That is the second most common question our office has been fielding this past week. The most common question is, “How are we doing with the stock market being how it is? Are we okay?”
If you’re curious as to what I’ve been doing with our portfolios, you can Click Here to check out last week’s market commentary, titled “A Different Kind of Crash,” in which I gave away more investment and portfolio details than I usually do, as it pertains to what we’re invested in – and when things changed this past few months.
After economic data disappointed in China (again) overnight, Dow futures closed down -379 points this morning. As of this writing, the Dow is down right around -365 points and the S&P500 is down -42. Since many of my charts below were annotated last night and before the open today, here is a quick snap shot of the S&P500 this morning at 10:20am.
…back to the question at hand. So is now a good time to buy? I say no – but we could be getting close, and I’ll explain why.
While domestic equities continue to sit at the very top of our asset class ranking, the strength and momentum relationship between U.S. stocks and cash (money market) began to change over this past several weeks. In short, “cash” ultimately began winning the metaphorical arm wrestling match, signaling further weakness in the stock market. So if you own anything at all in your portfolio, the domestic stock market is still the place to be as opposed to bonds, international stocks, currencies or commodities. However, what I’m seeing is the entire tide heading out to the ocean – and as the tide goes out (i.e. – all of the asset classes), it’s taking U.S. stocks along with it, regardless of its #1 ranking.
In fact, when looking at over 130 different sectors, investment categories, and industry groups, we find that the most improved momentum belongs to defensive asset classes, as shown below. These defensive positions include Inverse Market (shorting the market), municipal bonds, government bonds, and money market. On the other hand (on the right), you can see that the biggest losers this past few months have been names such as basic materials, industrials, and international (specifically China and India).
The Point & Figure (PnF) chart below measures the percentage of stocks exhibiting “higher highs.” You’ll see that the total percentage of those stocks (on a buy signal) on the New York Stock Exchange (NYSE) has now fallen to 24%. This means that only 24% of stocks on the NYSE are exhibiting “higher highs,” or said another way, 76% of stocks are exhibiting “lower lows.” This trend has accelerated over the last few months (beginning in May) and we still have yet to hit the lows achieved during the fall months following the U.S. Treasury downgrade in 2011. Time will tell whether we hit those levels or if this metric will instead reverse up, indicating that we need to take a more offensive approach as opposed to the defensive one we’ve been implementing since earlier this summer.
Similar to the chart above, the next chart tells us the percentage of all stock mutual funds that are currently on a buy signal (higher high). The story isn’t all that different here – we’re just seeing more exhausted levels is all. As of last night (August 31st), only 6% of all equity mutual funds are on a short-term buy signal, and since this is another shorter term indicator, it is one that I’ll be paying very close attention to as I build my shopping list and determine when it makes sense to start buying again.
Another indicator I pay very close attention to is called a Percentage Trend chart. Also a PnF chart (which eliminates “time noise,” meaning you only see price movement in the absence of time), this one measures the percentage of stocks on the NYSE that are currently trading in a positive trend.
The “danger zone” (as noted below) resides below the 50% level – meaning that less than 50% of stocks on the NYSE are trading in a positive trend. We saw this chart cross below the 50% mark before Gray Monday (the name being given to the -1,000 point drop in the Dow on Monday, August 24th) prior to the flash crash last Monday, which indicated the need to take further defensive action. As you can clearly see, it has continued to weaken through the month of August and time will tell whether this trend will continue. We have to be patient and wait for a bottoming process – and eventual reversal to take place – prior to being aggressively offensive with our portfolios.
The last short-term indicator I’ll show you is one I mentioned last week. It’s called a “High/Low” chart (or HI/LO for short). This chart takes the total number of 52-week highs on the NYSE and divides it by the total number of both the 52-week highs and 52-week lows. The resulting number is then plotted on a PnF chart, giving us a nice trend we can follow.
