Preface: Explaining our market timing models
The latest signals of each model are as follows:
- Ultimate market timing model: Sell equities (Last changed from “buy” on 26-Mar-2023)
- Trend Model signal: Neutral (Last changed from “bullish” on 17-Mar-2023)
- Trading model: Neutral (Last changed from “bearish” on 15-Jun-2023)
Update schedule: I generally update model readings on my site on weekends. I am also on Twitter at @humblestudent and on Mastodon at @firstname.lastname@example.org. Subscribers receive real-time alerts of trading model changes, and a hypothetical trading record of those email alerts is shown here.
Subscribers can access the latest signal in real time here.
Trading the island reversal
The S&P 500 hit an air pocket last week as it was rattled by the rout in bond prices. As the index weakened, SPY formed a textbook island reversal with a measured objective of about 435, which represents a fairly shallow pullback. However, the VIX spiked above its upper Bollinger Band, which is an oversold condition that could be indicative of a short-term bottom.
An ominous rate spike
The recent spike in interest rates looks ominous. The 2-year Treasury yield is a proxy for the market’s expectations of the direction of the Fed Funds rate. In the past, peaks in the 2-year rate have been coincident or led peaks in the Fed Funds rate. Last week’s rate spike may be a signal that the bond market expects more Fed tightening than generally expected.
An unexpected rotation
Turning to the stock market, the AI frenzy appears to be petering out. Google searches for “AI” and “ChatGPT” peaked in late April and they’ve begun to tail off ever since.
From a technical perspective, the relative performance of the NASDAQ 100 normalized against a rolling past 52-week window, reached an overbought extreme and retreated (bottom panel). There were eight similar episodes since 1997. The NASDAQ 100 continued to advance in half of the cases (shown in grey) and corrected in the other half (pink). Looking ahead a year, the index rose in most cases. I conclude that the current stall should be characterized as a pause that refreshes.
As large-cap technology stalled, new leadership has appeared from an unusual quarter –transportation stocks. The Dow Jones Transports have been on a tear compared to the Dow Jones Industrials Average. Even as the Transports test resistance while tracing out a possible inverse head and shoulders pattern, the Industrials are weaker by contrast.
A similar pattern can be seen in the travel-related stocks comprising airlines, hotels and cruise lines. This group has staged a decisive upside breakout on an absolute basis (top panel) and on and a relative basis (bottom panel). The strength in these stocks should be comforting to the soft landing narrative as it represents a signal of consumer resilience.
Weak cyclicals = Caution
Before the bulls become overly excited, the analysis of value and cyclical sectors tells a different story. The relative performance of these sectors is weak, except for industrial stocks, whose strength is mainly attributable to the transportation stocks.
The AAII bull-bear sentiment spread is elevated by historical standards, which is contrarian bearish.