Mid-week market update: Trying to spot a bottom here is like trying to catch a falling knife – and at a time of war. Here is what I am watching in order to navigate the turmoil.
It’s official. We are entering the Biden administration’s “trade talks are going very well with China” phase of market psychology where asset prices respond to every headline in the Russia-Ukraine conflict. Since it’s virtually impossible to predict what’s ahead on the geopolitical front, traders can only focus on technical internals and how stock prices respond to news.
Virtually every chartist can see the developing head and shoulders pattern in the S&P 500, but that’s not the entire story and investors should look for signs of confirmation from other indicators.
I wrote on Sunday that the market was Fearful but not panicked
, now the market is showing signs of becoming both oversold and panic is starting to set in.
The Zweig Breadth Thrust Indicator has now reached an oversold condition, which is a constructive sign that the market may be nearing a short-term bottom.
Another constructive sign is the S&P 500 testing a key support level while exhibiting positive RSI divergences.
As well, the term structure of the VIX is inverted, indicating strong fear.
Oversold and panicked markets can become more oversold and panicked. So how can we spot a bottom?
Here is what I am watching in my cross-asset, or inter-market, analysis.
Is the risk-on/risk-off move being confirmed in the safe havens and related plays? As an example, gold, which is a classic safe haven vehicle, is making new highs while exhibiting positive confirmation from RSI indicators. Score one for risk-off.
The USD is another classic safe-haven play during times of stress. By contrast, the euro is especially vulnerable in the current geopolitical environment. Both are trading sideways.
Oil prices have been a beneficiary of the geopolitical turmoil. WTI crude recently violated a rising uptrend, indicating its bull move is becoming exhaustive.
Another sign that the market may be bottoming is the behavior of small-cap stocks. Even as the current Russia-Ukraine episode has clobbered risk assets, small caps are starting to bottom and outperform relative to the S&P 500. Rank that as constructive.
In conclusion, the weight of the evidence is pointing to the stock market undergoing a bottoming process. While it is poised for a relief rally, headlines will undoubtedly contribute to near-term volatility. Traders who choose to take positions in this market will have to monitor how it reacts to news in order to decide whether a bottom is truly in place.
The next test is likely to occur within the next 48-72 hours, when Russian forces cross the line of control into Ukrainian territory. Watch the market reaction.