David Nichols de Hoje July 29, 2003
Enviado: 29/7/2003 16:40TUESDAY a.m.
July 29, 2003
Big Move Building
by David Nichols
Yesterday was one of the smallest range days in quite a while, with the SPX traveling in a miniscule 7 point range throughout the whole day. Such a contraction in range is a sign that the market is reaching a balance point, prior to the next explosive, chaotic move.
My daily fractal dimension indicator shows the market is indeed poised, congested, and ready for a big move. For those who are unfamiliar, the fractal dimension is a measurement of the linearity of a chart, expressing whether the movement is closer to a one-dimensional line (sending the indicator down towards a value of 1), or closer to a two-dimensional plane (sending the indicator up towards a value of 2). The indicator value shows the precise fractal dimension of the chart. So right now we can see that the fractal dimension of the daily SPX chart is 1.62.
Markets move from congestion to trend, and back to congestion. This is the constant rhythm of price movement. Since the trend ended right at the June 6th spike high, the market has been busy doing a "whole lot of nothing", while the market stores up enough juice to make another move. Well, now it's definitely ready to move.
The question is: which way?
By all rights, the move should be down. The sentiment picture is far-too-bullish, but it hasn't mattered yet, and the market keeps finding support. There is a precedent for this bullish stampede to continue, that being the incredible equity bubble of the late 90s. We all know how that ended, with the crowd getting wiped out. A wipeout from these levels of bullishness will happen again, for sure. For. Sure.
But it doesn't necessarily have to be right now. Liquidity-fueled manias can carry on for quite some time.
So even though, as a true contrarian, I'm certain the "money trade" is going to be to the downside as all these bulls surrender their positions, I've got to admit that the chart pattern right now has some obvious bullish characteristics. With all the stored up energy on the fractal dimension chart shown above, a move up from here could definitely trigger a sizeable breakout. It would be truly remarkable if it happened -- and I don't think it will -- but it's a possibility, so I'm pointing it out now.
There has been a lot of talk about head-and-shoulders topping patterns on the chart, but I've got to bring up an alternative scenario. The market could actually be building an inverse head-and-shoulders formation, which is bullish. It would be shocking, with the VIX under 20, for such an upside breakout to indeed come to fruition, but in the interest of full objectivity I want to bring up the possibility.
An upside break of this neckline would give a target to about 1070 on the SPX, according to this technical theory.
So the market is at a crucial juncture. We're soon going to see a resolution from this nearly 2-month congestion period. We'll have to be watching carefully and reacting appropriately over the coming trading days.
It would be extremely helpful for this bullish scenario if the VIX were to rise during any ascent toward the breakout level at SPX 1015. That would equate to skepticism and put buying, and give some needed fuel for a rise, so we'll be watching for that. Since we still have a half-position in the bearish Rydex Tempest Fund, we'll have to adjust if this scenario is unfolding.
However, if the market labors back up over SPX 1000 with the VIX plunging further into the teens, then that's a sign to go for short positions, as the market will be exhausting itself at lower levels, while creating more bullishness. That's a textbook, bear market go-short scenario, and I'll be looking to take that trade.
One more thing. Let's take a look at the monthly chart of the S&P 500. If you stop and think about this chart, it's just totally crazy. From January 1995 to March 2000, the SPX went from 450 to 1500. A bizarre artifact of this blow-off upside movement is that people think these kind of gains are the normal thing. They think the market "owes them" this kind of upside.
Another striking thing about this chart is that bullishness --as measured by sentiment surveys -- is hitting its peak levels right now . In other words, at no other point in this entire monthly chart have there been more bulls and fewer bears. I don't know about you, but that scares the heck out of me.
The sad truth is that blow-off bubble markets like this always revert back to the mean, and retrace the crazy gains made during the mania. Investors still face a long, hard road, as these insane excesses are worked off over time.
Sentiment Dashboard
by Adam Oliensis
SENTIMENT TANK: Remained unchanged at 0.3% full of negative sentiment. This "Unch" reading is a tad misleading, however, unless you understand that the level on the tank is normalized such that it gives us the PERCENTILE of the tank's current level relative to the prior year. The 0.3% reading means that ONE day in the prior year has shown an even lower reading. Monday's absolute reading was actually lower than was Friday's, but it did not displace the LOWEST reading of the prior year (June 20, '03 in this case). So, even though we have to call Monday "Unch" relative to Friday in relative terms, in absolute terms we actually had a slight INCREASE in complacency.
All of this last is splitting hairs. On balance sentiment in the options market is too sanguine for the market's own good.
SHORT-TERM: Hourly gauge is in a neutral configuration with a slightly bullish momentum bias.
