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Markets 'Know'

The majority of stocks made their highs in mid-January -- well before most had even heard of the coronavirus. Here's what that tells us.

The Market

I am going to begin with a bit of a Public Service Announcement today regard Covid-19. It will likely get much worse before it gets better here in the U.S. That doesn’t mean we have to panic, but it does likely mean there is still the public panic – beyond stocking up on essentials we’ve already seen – still out there. Take care of yourselves and your families. Wash your hands; become obsessive about it.

How does this relate to the market? The majority of stocks made their highs in mid- January. That was well before most had even heard of the virus. So the market “knew.” Even those stocks that fell back in late January and re-rallied into early February did not make higher highs or barely made higher highs, like the PHLX Semiconductor Sector (SOX:Nasdaq) for example.

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Markets anticipate, then they react and that cycle continues, over and over again. The market will anticipate the end of this; by that I mean at some point it will price in the worst case scenario.

I covered the short-term situation late last week. where I laid out that I think we are oversold enough to rally this week. The Daily Sentiment Indicator (DSI) for Nasdaq and the S&P got to 8. There is nothing that guarantees a rally. Sure, these can easily go lower and an oversold market can get more oversold, but I think this is the week we see the rubber band has gotten too stretched and we snap back.

But when it comes to the intermediate term, I do not think we are there yet. For example, the Hi-Lo Indicator is now at 8%, which is oversold. But take a look at how it tends to work: It double taps, meaning it goes up and comes back down. Sometimes, it doesn’t, but more often than not it does, especially when we’ve had this sort of decline.

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The Volume Indicator is now at 43%. It got to 41% in December 2018 and 39% --twice — in 2015 to 2016. But I want to focus your attention on the 2007 to 2008 period. It’s hard to tell now, but there were five such readings in that two-year period. Each one led to a rally that actually lasted several weeks or months. But notice that despite how awful that massive bear market was, the indicator still never got under the upper 30s. If I take this back to the 2000 to 2002 bear market, you’d see the same thing. It is my opinion that this is likely to go lower before it gets extreme and is likely to “double tap.”

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The Citi Panic/Euphoria Model seems to have confounded so many, because it has only just now dipped back under Euphoria. You might recall how I was so surprised in December and early January that it was not into Euphoria, and yet if you take a look you will see that it finally tagged Euphoria right around the time the market peaked. In other words, look how long it took to get there from Panic in late August/early September.

Some indicators do not react as fast, their inputs are slow moving. This is one of them. But stop and consider that last week the Investor’s Intelligence bulls were still more than twice the bears at 41% bulls to 20% bears. I expect that to change this week and the bears should fall into the 30s (they were 29% at the December 2018 low). Consider that the American Association of Individual Investors (AAII) saw bulls rise 8 points last week. If there was Panic in the market these two surveys would be much more extreme than they are.

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Recall I harped away about the 10-day moving average of the equity put/call ratio almost the entire month of January when it dipped to the lowest reading since April 2010. It has come a long way toward showing too much fear in the market, but note that it is not even at the August reading yet.

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But it is the 30-day moving average that you should look at for the intermediate term. Here, too, we saw the lowest readings since April 2010 in January. It has gone up quite a bit since then but does it show any sort of panic? When an intermediate term indicator comes from such a low reading it will not get to “panic” quickly.

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For those noting that CNN’s Fear and Greed is at 6, yes it is. Just like the DSI is at 8. Now take a look at a longer-term chart of Fear and Greed and look how many times it “double tapped” such low numbers during the Volatility blow up in early 2018 and the fourth quarter of 2018. Also note that it showed Extreme Greed the first week of January, which was well over a month before the actual high in the markets.

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In sum, we should get a short-term rally this week. And then we should come back down again.

New Ideas

At some point the airlines will be a buy. Let’s face it, we will start flying again. Delta Airlines (DAL) - Get Free Report was a favorite of mine late last year and it had a pretty good run, but was one of those stocks that peaked in mid-January and has since collapsed. That top measures to the $42-$43 area. There is nothing that says it has to stop there, but what if it starts to see the selling dry up here and form a small bottom? It certainly is something we should watch for.

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Bonds have gone parabolic and done more than I thought they could. The DSI is now 98. I have never seen it get to 100, but that’s possible I suppose. What to watch for now is if iShares Barclays 20-plus Year Treasury Bond (TLT:Nasdaq) should gap down from this move on Friday since that would leave an island overhead.

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Today’s Indicator

The Hi-Lo Indicator is discussed above.

Q&A/Reader’s Feedback

We’re going to learn a lot about islands in this market, because we see them all over the place. Expedia (EXPE:Nasdaq) had one in mid-February. If this is to turn into a bottom then EXPE should rally back over $95 and do so in a hurry. If it can only rally to $95 before turning lower, then there would still be a much lower target ahead. So consider a rally to that $95 area what to watch for.

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A waterfall decline such as Spirit AeroSystems (SPR) - Get Free Report hashad makes it hard to catch a falling knife. Here, if it is to make an attempt at a bottom, it will need to first rally over $50 and then it needs to fill the gap at $56. The rally off this downtrend channel would see the first test at filling the gap near $50.

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NVIDIA (NVDA:Nasdaq) has an island overhead. The textbook says that means unless that gap at $290 is filled the stock should eventually break down under the uptrend line. I thought the stock had gone too far when it got to $240-$250, so it clearly exceeded my expectations. While the island overhead looms as a bearish pattern as long as the stock doesn’t break that uptrend line the longer-term chart is intact.

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