Why Stocks are Crashing

The S&P 500 lost as much as 229 points or 10.92% in three days. The Nasdaq lost as much as 763 points or 16.77% over the same three days.

Wow. To be honest, I did not see that one coming, at least not as intense.

However, there were tell tale signs – a writing on the wall – that a big selloff is a real possibility. There was no reason for us to own stocks.

Here are three factors that caused (or certainly contributed) to this 3-day meltdown, and what they mean going forward:

‘Bad Breadth’

We have looked at the market’s internal deterioration (‘bad breadth’) many times in recent weeks (the last time was here).

The July 19 Profit Radar Report published this chart and warning (the S&P closed at 2,126 that day):

Although investors are buying, the surge in demand (appearance of buyers) has not been commensurate to the surge in price. The percentage of stocks above their 50-day SMA graph shows that investors are very selective right now. Only 41% of NYSE stocks are above their 50-day SMA, compared to 71% in April and 61% the last time the S&P was near 2,130 (late May). There’s a short-term bearish divergence, as the S&P 500 moved higher on Friday, but the percentage of stocks above their 50-day SMA lower.”

Mutual Fund Cash Levels

The August 2 Profit Radar Report looked at mutual fund cash levels and noted the following: “One of the bigger worries could be mutual fund cash levels, which just dropped to 3.2%, an all-time low. If a large number of investors decide to sell, fund managers will be forced to sell fund holdings, which has the potential to turn into a chain reaction.”

Elliott Wave Theory

Elliott Wave Theory. Some love it, others hate it. I’ve found that there are times where EWT is very helpful, if interpreted correctly.

The August 16 Profit Radar Report said this about the bearish potential of EWT:

A break below 2,052 may indicate a wave 3 lower.”

What is a wave 3? The third wave of an Elliott Wave pattern is always the most powerful one. It generally goes further than expected.

What’s Next?

Elliott Wave Theory may hold the most clues about what’s next for stocks. Based on the intensity of this selloff, it is likely to turn into a 5 wave decline with a more lasting low in October, similar to 2011. Here is how things looked and turned out in 2011.

Simon Maierhofer is the publisher of the Profit Radar Report. The Profit Radar Report presents complex market analysis (S&P 500, Dow Jones, gold, silver, euro and bonds) in an easy format. Technical analysis, sentiment indicators, seasonal patterns and common sense are all wrapped up into two or more easy-to-read weekly updates. All Profit Radar Report recommendations resulted in a 59.51% net gain in 2013 and 17.59% in 2014.

Follow Simon on Twitter @ iSPYETF or sign up for the FREE iSPYETF Newsletter to get actionable ETF trade ideas delivered for free.

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Deep Tissue S&P 500 Analysis

A rip current is a powerful, fast-moving flow of water running from the beach back to the open ocean. About 80% of lifeguard rescues are related to rip currents, and about 150 people are killed by rip currents every year (just in the US).

Lifeguards and experienced swimmers/surfers can detect rip currents, and know what to do, but they are invisible to novice swimmers.

The stock market is full of rip currents, that’s why some investors sink (often because they don’t think) and others swim.

Here are some of the cross currents lurking beneath the surface.

The chart below plots the S&P 500 against the percentage of NYSE and S&P 500 stocks below their 50-day SMA, and my favorite indicator (I call it ‘secret sauce’).

Secret Sauce Warning Signal

Secret sauce is an incredibly potent indicator, and is the most important ‘bull market health meter’ I’ve found.

Up until April 2015, secret sauce has been giving the ‘all clear’ signal, meaning that higher highs were still to come (it never triggered a ‘danger’ signal from 2009 – 2015). That’s not the case anymore.

In fact, currently secret sauce is showing the same warning signals it flashed before the 1987, 2000 and 2007 bear markets.

A detailed description of secret sauce and how it works is available here: The Missing Ingredient for a Major Bull Market Top

Rip Current Warning

The percentage of stocks above their 50-day SMA has been declining since 2012/2013, but the lag accelerated in April.

Large cap stocks are holding up much better than the rest of the market. How so?

48.8% of S&P 500 stocks are above their 50-day SMA, but only 33.5% of NYSE stocks. The NYSE Composite is comprised of some 3,500 issues, including (and predominantly) small and mid cap stocks. The S&P 500 consists of the 500 largest U.S. corporations.

