Mid-week market update: I presented this chart on the weekend and rhetorically asked if the inevitable market bounce would be durable. Since then, the S&P 500 rallied strongly off last Friday’s oversold condition. In addition, the stochastic recycled from oversold to neutral, which is a tactical buy signal.
Does this mean the relief rally isn’t a dead cat bounce, but a durable V-shaped rebound?
Not necessarily. The weekly S&P 500 chart shows the stochastic to be on a sell signal, which implies further downside potential.
Bull and bear clues
Here are some clues. The bears will argue that the bond market hasn’t rebounded and the USD Index, which tends to be inversely correlated to stock prices, is undergoing a high level consolidation. On the other hand, the bulls will argue that geopolitical risk is receding, as evidenced by weakness in oil and gold prices.
Risk appetite indicators are mixed. Credit market risk appetite, as measured by the duration-adjusted relative performance of junk bonds, is exhibiting a minor positive divergence. Equity risk appetite, as measured by the relative performance of high beta to low volatility stocks, is roughly tracking the S&P 500.
Breadth indicators are showing signs of healing. The 52-week high-low spreads are showing signs of recovery and readings are returning to positive, which is a constructive sign.
Faltering momentum
In the wake of last night’s strong bullish reaction to Tesla’s earnings results, I initially thought that the market had the makings of a
three white soldiers bullish reversal. Instead, the third candle fizzled and we are left with only two white soldiers, which could be interpreted as a case of faltering price momentum.
I am also on Zweig Breadth Thrust buy signal watch. The market is on a ZBT buy signal setup, with last Friday as day 1. As a reminder, the ZBT Indicator has to surge from oversold (<0.40) to overbought (>0.615) within 10 trading days. While anything can happen, I am not holding my breath for the buy signal.
The verdict
I began by asking if the rebound is a dead cat bounce, or a V-shaped rebound. Honestly, I don’t know. In the end, how stock prices behave will depend on earnings and interest rates. Aggregate earnings revisions have been positive, though individual earnings reports can create volatility on a daily basis. As well, rate expectations will depend on inflation (see widely anticipated PCE report this Friday), and the upcoming FOMC decision next week.
My base case calls for a bull trend over the next few weeks, though investors will likely some interim choppiness. Regardless of the short-term trajectory of stock prices, investment oriented accounts should be accumulating positions at these levels. My inner trader continues to hold a long position in the S&P 500. The usual disclaimers are applicable to my trading positions.
I would like to add a note about the disclosure of my trading account after discussions with some readers. I disclose the direction of my trading exposure to indicate any potential conflicts. I use leveraged ETFs because the account is a tax-deferred account that does not allow margin trading and my degree of exposure is a relatively small percentage of the account. It emphatically does not represent an endorsement that you should follow my use of these products to trade their own account. Leverage ETFs have a known decay problem that don’t make the suitable for anything other than short-term trading. You have to determine and be responsible for your own risk tolerance and pain thresholds. Your own mileage will and should vary.
Disclosure: Long SPXL