MID-TERM: Progressed 1 point to 51% on the advance side of the dial from a neutral reading of 50/50. Our Confidence Diffusion Index is at a mere 1 (out of 7), which is a low reading says our confidence in the bullish momentum of sentiment is low.
LONG-TERM: Weekly momentum of sentiment flipped back over into an advance phase at 98% on the bullish side of the dial. Weekly CDI is also at a low level of 1. This advance phase is terrifically long in the tooth.
BOTTOM LINE:
Clearly sentiment is extremely bullish. Too bullish, I've been thinking. But I've been meaning to compare the current situation to the last time we engaged Iraq in a war and had a jobless recovery. So, here it is:
This chart overlays SPX price gains and the VIX from '91 and '03. Day 1, at left is the high spike in the VIX in '91 and in '03, in each case associated with the anxiety that preceded U.S. military action in and around Iraq. The yellow line charts the SPX percentage gains in '91. The magenta line charts the SPX percentage gain in '03. The red line charts the VIX in '91. The blue line charts the VIX in '03. The data from '91 extends for 164 days (I had to stop somewhere). So far the data in '03 only exists through 102 days.
In terms of both magnitude and duration the price trends track pretty stunningly, though the oscillations around the trend are not identical. The VIX likewise tracks neatly, though, again, not precisely.
In '91 the VIX dropped into the teens and lived there for quite some time, drifting down until it settled at levels BELOW 10 in the mid '90s. The VIX didn't begin to live above 20 again until '97.
Do I THINK that kind of behavior will assert itself now? I suspect not. Why? Because derivatives have assumed a much more central role in portfolio management than they enjoyed 10 years ago. Demand for options is higher. Also, given the incredibly quickened pace at which information is disseminated over electronic media now relative to a decade ago, markets tend to be more volatile. That should keep the VIX somewhat higher than it used to be as well.
But I did want to alert myself (and you) to the POSSIBILITY of a marked change in character in some of our sentiment indicators. There is precedent for a war and a jobless recovery kicking off a stealth bull market. The SPX appreciated by about 50% in the three years after the Gulf War. So, while there are plenty of reasons to be bearish, it's probably smart to remain aware of this bullish precedent.
The good news is that if the VIX and Put/Call Ratio enter into new long-cycle (or secular) phases during which both operate in notably lower ranges, the sentiment tank will normalize itself to the new ranges and should pick up on the new rhythm better and better as we go.
July 29, 2003
Big Move Building
by David Nichols
Yesterday was one of the smallest range days in quite a while, with the SPX traveling in a miniscule 7 point range throughout the whole day. Such a contraction in range is a sign that the market is reaching a balance point, prior to the next explosive, chaotic move.
My daily fractal dimension indicator shows the market is indeed poised, congested, and ready for a big move. For those who are unfamiliar, the fractal dimension is a measurement of the linearity of a chart, expressing whether the movement is closer to a one-dimensional line (sending the indicator down towards a value of 1), or closer to a two-dimensional plane (sending the indicator up towards a value of 2). The indicator value shows the precise fractal dimension of the chart. So right now we can see that the fractal dimension of the daily SPX chart is 1.62.
Markets move from congestion to trend, and back to congestion. This is the constant rhythm of price movement. Since the trend ended right at the June 6th spike high, the market has been busy doing a "whole lot of nothing", while the market stores up enough juice to make another move. Well, now it's definitely ready to move.
The question is: which way?
By all rights, the move should be down. The sentiment picture is far-too-bullish, but it hasn't mattered yet, and the market keeps finding support. There is a precedent for this bullish stampede to continue, that being the incredible equity bubble of the late 90s. We all know how that ended, with the crowd getting wiped out. A wipeout from these levels of bullishness will happen again, for sure. For. Sure.
But it doesn't necessarily have to be right now. Liquidity-fueled manias can carry on for quite some time.
So even though, as a true contrarian, I'm certain the "money trade" is going to be to the downside as all these bulls surrender their positions, I've got to admit that the chart pattern right now has some obvious bullish characteristics. With all the stored up energy on the fractal dimension chart shown above, a move up from here could definitely trigger a sizeable breakout. It would be truly remarkable if it happened -- and I don't think it will -- but it's a possibility, so I'm pointing it out now.
There has been a lot of talk about head-and-shoulders topping patterns on the chart, but I've got to bring up an alternative scenario. The market could actually be building an inverse head-and-shoulders formation, which is bullish. It would be shocking, with the VIX under 20, for such an upside breakout to indeed come to fruition, but in the interest of full objectivity I want to bring up the possibility.
An upside break of this neckline would give a target to about 1070 on the SPX, according to this technical theory.
