Bulls on Record Run
CNBC has revised their Option Action show which is aired every weekday night at 5:30. They have really beefed up the Friday show to the point that we think it is one of the best option oriented shows on the air. Check it out.
The following is an excerpt from this week’s ‘Weekly Market Letter’ from Market Edge (www.marketedge.com).
Strong earnings and economic data that showed the economy is growing at a rapid clip helped send most of the major averages to new heights this week. After a slow start, trading picked up midweek as blow out numbers from Goldman Sachs (GS), JP Morgan Chase (JPM) and Bank of America (BAC) ushered in what looks like the strongest quarterly earnings season since Q3 2018 (+26.1%). According to FactSet Research, the S&P 500 is expected to see earnings surge +24.5%, led by turnarounds in Financials, Materials and Industrials. The DJIA, S&P 500, NYSE and NASDAQ 100 all posted record highs on Thursday propelled by a drop in Initial Jobless Claims below 600k and March Retail Sales soaring +9.8% YoY. Despite data showing strong economic growth, interest rates declined with yields registering their biggest one-day slide since November on Thursday. The yield on the 10-year Treasury settled at +1.57% on Friday. That gave a boost to rate sensitive sectors and Utilities (XLU) and REITs (XLRE) were two of the strongest market groups up more than +2% on the week. Materials (XLB), Consumer Discretionary (XLY) and Healthcare (XLV) also outperformed, while Communication Services (XLC) was the only sector finishing with a minor loss. Lower yields weakened the US Dollar which gave a boost to commodities and Emerging Markets. The CRB Commodity Index was flirting with a new record high as the week ended, and crude oil prices were trading back above $63 a barrel. Digital currencies were in the spotlight as new Crypto Currency Exchange Coinbase (COIN) debuted as an IPO at $250 and surged as high as $429 before settling at $340. Bitcoin traded as high as $64,000 during the period before pulling back to $61,800. The rally in the Dow Jones and S&P 500 extended for a fourth consecutive week, and the NASDAQ a third straight week, as investors geared up for another busy week of what looks like better than expected Q1 earnings ahead. For the period, the DJIA added 400.07 points (+1.2%) and closed at 34200.67. The S&P 500 gained 56.67 points (+1.4%) and settled at 4185.47. The NASDAQ increased 152.15 points (+1.1%) to close at 14052.34, while the small cap Russell 2000 picked up 19.20 points (+0.9%) finishing at 2262.67.
Market Outlook:The technical condition of the market improved during the week as most of the major averages posted new record highs. The technical condition of the different indexes is strong with the technical indicators and momentum bullish. The Russell 2000 continues to show negative divergence however, as the small cap index has lagged the broader market and momentum is neutral. The Russell 2000 has been stuck in a very narrow range during April, but Q1 earnings could be the catalyst to see the index break higher. The Philadelphia Semiconductor Index (SOX) was the worst performing index down -1.3%. Several of the major averages, however, did finish the week overbought by several measures. The 14-day RSI for the DJIA and S&P 500 hit its highest number since August 2020 which marked a near time top, and the S&P 500 ended Friday more than +15.5% above its 50-day moving average, with almost 90% of the index stocks trading above their 200-day moving average, which has marked market tops in the past. Finally, the Market Edge/S&P Short Range Oscillator finished the week at +4.13% which has historically led to some backing and filling. Underlying breadth is mostly positive with the NYSE Advance/Decline line, a leading indicator of market direction, hitting several new highs during the week. Negative divergence was present in the NASDAQ A/D line however, which moved lower and could be an early signal that the current rally could be losing some momentum. The rally remains broad based however, with new 52-week highs expanding this week across almost every sector. The only sector not trading at, or, near a new high currently is Energy (XLE). Investor sentiment remains overly bullish, but until the Federal Reserve hints that inflation is becoming a concern, there’s little not to like and prices should move higher. Especially as Fed officials continue to telegraph that they have no interest in tapping the brakes on the economy. Several sentiment indicators that are watched are reaching extreme levels, however, these are contrarian indicators and are not a reason to sell. Investors should use these as cautionary signals knowing that at market tops, investors are ‘all in’! 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 +6, down two notches from the previous week. Cycles B, C and E are bullish, while Cycles A and D are bearish. The CTI is projected to remain in Bullish Territory through April.
