S&P 500 Rolls to Record High
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The following is an excerpt from this week’s ‘Weekly Market Letter’ from Market Edge (www.marketedge.com).
Global markets were able to shake off losses to start the week on spiking Delta variant cases and pushed to new all-time highs as investors focused on strong earnings, an infrastructure bill and better than expected economic and jobs data. A rotation into cyclical stocks helped lift the DJIA and S&P 500 to record levels led by strong gains in Materials (XLB), Consumer Staples (XLP), Financials (XLF), Utilities (XLU) and Industrials (XLI), while Energy (XLE) was the only losing sector. Technology (XLK) was flat on weakness in semiconductors. The Philadelphia Semiconductor Index slumped -2.3% after Morgan Stanley cut their outlook on memory chips. Mixed signals on inflation saw July Consumer Price Index (CPI) rise less than expected, but Producer Price Index top estimates as Federal Reserve members backed calls that inflation would be transitory and may be peaking. Falling Jobless Claims led to a tick higher in interest rates during the period, but a big drop in Consumer Sentiment on Friday, to the lowest read since December 2011, saw rates retrace the gains with the yield on the 30-year T-Bill sliding back below 2% and the 10-year falling from 1.36% to 1.29%. The US Dollar was also weaker on the dire consumer data. Reports during the week that several states as well as some European countries were starting to see a decline in Covid cases also helped prop up the market. Market participants viewed the news as a sign that global economic growth could accelerate later in the year. The DJIA and S&P 500 rode a four-day win streak into the weekend and closed higher for a second straight week, but the NASDAQ was unable to keep stride, finishing with a small loss.
For the period, the DJIA gained 306.87 points (+0.9%) and closed at 35515.38. The S&P 500 picked up 31.48 points (+0.7%) and settled at 4468.00. The NASDAQ eased 12.86 points (-0.1%) to close at 14822.90, while the small cap Russell 2000 snapped a three-week win streak losing 24.65 points (-1.1%) finishing at 2223.11.
Market Outlook: The technical condition of the market continued to improve this week as the DJIA, NYSE and S&P 500 punched a series of new highs. The technical indicators for the Dow and S&P 500 are bullish, but the indexes are overbought based on stochastic readings in the 90’s. The technical indicators for the NASDAQ and small cap Russell 2000 are mixed, with MACD, a short-term trend gauge, negative for the NASDAQ, while still positive for the Russell 2000. Mixed readings are also showing up in Momentum, as measured by the 14-day RSI. Momentum is still positive for the NASDAQ but waning and is neutral for the small cap index. The Russell 2000 also struggled to clear resistance at its 50 and 100-day moving average (MA) and ended the week below both while snapping a three-week win streak. The DJ Transportation Index showed positive divergence as it outperformed the broader market with momentum moving into bullish ground. The Transportation Index also closed above its 50-day MA and was approaching a rising 100-day MA. Finally, Market Edge Industry Group Analysis, which monitors 91 Industry Groups, has improved to 47 groups rated Strong or Improving, up from 21 three weeks ago, which shows underlying strength and broader participation in the rally which is a plus going forward.
Internal breadth was mixed however, on low, summer volume. The NYSE Advance/Decline eked out a small gain but the A/D line for the NASDAQ lost ground. In addition, new 52-week lows outdid the new highs on the NASDAQ on two days and were in triple-digits and expanding during the week. That negative divergence highlights the rotation out of technology and growth stocks and into more cyclical sectors as the economy reopens. Investor Sentiment remains overly bullish and the ratio of Percentage of Bullish Investment Advisors to Bearish Advisors increased to 3.5:1.
Equities continue to drift higher on strong earnings, with Q3 estimates beginning to adjust higher. Investors are also hoping a $1 trillion infrastructure bill, and a dovish Federal Reserve that judges inflationary pressures to be transitory will continue to support the market rally. In addition, global markets are responding to Central Bank stimulus and European stock markets are also hitting record highs and beginning to outperform the US market for the first time since 2008. As stocks move higher look for Bulls to continue to buy the dips as cyclical sectors outperform. The target for the DJIA is now 36229 and 4519 for the S&P 500.
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 +14, unchanged from the previous week. Cycles A, B, C, D and E are bullish. The CTI is projected to remain in a positive configuration into the fall.
Momentum Index (MI): The markets 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 +0, down two notches from the previous week. Breadth was positive at the NYSE as the Advance/Decline line added 191 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 2152 units while the number of new highs beat the new lows on three days. Finally, the percentage of stocks above their 50-day moving average rose to 53.1% vs. 47.2% the previous week, while those above their 200-day moving average fell to 70.9% vs. 71.4%. Readings above 70.0% denote an overbought condition, while below 20% is bullish.
Sentiment Index (SI): Measuring the marketís Bullish or Bearish sentiment is important when attempting to determine the markets 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 8/11/21 shows inflows of $4.2 billion. Currently, the Sentiment Index is Negative at -3, 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 7/30/2021 (DJIA ñ 34935.47). For a closer look at the technical indicators and studies that make up the market timing models, check out the tables located below.
Ask Mr. Seifert
How does a short-term (one week) long/short stock trading strategy compare to selling bull/bear credit spreads?
Forecasting short-term price movements in stock prices is a tough proposition. However, it can be done with some sort of consistancy and when successful can be a very profitable endeavor. There are five possible scenarios that can occur when implementing a long stock trading strategy. Following is the outcomes for each scenario. Short trade results would be a mirror image of these scenarios.
Possible Scenarios Results
- Stock closes up by lot above the open price. Unlimited % Gain
- Stock closes up a by a small amount above the open price. Small % Gain.
- Stock closes unchanged. No % Gain/Loss
- Stock closes down by a small amount. Small % Loss
- Stock closes down by a large amount. Unlimited % Loss
As can be seen from the table, only two of the possible scenarios result in a gain when trading stocks while a large, adverse move can result in a significant, unlimited loss. While the last scenario can be hedge somewhat by the use of stop loss orders, there is no guarantee that you can limit your downside.
Next we will take a look at the likely outcomes of a one-week trading strategy which involves the selling of bull/bear, vertical credit spreads. Like above, this strategy has five possible scenarios but there are favorable results in four of the likely outcomes. The following are the possible scenarios of selling a weekly, bullish put-credit spread. The opposite scenarios would apply for a bearish, call-credit spread strategy.
- Stock closes up by lot above the open price. Full Win – Full % Gain – Limited
- Stock closes up a by a small amount above the open price. Full Win – Full % Gain – Limited
- Stock closes unchanged. Full Win – Full % Gain – Limited
- Stock closes down by a small amount (less than 1%). Part Win – Small % Gain
- Stock closes down by a large amount. Full Loss- Full % Loss – Limited
As can be seen from the table, four of the five possible scenarios result in a gain. In addition, if the stock closes down by a large amount, the loss is always limited to the width of the spread minus the credit amount. Finally, the credit spread strategy, whether long or short can be profitable in any type of market environment.
Ironically, option trading is typically regarded as a risky proposition. The fact is that selling credit spreads can be a lot less dicey than trading stocks which have unlimited risk. Credit spreads have a defined maximum loss which is the width of the spread minus the credit amount. If a big loss occurs while trading stocks, it could take a long time to get back in the green while the option strategy keeps chugging along. Plus, a trading strategy that produces 60% winners will work great when selling credit spreads but not necessarily when trading stocks because of the unlimited loss potential. Finally, selling credit spreads provide three more profitable outcomes than do trading stocks.
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