A quick glance at the Russell 2000 chart, which just dropped to new lows, confirms the lagging performance of small caps.

Small cap underperformance is one of the 3 stages of a dying bull market (click here for the anatomy (3 stages) of a dying bull market).

Market breadth is warning that the stock market is trying to drag investors into open waters.

The percentage of stocks above their 50-day SMA is not yet at rock bottom levels, so there is more down side risk.

However, some investor sentiment measures are showing a high degree of pessimisms (which tends to be positive for stocks).

Bottom line, there is risk, but it seems to be somewhat limited, and will only be triggered by a drop below support (click here for key S&P 500 support).

I would love to see a correction. The deeper the correction, the better the buy signal for a final hurray rally.

If the S&P 500 doesn’t bounce soon, despite some excessively bearish sentiment readings, it could be a warning sign that a short-term break down is near.

Simon Maierhofer is the publisher of the Profit Radar Report. The Profit Radar Report presents complex market analysis (S&P 500, Dow Jones, gold, silver, euro and bonds) in an easy format. Technical analysis, sentiment indicators, seasonal patterns and common sense are all wrapped up into two or more easy-to-read weekly updates. All Profit Radar Report recommendations resulted in a 59.51% net gain in 2013 and 17.59% in 2014.

Follow Simon on Twitter @ iSPYETF or sign up for the FREE iSPYETF Newsletter to get actionable ETF trade ideas delivered for free.

 

At Lowest Level of 2015, Breadth Gauge Shows Interesting Twist

Bad breath stinks (literally), so does bad breadth.

The stock market’s had bad breadth since late April, and gains are wilting.

One breadth measure I’ve been watching is the percentage of (NYSE) stocks above their 50-day SMA.

The May 31 Profit Radar Report showed that the percentage of stocks above their 50-day SMA did not confirm the latest S&P 500 highs and warned that:

Negative divergences like this tend to draw stocks lower. This doesn’t have to happen immediately, but this particular divergence has lasted longer than any other in the last years, and is likely to turn into a drag eventually. “

The chart below shows when and how the market started to tire (red line).

Corrections don’t always happen immediately, but 6 of the last 8 corrections (since 2014) were preceded by such a divergence.

The % of stocks below their 50-day SMA has dropped to the lowest level of 2015, which makes for an interesting twist.

As the green lines show, when too many stocks drop below their 50-day SMA, the S&P 500 rallied every single time in 2015.

This cautions against turning too bearish. How stocks react around current levels may give an indication if we’re still in the ‘one step up, one step down’ market, or if a deeper correction will develop.

Simon Maierhofer is the publisher of the Profit Radar Report. The Profit Radar Report presents complex market analysis (S&P 500, Dow Jones, gold, silver, euro and bonds) in an easy format. Technical analysis, sentiment indicators, seasonal patterns and common sense are all wrapped up into two or more easy-to-read weekly updates. All Profit Radar Report recommendations resulted in a 59.51% net gain in 2013 and 17.59% in 2014.

Follow Simon on Twitter @ iSPYETF or sign up for the FREE iSPYETF Newsletter to get actionable ETF trade ideas delivered for free.

 

Under the Hood is more Strength than the S&P 500 Chart Shows

If you own stocks, this is a good new / bad news scenario.

On one hand, U.S. stocks are stronger than the S&P 500 (NYSEArca: SPY) chart suggests. On the other hand, stocks are (or were) overbought, at least based on this indicator.

Here are the details:

The percentage of NYSE stocks above their 50-day SMA nearly matched their previous highs last week, while the S&P 500 stayed below its prior highs.

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The potential implications are two-fold:

  1. The buying pressure behind the latest rally leg is actually stronger than the S&P 500 chart suggests.
  2. The % of NYSE stocks above their 50-day SMA reached an overbought reading. Prior such instances either saw stocks struggle to move higher or correct.

Based on technical analysis, investors should watch last weeks high – 2,111.91 for the S&P 500. Trade below allows for further weakness, trade above would translate into further up side (at least temporarily).