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 four notches from the previous week. Breadth was positive at the NYSE as the Advance/Decline line added 1661 units while the number of new 52-week highs out did the new lows on all five sessions. Breadth was mixed at the NASDAQ as the A/D line lost 1294 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 increased to 69.5% vs. 68.6% the previous week, while those above their 200-day moving average rose to 88.5% vs. 87.4%. 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 4/14/21 shows inflows of $760 million. That marks a 10th consecutive week of inflows. Currently, the Sentiment Index is Negative at -4, down a notch 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): | 6 | 8 | Positive | ||||||||||||||||||||||||||
| Momentum Index: | 3 | -1 | Neutral | ||||||||||||||||||||||||||
| Sentiment Index: | -4 | -3 | Negative | ||||||||||||||||||||||||||
| Strength Index – DJIA (DIA): | 62.1 | 58.6 | Positive | ||||||||||||||||||||||||||
| Strength Index – NASDAQ 100 (QQQ): | 63.5 | 54.2 | Positive | ||||||||||||||||||||||||||
| Strength Index – S&P 100 (OEX): | 61.3 | 59.1 | Positive | ||||||||||||||||||||||||||
| Dow Jones Industrial Average (DJIA): | 34200.67 | 33800.60 | 1.2% | ||||||||||||||||||||||||||
| S&P 500 Index: | 4185.47 | 4128.80 | 1.4% | ||||||||||||||||||||||||||
| NASDAQ Composite Index: | 14052.34 | 13900.19 | 1.1% | ||||||||||||||||||||||||||
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Ask Mr. Seifert
What is the VIX Index and how is it calculated?
VIX is the ticker symbol for the CBOE’s volatility index. It shows the market’s expectation of 30-day volatility. It is constructed using the implied volatilities of a wide range of S&P 500 index options. This volatility is meant to be forward looking and is calculated from both calls and puts. It is a widely used measure of market risk and is also referred to as the “investor Fear Gauge”.
The CBOE designed the VIX to create various volatility products. VIX was the first successful attempt at creating and implementing such an index. Introduced in 1993, it was originally a weighted measure of the implied volatility of eight S&P 100 at-the-money put and call options. Ten years later, in 2004, it was expanded to use options based on a broader index, the S&P 500, which allows for a more accurate view of investors’ expectations of future market volatility. VIX values greater than 30 are generally associated with a large amount of volatility because of investor fear or uncertainty, while values below 20 generally correspond to less stressful, even complacent times in the markets.
VIX is a computed index, much like the S&P 500 itself, although it is not derived based on stock prices. Instead, it uses the price of options on the S&P 500, and then estimates how volatile those options will be between the current date and the option’s expiration date. The CBOE combines the price of multiple options and derives an aggregate value of volatility, which the index tracks.
Typical market conditions usually will produce good results when trading the Optionomics ‘Traders’ option selections. Ideally, the market would have good volatility based on VIX which would be in the 20 to 30 range. In addition, the market would not be in an excessive, prolonged upward or downward trend. While the Traders selections will perform in any market environment, conditions which are present in a normal market environment are desirable.
What isn’t ideal is when the market gets into an extreme mode, either up or down. Extreme conditions are rare occurrences which occur when the market is in either a ‘melt up’ or ‘melt down’ situation. A melt up occurs when the major averages continue to post new highs over an extended period of time without the hint of a correction. Volatility (VIX) during these moves can drop to the low teens and on rare occasions can approach single digits. The opposite scenario occurs when the market is in a meltdown mode, an extended downturn which sees VIX approach 40.
The Traders selections are based on two components: The mathematical certainty of the time decay inherent in options (theta) and the price direction of the underlying security (Market Edge). When VIX is low, premiums in the weekly options are usually small. Since a major component of the Traders strategies is selling credit spreads (premium), low levels of volatility and small premiums will obviously effect returns.
The Market Edge algorithms used to identify stocks used for the Traders and Iinvestors selections are based on the same components which are used when generating the Long, Neutral and Avoid opinions for stocks on the Market Edge web site. These algorithms have remained unchanged since 1992 and have proven to have a better than 70% accuracy rate. The difference is that with Optionomics, the time frames of the various indicators and studies have been shortened so as to identify very short-term price movements since the bulk of the trades have a 2-5 day look. The results since the onset of the Traders selections on 01/01/19 have been very favorable.
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