The CTI is projected to move into negative ground as early as next week.
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 Positive at +4, down five notches from the previous week. Breadth was mixed at the NYSE as the Advance/Decline line lost 3449 units while the number of new 52-week highs out did the new lows on all five sessions. Breadth was also mixed at the NASDAQ as the A/D line dropped 5075 units while the number of new highs beat the new lows on each day. Finally, the percentage of stocks above their 50-day moving average fell to 66.2% vs. 80.1% the previous week, while those above their 200-day moving average eased to 88.8% vs. 89.9%. 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. In addition, we track money flows into and out of Equity Funds and ETFs which as of 1/27/21 shows inflows of $1.6 billion. Currently, the Sentiment Index is Negative at -1, up two notches from the previous week.
Market Posture: Based on the status of the Market Edge, market timing models, the ‘Market Posture’ is Bullish as of the week ending 11/13/2020 (DJIA – 29479.81). For a closer look at the technical indicators and studies that make up the market timing models, check out the tables located below.
| Market Timing Models | Current Reading | Prior Week | Connotation | ||||||
| Cyclical Trend Index (CTI): | 2 | 3 | Positive | ||||||
| Momentum Index: | 4 | 9 | Positive | ||||||
| Sentiment Index: | -1 | -3 | Negative | ||||||
| Strength Index – DJIA (DIA): | 24.1 | 41.4 | Negative | ||||||
| Strength Index – NASDAQ 100 (QQQ): | 43.8 | 42.7 | Negative | ||||||
| Strength Index – S&P 100 (OEX): | 36.6 | 40.9 | Negative | ||||||
| Dow Jones Industrial Average (DJIA): | 29982.62 | 30996.08 | -3.3% | ||||||
| S&P 500 Index: | , | 3714.24 | 3841.47 | -3.3% | |||||
| NASDAQ Composite Index: | 13070.69 | 13543.06 | -3.5% | ||||||
Ask Mr. Seifert
Question: What can happen at expiration to the Basic Strategy, Put-Call Spreads and the Blow Off ‘Traders’ strategies and what action should I take?
Basic Strategy: Bullish Put Credit Spreads: Short weekly expiring ATM put, long weekly expiring ATM -2 put.
- If Stock Closes At Or Above The Short Put SP. Let The Spread Expire Worthless (Profit)
- If Stock Closes Below The Short Put SP. Close The Spread (Possible Loss)
Basic Strategy: Bearish Call Credit Spreads: Short weekly expiring ATM call, long weekly expiring ATM +2 call.
- If Stock Closes At Or Below The Short Put SP. Let The Spread Expire Worthless (Profit)
- If Stock Closes Above The Short Put SP. Close The Spread (Possible Loss)
Bearish Blow Off Tops: Short weekly expiring ATM call, long weekly expiring ATM +2 call and long deferred ITM put.
- a) If Stock Closes At Or Below The Short Call SP. Let The Spread Expire Worthless. Sell or Hold The ITM Put. (Profit)
- b) If Stock Closes Above The Short Call SP. Close The Spread And Sell The ITM Put. (Possible Loss)
Bullish Blow Off Bottoms: Short weekly expiring ATM put, long weekly expiring ATM -2 put and long deferred ITM call.
- a) If Stock Closes At Or Above The Short Put SP. Let The Spread Expire Worthless. Sell or Hold The ITM Call. (Profit)
- b) If Stock Closes Below The Short Put SP. Close The Spread And Sell The ITM Call. (Possible Loss)
‘Traders’ And ‘Investors’ Results
| ‘Traders’ Results | 21st Century Covered Call Results | ||||||
| Performance Since Week Ending 1/04/19 | Performance Since Week Ending 11/06/17 | ||||||
| S&P 500: | 01/04/19 | 2485.74 | S&P 500: | 11/06/17 | 2591.10 | ||
| S&P 500: | 01/29/21 | 3714.24 | S&P 500: | 01/29/21 | 3714.24 | ||
| S&P 500 Points Gain/Loss: | 1228.50 | S&P 500 Points Gain/Loss: | 1123.14 | ||||
| S&P 500 % Gain/Loss: | 54.5% | S&P 500 % Gain/Loss: | 43.3% | ||||
| Risk Capital: | $15,000 | Risk Capital: | $100,000 | ||||
| Optionomics Traders $ P/L: | $9,399 | Optionomics Covered Call $ P/L: | $31,240 | ||||
| Optionomics Traders % P/L: | 66.9% | Optionomics Covered Call % P/L: | 31.2% | ||||
| Last Week’s Traders % P/L: | 0.6% | Last Week’s Covered Calls % P/L: | -0.7% | ||||
| Put-Call Hedge Results | The Billionaire Risk Reversal Results | ||||||
| Performance Since Week Ending 1/26/18 | Performance Since Week Ending 04/12/19 | ||||||
| S&P 500: | 01/26/18 | 2872.87 | S&P 500: | 04/12/19 | 2907.41 | ||
| S&P 500: | 01/29/21 | 3714.24 | S&P 500: | 01/29/21 | 3714.24 | ||
| S&P 500 Points Gain/Loss: | 841.37 | S&P 500 Points Gain/Loss: | 806.83 | ||||
| S&P 500 % Gain/Loss: | 29.3% | S&P 500 % Gain/Loss: | 27.8% | ||||
| Risk Capital: | $100,000 | Risk Capital: | $50,000 | ||||
| Optionomics Put-Call Hedge $ P/L: | $39,168 | Optionomics Billionaire Trade $ P/L: | $249,290 | ||||
| Optionomics Put-Call Hedge % P/L: | 39.2% | Optionomics Billionaire Trade % P/L: | 498.6% | ||||
| Last Week’s Put-Call Hedge % P/L: | -1.4% | Last Week’s Billionaire Trade % P/L: | 4.9% | ||||
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