Simon Maierhofer is the publisher of the Profit Radar Report. The Profit Radar Report presents complex market analysis (S&P 500, Dow Jones, gold, silver, euro and bonds) in an easy format. Technical analysis, sentiment indicators, seasonal patterns and common sense are all wrapped up into two or more easy-to-read weekly updates. All Profit Radar Report recommendations resulted in a 59.51% net gain in 2013 and 17.59% in 2014.

Follow Simon on Twitter @ iSPYETF or sign up for the FREE iSPYETF Newsletter to get actionable ETF trade ideas delivered for free.

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S&P 500 Suffers from Lack of Participation

Friday was the first time since October 15 that the S&P 500 displayed a blatant lack of internal deterioration. The ensuing Friday/Monday slump quickly erased three weeks of up side progress.

Sunday’s Profit Radar Report featured the chart below along with the following warning:

On Friday the S&P 500 reached a new intraday and closing all-time high. The percentage of NYSE stocks above the 50-day SMA did not confirm Friday’s price high. That’s the biggest divergence between price and % of stocks > 50-day SMA since this rally started.

The success of this rally now rests on the shoulders of fewer companies. This doesn’t mean it has to end, but distributing weight on fewer shoulders generally accelerates the process of tiring.

Near-term support is around 2,040 – 2,030. I’m not yet sure if and how much lower the S&P 500 will drop, but the deeper the correction, the better the next buying opportunity.

It’s worth noting that the % of stocks above their 50-day SMA was the only indicator I follow that actually showed a small bullish divergence at the October 15 low. I’m not sure if this correction will be long enough to create a bullish divergence, but if it does, it shouldn’t be ignored.

For the first time this year, small cap stocks look actually more attractive than large cap stocks. The iShares Russell 2000 ETF (NYSEArca: IWM) has the potential for a bigger year-end pop compared to the SPDR S&P 500 ETF (NYSEArca: SPY).

Continued analysis and buy/sell signals for SPY and IWM will be available to subscribers of the Profit Radar Report.

Recent Profit Radar Report analysis for the Dow Jones is available here: Dow Jones Repelled by 12-year ‘Insider’ Resistance

Recent Profit Radar Report analysis for the Nasdaq-100 is available here: Nasdaq-100 ‘Stuck on an Island’

Simon Maierhofer is the publisher of the Profit Radar Report. The Profit Radar Report presents complex market analysis (S&P 500, Dow Jones, gold, silver, euro and bonds) in an easy format. Technical analysis, sentiment indicators, seasonal patterns and common sense are all wrapped up into two or more easy-to-read weekly updates. All Profit Radar Report recommendations resulted in a 59.51% net gain in 2013.

Follow Simon on Twitter @ iSPYETF to get actionable ETF trade ideas delivered for free.

3 Strike Wall Street Law – QE Bull Market Only One Strike away From Knock Out

We all know the ‘three strikes and you’re out’ rule. Historic data (based on the 1987, 2000 and 2007 tops) strongly suggests that every bull market also follows the three strikes rule. This bull is one strike away from being over and out.

“Dead man walking” is an expression used by prison guards as the condemned were led to their execution.  Is the stock market a ‘dead bull walking’?

I asked that question back in February right after completing my 2014 S&P 500 forecast.

At the time there was no sign of a major top yet, but since no bull market goes on forever, I published a 3-step quick guide on how to discern a dying bull market (or the formation of a major market top).

Based on historic data, a bull market dies in three stages:

3 Stages of A ‘Dying’ Bull Market

Psychological process: Finding value becomes a challenge and investors become pickier.
Technical manifestation: The number of stocks hitting new 52-week highs or the percentage of stocks above the 50-day SMA slides lower, while prices climb higher.

Psychological process: Finding value becomes more challenging and investors feel attracted to safer large cap stocks.
Technical manifestation: Small-and mid-cap stocks are lagging large cap stocks.

Psychological process: ‘Smart money’ is selling stocks to ‘dumb money.’
Technical manifestation: Selling pressure increases behind a façade of rising large cap indexes. Declining stocks outnumber advancing stocks.

Back in February the S&P 500 was in stage 1. It was basically graying around the temples, but still a safe distance away from the coffin.

How About Today?

Here’s the pulse of today’s market:

Value is harder to find  and investors are becoming pickier. On January 14, 2013, 89.54% of NYSE stocks traded above their 50-day SMA. Only 46.24% of NYSE stocks traded above the 50-day SMA at the most recent S&P 500 high on September 19.

