Tuesday, February 04, 2014

Interesting Stock Market Charts

As many of you have noticed, elevated bullish sentiment and overbought levels reached extremes in November and December of 2013. Eventually, by years end on the 31st of December, the stock market rally peaked out. For the whole of January and the beginning of February stock markets around the world have been correcting. Here are 10 interesting charts I am looking at right now:
Chart 1: Despite optimism, the Dow has made no progress in 8 months!
Dow Jones Source: FinViz (edited by Short Side of Long)
Interestingly enough despite such positive news about the economy, earnings and the stock rally momentum; Dow Jones Industrial is now higher than where it was in May 2013 – believe it or not, more then eight months of no progress whatsoever. If you have carefully read this monthsSentiment Summary, you would have noticed that retail investors have been piling into stocks, via mutual fund flows, over the last 6 to 9 months.
Majority of retail investors usually buy blue chip stocks, like the Dow 30 components, which essentially means that these “Johnny Come Lately’s” have most likely not made any money over the last several quarters.
And since we are talking about the Dow, another observation I would like to make is that the index closed below its 200 day moving average for the first time in over a year, while breaking its December support (as seen in the chart above).
Chart 2: Five out of nine major stock market sectors have broken down
Stock Market Sectors Source: StockCharts (edited by Short Side of Long)
The chart above shows us the internal picture of nine major S&P 500 sectors which include cyclical sectors like Discretionary, Technology, Financials, Industrials, Materials and Energy; together with defensive sectors like Staples, health Care and Utilities (Telecom not included).
First observation I would like to make is that four out of six economically sensitive cyclical sectors have broken down below their long term uptrend lines. These include Distortionary (which lead the overall stock market rally from the beginning), Financials, Materials and Energy. The Industrial sector is now right on support, so any further selling could see it join the party.
Secondly, the  darling favourite blue chip companies (Consumer Staples) have posted a major false breakout on the upside, with a powerful reversal in the opposite direction – not a good sign. Simultaneously defensive sectors like Utilities are breaking out on the upside, signalling risk aversion.
Chart 3: Stock market breadth has started to deteriorate rapidly…
S&P 500 Stocks Above 200 MA Source: Short Side of Long
The rally in the stock market has been deteriorating ever since Mr Bernanke (we really gonna miss you Ben) announced Federal Reserves plans to taper their QE program all the way back in May 2013. We have seen fewer and fewer stocks trade above their respective 200 day moving averages over the course of the last 6 months. Now, we have a condition where more than one third of the S&P 500 is trading below 200 MA.
I know what you’re thinking, and yes I agree… the bearish divergence went on for awhile, didn’t it? Financial markets don’t care about warning signs, until they have to care. And when they do, at times, we can see the whole 6 month rally wiped out in the matter of weeks. This is why they say that markets overshoot on both he upside and the downside. Last three divergences during the current bull market (leading into April 2010 / May 2011 / April 2012), pretty much gave back majority of the gains that occurred the 6 months that proceeded the correction.
Chart 4: Yes, markets can go down even when CBs endlessly print!
Nikkei Correction Source: FinViz (edited by Short Side of Long)
In the first chart, I described how the Dow Jones Industrial has made no progress over the last 8 months. Even more interesting is the fact that Nikkei 225 has now made no progress in 9 months, despite the fact that BoJ isn’t even remotely close to discussing the taper for their own QE program.
The chart above shows how Nikkei 225 staged a false breakout, also known as a 2B pattern, in late December 2013. I actually warned about this setup back in middle of January, just as the sell off was beginning. Usually but not always, when a market does a false break in one direction, there is a violent move in the opposite direction. This is exactly what happened to the Japanese stock market, as it has lost over 2,000 points in one month and is now down 14% from the recent peak.
Chart 5: Emerging Markets peaked in October and have lead the sell off!
Emerging Market Sentiment Source: Short Side of Long
Recent turmoil in the Emerging Markets should not be anything new to investors who closely track the market behaviour. Emerging Market equities (chart above), bonds and currencies have peaked years ago; and have been struggling for awhile already. Emerging Market Index actually peaked in October 2013, well ahead of Developed Markets, and has lead the decline on the downside.
Even though the index has once again reached a well established technical support, this time around, investor sentiment still remains elevated and nowhere near panic territory. Could we bounce from here? Possibly. Will the index eventually break lower? Probably. Keep a close eye on this one, as it continues to form a pattern of lower highs and equal lows.
With market conditions are changing, as volatility across the globe starts rising. This could be a signal that the sell off is now entering a more intense phase. Last weeks breakout in the VIX Index, was  a leading indicator of this weeks breakdown in the S&P 500.
Chart 6: Retail investors aren’t bothered as cash levels remain super low
Retail Cash Allocations Source: Short Side of Long
Recent sell off which started in early parts of January, has not phased the real investor community in the latest February report. A monthly survey conducted by American Association of Individual Investors showed respondents stating that their cash levels remained extremely low, at only 17%. This is one of the lowest readings in over a decade, especially when averaged over a three month (or one quarter) period.
When we compare the current reading with the ones during stages of panic, whether it was early parts of 2009 (cash levels reached 45%) or late parts of 2011 (cash levels reached 26%), we can see that retail investors are remaining foolishly complacent. After all this is a great contrary indicator, where cash piles usually rise rapidly just before a major stock market trough.
Chart 7: Stock market has only been more expensive a handful of times!
Real S&P vs CAPE5 Source: imarketsignals.com
The stock market is overvalued according to various valuation models. One of my favourite is theCAPE10, which is Price to Earnings ratio averaged over 10 years. At the current reading of 25, CAPE10 is in the 91st percentile of the overall data saying back 140 years. In plain English, the US stock market has only been more expensive 9% of the time.
It is also just as smart to look at the CAPE5 (seen in the chart above), as most of the time business cycle last between 5 to 7 years. The chart also illustrates very well how the current level of 26, has only been witnessed on few occasions before. These include: 1929, 1936-37, 1996-01 and 2004-07.
What do we make from these dates? Well firstly, all of them were at or near a major stock market bubble, which eventually crashed by 50% or more. So if history is a guide, something similar awaits us again. The only question is… does it start from the current level or do we take a noise dive from a higher diving platform?

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Lunch is for wimps

Lunch is for wimps
It's not a question of enough, pal. It's a zero sum game, somebody wins, somebody loses. Money itself isn't lost or made, it's simply transferred from one perception to another.