The NYSE HI/LO chart has been exhibiting lower highs, just like the NYSE Bullish Percent chart you saw above. Furthermore, we have seen it drop to a number not seen since the 2011 U.S. Treasury downgrade. As the stock market continues to find its footing, this is one of the many indicators I’ll use when determining when to start entering back into the market.
We had a big event last Friday night in downtown Columbus and at the conclusion of the presentation, I had a client come up to me afterwards with a couple great questions about the oversold nature of the markets right now. His question was (and I paraphrase), “If we’re so oversold right now, shouldn’t now be a good time to get into the market?”
What he was referring to was a “bell curve” of sorts that I follow. Below is the Overbought/Oversold status of all S&P500 Index Funds. When it’s “overbought,” it means that the market has hit extreme levels on the high end, which also means that risk levels are high for a pull-back. When it’s “oversold,” it means that the investment in question (in this case, the S&P500) has hit extreme levels to the downside, signaling a high probability that the market will revert back to the mean – or “bounce back.”
There have only been three times in the past eight years when the market has reached the point of being -150% oversold. This happened briefly last year, during the quick, 45-day “mini-correction,” and also in 2011 during the U.S. Treasury downgrade. During The Great Recession in 2008, the S&P500 actually reached oversold levels of roughly -225%. Today, we’re closing in on being -150% oversold, but it’s not quite time throw all your money into the stock market, in my opinion. Not yet, anyway…
Why “not yet?” Another few charts I showed this gentleman follow. The first is what the NYSE looked like back in 2008 during the stock market crash. At that time, we saw the market stagger and struggle to make new highs before trending lower. Then, we saw the 50-day moving average (in blue) cross below the 200-day moving average (in red), signaling a “death cross,” and lower future market prices. From top to bottom, early 2008 handed us a -17.7% loss.
…but the market wasn’t done yet. After falling -17.7%, it recovered only a fraction of its losses before delivering the final blow, printing a final loss on the NSYE of roughly -60%:
The next chart you’ll see below is what the NYSE looked like in 2011 during the U.S. Treasury downgrade. You can see the same kind of break-down through summer, then a “death cross,” further downside, and an eventual recovery…
Now, let’s compare the above two charts to what we’re observing in the market today. We’ve seen the market struggle and pinball around since the beginning of summer. The NYSE experienced a “death cross” at the turn of the month in August and we’re officially in a correction.
Where the market goes from here is anyone’s guess. Bullish Percent, Percentage Trend, and HI/LO charts (among many, many others) can remain at low levels and/or oversold for some time before reversing up. Just because the market fell in such a broad and abrupt manner does not mean that it has to immediately return to its prior value. With the exception of super specific, laser focused buying decisions, any broad-based attempt to deploy cash into the markets at this time would be no more than “guessing and hoping” that the market will go up from here, especially considering the vast number of negative trend indicators we face today.
Many of the indicators I follow have reversed into negative territory over the course of the last couple months and we’re in a negative trend until we’re not. As Isaac Newton once said, an object in motion will continue in motion until acted upon by an opposing force. I’m simply waiting until I observe enough indication that we have enough of an opposing force to justify a reversal in the market.
Until then, all we know is this. One of three things are going to happen over the course of the following months:
Whether these trends reverse tomorrow or in a month from now, until then, I will continue maintaining our heavy 80-100% cash position we’ve accumulated over the last couple months.
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Till next time,
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Disclosures: All index returns are rounded to the nearest tenth percent. All data above sourced via Yahoo! Finance. The proxy used for international investments is the ACWX (all country world index ex-US). The proxy used for commodities is the DBC (PowerShares commodities index). Past performance is no guarantee of future results. Indices are unmanaged and cannot be invested into directly.
The opinions mentioned in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. Past performance is not guarantee of future results. Economic forecasts set forth may not develop as predicted. The views and opinions expressed in this commentary are those of Adam Koos and do not necessarily represent the views of TD Ameritrade and its affiliates. Investing involves risk including loss of principal.Categories: Adam Koos, CFP®, CMT®, Market Commentary