So the market is at a crucial juncture. We're soon going to see a resolution from this nearly 2-month congestion period. We'll have to be watching carefully and reacting appropriately over the coming trading days.
It would be extremely helpful for this bullish scenario if the VIX were to rise during any ascent toward the breakout level at SPX 1015. That would equate to skepticism and put buying, and give some needed fuel for a rise, so we'll be watching for that. Since we still have a half-position in the bearish Rydex Tempest Fund, we'll have to adjust if this scenario is unfolding.
However, if the market labors back up over SPX 1000 with the VIX plunging further into the teens, then that's a sign to go for short positions, as the market will be exhausting itself at lower levels, while creating more bullishness. That's a textbook, bear market go-short scenario, and I'll be looking to take that trade.
One more thing. Let's take a look at the monthly chart of the S&P 500. If you stop and think about this chart, it's just totally crazy. From January 1995 to March 2000, the SPX went from 450 to 1500. A bizarre artifact of this blow-off upside movement is that people think these kind of gains are the normal thing. They think the market "owes them" this kind of upside.
Another striking thing about this chart is that bullishness --as measured by sentiment surveys -- is hitting its peak levels right now . In other words, at no other point in this entire monthly chart have there been more bulls and fewer bears. I don't know about you, but that scares the heck out of me.
The sad truth is that blow-off bubble markets like this always revert back to the mean, and retrace the crazy gains made during the mania. Investors still face a long, hard road, as these insane excesses are worked off over time.
Sentiment Dashboard
by Adam Oliensis
SENTIMENT TANK: Remained unchanged at 0.3% full of negative sentiment. This "Unch" reading is a tad misleading, however, unless you understand that the level on the tank is normalized such that it gives us the PERCENTILE of the tank's current level relative to the prior year. The 0.3% reading means that ONE day in the prior year has shown an even lower reading. Monday's absolute reading was actually lower than was Friday's, but it did not displace the LOWEST reading of the prior year (June 20, '03 in this case). So, even though we have to call Monday "Unch" relative to Friday in relative terms, in absolute terms we actually had a slight INCREASE in complacency.
All of this last is splitting hairs. On balance sentiment in the options market is too sanguine for the market's own good.
SHORT-TERM: Hourly gauge is in a neutral configuration with a slightly bullish momentum bias.
MID-TERM: Progressed 1 point to 51% on the advance side of the dial from a neutral reading of 50/50. Our Confidence Diffusion Index is at a mere 1 (out of 7), which is a low reading says our confidence in the bullish momentum of sentiment is low.
LONG-TERM: Weekly momentum of sentiment flipped back over into an advance phase at 98% on the bullish side of the dial. Weekly CDI is also at a low level of 1. This advance phase is terrifically long in the tooth.
BOTTOM LINE:
Clearly sentiment is extremely bullish. Too bullish, I've been thinking. But I've been meaning to compare the current situation to the last time we engaged Iraq in a war and had a jobless recovery. So, here it is:
This chart overlays SPX price gains and the VIX from '91 and '03. Day 1, at left is the high spike in the VIX in '91 and in '03, in each case associated with the anxiety that preceded U.S. military action in and around Iraq. The yellow line charts the SPX percentage gains in '91. The magenta line charts the SPX percentage gain in '03. The red line charts the VIX in '91. The blue line charts the VIX in '03. The data from '91 extends for 164 days (I had to stop somewhere). So far the data in '03 only exists through 102 days.
In terms of both magnitude and duration the price trends track pretty stunningly, though the oscillations around the trend are not identical. The VIX likewise tracks neatly, though, again, not precisely.
In '91 the VIX dropped into the teens and lived there for quite some time, drifting down until it settled at levels BELOW 10 in the mid '90s. The VIX didn't begin to live above 20 again until '97.
Do I THINK that kind of behavior will assert itself now? I suspect not. Why? Because derivatives have assumed a much more central role in portfolio management than they enjoyed 10 years ago. Demand for options is higher. Also, given the incredibly quickened pace at which information is disseminated over electronic media now relative to a decade ago, markets tend to be more volatile. That should keep the VIX somewhat higher than it used to be as well.
But I did want to alert myself (and you) to the POSSIBILITY of a marked change in character in some of our sentiment indicators. There is precedent for a war and a jobless recovery kicking off a stealth bull market. The SPX appreciated by about 50% in the three years after the Gulf War. So, while there are plenty of reasons to be bearish, it's probably smart to remain aware of this bullish precedent.
The good news is that if the VIX and Put/Call Ratio enter into new long-cycle (or secular) phases during which both operate in notably lower ranges, the sentiment tank will normalize itself to the new ranges and should pick up on the new rhythm better and better as we go.