The market has become more volatile, that much we know. Where it's headed is a tougher matter to tackle. Our overview, though, is that the bear is still in charge -- despite the sharp oversold rally of today. Let's begin by looking at prices. The major indices all fell to new lows last Friday, and then after a weak 2-day rally, fell once again to new lows on Wednesday. From those ashes, the Phoenix of an oversold rally arose -- and rose strongly. This was a classic oversold rally extremely strong and fast. But will it last? We don't think so, but there are certain factors which could cause us to change our mind, as you'll see when you read on. There is now overhead resistance in the 1160-1165 area, basis $SPX, for that is where the market broke down from (other indices are in similar states as $OEX 555, QQQQ 36, and Dow 10,400 represent resistance). Moreover, with the breaking of the upward trend lines (red lines in Figure 1), the dominant trend line is now the blue downtrend line. Furthermore, the 50-day moving average has now turned downward and it continues to represent psychological resistance as well. It may well contain this or any other rally, just as it did the ones earlier in April. So prices, would have to overcome these downtrending lines, as well as rise above that resistance for us to consider changing to a bullish stance.
Moreover, we'd want to see buy signals from our other technical indicators. That might actually be easier to achieve than overcoming the afore-mentioned resistance. Consider volatility ($VIX) (Figure 4). $VIX spiked up to close at 17.74 last Friday, it's highest level since last August. Then it backed off sharply from there, on Monday and Tuesday. After another move upward on Wednesday, it literally collapsed today, and closed at 14.41. That is more than a 3-point reversal from its high and qualifies as an official buy signal by our way of thinking. $VIX may not go back down to 11 again, since the historical volatility of $SPX and the other major indices has risen during the volatile last month or so, but it has formed a spike peak buy signal nonetheless.
Market breadth is also turning bullish. While that's nice, it should be noted that breadth gave false buy signals recently, so we aren't going to get too excited about them.
The equity-only put-call ratios (Figures 2 and 3) have not yet given buy signals, and thus are the least bullish of the technical indicators (with the possible exception of price charts). These ratios are getting rather high on their charts, so they can be considered oversold, and from these high levels, it wouldn't take a whole lot to turn them over and being heading down. Still, we don't want to anticipate incorrectly, and thus they are still on sell signals.
The bottom line is that the market has rallied right up towards resistance. Breaking on through will probably be hard, but it is not impossible. Unless we see that breakthrough, though, we will remain bearish, in line with the chart patterns. Moreover, we would want to see buy signals from all the other indicators if indeed that breakthrough did occur. That would probably happen without much problem, though, since they are near or on buy signals as it is. So it really comes down to a matter of whether or not $SPX (and the others) will be repelled by this resistance or will overcome it. We don't think they will. In fact, if this rally fails, and prices fall to new lows again, there will be some follow-through selling, I'm sure. But we are setting stops for bearish positions just in case.
About Larry McMillan
