9-Day RSI And S&P 500
THE TODD MARKET TIMER
Prepared by Stephen Todd
Correction In A Bull Market
The important thing to remember at this point is that we deal in percentages and probabilities not certainties. The stock market can do anything and we have to be prepared, but if we play the percentages we will do fine over time. Like the old saying goes, “In the land of the blind, the one eyed man is king.” That's great you say, “So what are the percentages saying now?” Well, another thing to remember is that the type of waterfall decline seen on Friday was typical bull market action. Remember this. The stock market is a very fickle friend at best and an outright enemy at worst. Its job is not to make you money, but rather to get you out of a winning position, raise your blood pressure and cost you money and sleep.
Our best estimate is that we are near a tradable rally point. Note the chart of nine-day RSI. This is a longer-term version of five-day figure that we report on the nightly hotline and it is only the fourth time in the past year that it has been oversold. The other three times were immediately preceding a rather substantial uptrend.
9-Day RSI And S&P 500
Likewise, most other momentum indicators are also oversold.
Sentiment for the long-term remains positive. We discuss the short interest ratio and odd lot shorting, but we do wish that short-term sentiment as shown by the various put call ratios and the Consensus Survey of Traders would show a few more bears and make us feel better from a contrary opinion standpoint.
What is the reason behind the latest drop? Certainly the decline in bond prices and the subsequent increase in long-term rates played a part. We have also heard stories about the dollar's weakness, the Bundesbank's threat to raise rates, renewed inflation fears, and even a concern that the Fed would raise interest rates this time around.
Most of these cover stories like imminent Fed action are shear nonsense. Others, like the dollar's recent troubles are pretty unlikely. The greenback has been in a long-term downtrend since the end of World War II while the stock market has been in an uptrend. We can overlay the charts of the equities markets and that of the greenback and we defy anyone to give a compelling correlation.
The truth is the stock market, like a teenager, goes through fads. We can recall when everyone awaited the weekly money supply with baited breath. Before that it was the auto sales figures. Now no one even notices them. The latest fad is the dollar's action, but this too should pass.
In our humble opinion, the markets, both bond and stocks, simply needed a rest. Both have been in a protracted uptrend since April, but you won't hear this in the press. It simply does not make for a good cover story. I remember when the market was down a few years ago. The headlines blared that the drop was because “investors feared a recession.” The next day the market was up so I decided that investors no longer feared a recession.
One other point should be made concerning the current market environment. The last four days of last week showed a rising bond market and a falling stock market. That condition almost never lasts for very long. Either the bond market turns and follows the stock market or the reverse is true. Usually the latter. On Monday, just before going to press, we note that the bond market continued to rally and late in the day, the stock market appeared to join the party.
Bond Breadth Still Bullish
The last intermediate-term stock decline was correctly anticipated by the bond advance decline line, but it did not give much of a warning this time and that suggests that although it was scary, this decline will not be of the protracted variety that the March- April correction was. Time will tell. This is a fairly new indicator for us and as we have said before, it seems to have better predictive qualities for the stock market than the bond market. We were also fascinated that the 20 bond average has pretty much managed to maintain its uptrend while the bond futures have had a correction. Which one is right? Our bet this time is on the 20 bond average because short-term debt instruments like T-bills have not followed the bond futures market down. This suggests that the interest rate picture is not as grim as the headlines would have us believe. If that is true, then the stock market will catch on at some point.
Chart Commentary
Weekly Charts
Chart #1: As scary as the latest sell-off was, it doesn't look like much when measured against the entire bull market. Right now it appears to be just a pullback which we get unavoidably from time to time.
Chart #2: The bearish percentage hasn't increased by much during the recent slide, but then again, it really hasn't had time to. We should get some change in this indicator after the latest drop has had time be disseminate through the system.
Chart #3: Weekly breadth has barely reheated. Note the past two bear's markets (slanted lines). Breadth led the market down by a few months. In the most recent case, weekly breadth made an all-time high a week ago.
Chart #4: As seen on a more short-term chart, the decline is more noticeable, but nothing more than a standard pullback within an uptrend.
Chart #5: Already, the weekly advance decline ratio is nearing oversold levels. If it occurs, it should support a rally of intermediate- term proportions.
Chart #6: The Consensus survey of bullish traders, like the Investor's Intelligence figures shows too much bullishness, but again, the figures are a bit delayed and the decline came on too suddenly to be reflected in the latest figures.
Daily Charts
Chart #7: The daily chart looks a bit more serious as it has clearly broken an uptrend channel connecting the bottoms. When looked at in this time frame, the trend is now down until demonstrated otherwise.
Chart #8: The Near-Term Indicator's five- day moving average has not risen as rapidly as one would expect. This is because the sentiment component, meaning the put call ratio has not been in bullish territory. Indeed, this has been one of our worries.
Chart #9: The five-day m.a. of five-day RSI, on the other hand, is just peeking into the oversold threshold. It doesn't get oversold very often, but when it does, it usually means that a rally is not far off.
Chart #10: This chart does not demonstrate a lot of big block selling. On Friday, it actually showed more big blocks on an uptick than a downtick. I am not sure what to make of the latest readings. That happens from time to time.
Chart #11: The five-day moving average of the Supply Demand Gauge is back in buy territory so if it performs as well as it usually does, we will be near a rally of some sort.
Chart #12: The PSE net change five-day moving average, which measures the strength of the participation by the high tech stocks is clearly in an oversold condition. This should portend a trading bottom in the not too distant future.
Indicator Summary
The recent drop has moved most of our momentum indicators into an oversold condition. This means that a tradeable rally is probably not far off.
August 18, 1997Stephen Todd
The Todd Market Timer
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