Stage 1: Complete

Small cap stocks are under performing. The chart below plots the S&P 500 against the IWM:IWB ratio. IWB represents the iShares Russell 2000 (small cap) ETF. IWB represents the iShares Russell 1000 (large cap) ETF.

The ratio shows just how badly small caps lag behind large caps, but it also shows why this is only stage 2 of 3 of a dying bull market: Despite small cap weakness, the S&P 500 is still trading near its high.

Stage 2: Complete

Stage 3 – One Foot in the Coffin?

During the third and final stage, stocks move from strong hands (smart money) to weaker hands (‘dumb’ money).

This gradual shift takes many months and may still deliver sizeable gains and even blow off frenzies.

Nevertheless, the internal deterioration of stage 3 divergences are terminal.

Being familiar with the three stages of a dying bull market protects investors against turning bearish too soon. Premature bears leave money on the table and/or lose their pants going short.

My favorite ‘third stage indicator’ correctly foreshadowed the 1987, 2000 and 2007 bear markets. It also telegraphed that any correction since 2010 was to be followed by new bull market highs.

This indicator currently shows a fledgling multi-week divergence, which – if not reversed – may have put an expiration date on this bull market.

A detailed look at this historically accurate ‘third stage indicator’ is available here:

The Missing Ingredient for a Major Bull Market Top

Simon Maierhofer is the publisher of the Profit Radar Report. The Profit Radar Report presents complex market analysis (S&P 500, Dow Jones, gold, silver, euro and bonds) in an easy format. Technical analysis, sentiment indicators, seasonal patterns and common sense are all wrapped up into two or more easy-to-read weekly updates. All Profit Radar Report recommendations resulted in a 59.51% net gain in 2013.

Follow Simon on Twitter @ iSPYETF or sign up for the FREE iSPYETF Newsletter to get actionable ETF trade ideas delivered for free.

Number of Stocks Trading Below 50-day SMA drops to 2-year Low

The track record of the 50-day SMA as buy/sell trigger is questionable, but the track record of the % of stocks above the 50-day SMA is stellar. The featured chart shows the distinct character of the latest bull market leg, and what this week’s 2-year low means.

In terms of QE bull market corrections, there are two categories:

  • Pre 2013
  • Post 2013

Every correction since 2013 has been shallow, usually shedding no more than 5%.

Corrections in 2010, 2011 and 2012 were more complex, losing as much as 20%.

The chart below, which plots the S&P 500 against the percentage of NYSE stocks above the 50-day SMA, illustrates the difference between pre and post 2013 nicely.

Post 2013 corrections were swift, V-shaped affairs. Every time the % of NYSE stocks dropped to 25-30, the market bottomed. Easy. There was little else to it (see green circles).

The biggest 2010, 2011 and 2012 corrections were more complicated than just simple V-shapes.

One common pre 2013 feature was some sort of a double bottom. As the dashed green boxes highlight, each pre 2013 bottom occurred against a bullish 50-SMA divergence, where the S&P 500 (NYSEArca: SPY) made a new low, but the % of stocks below the 50-day SMA did not.

The Big Question

The big question is if the current correction will follow the pre or post 2013 pattern.

If it follows the pre 2013 pattern, there will be another leg down accompanied by a bullish 50-day SMA divergence.

If it follows the post 2013 pattern, the correction may already be over.

Even the pre 2013 patterns saw a bounce after the initial 50-day SMA low, so a bounce from current levels is likely.

The chart above doesn’t answer if this correction is already over, but two other indicators provide some clues.

Based on the VIX, this may turn into a more complex correction. More details here: Calm VIX Suggests Elevated Downside Risk for Stocks.

However, to trigger more downside, the Dow Jones needs to drop below this key support. More details here: Dow Jones Pulls Back after Completing Bearish Wedge.

A detailed forecast for October – based on investor sentiment, seasonality and technical analysis – is available to subscribers of the Profit Radar Report.

Simon Maierhofer is the publisher of the Profit Radar Report. The Profit Radar Report presents complex market analysis (S&P 500, Dow Jones, gold, silver, euro and bonds) in an easy format. Technical analysis, sentiment indicators, seasonal patterns and common sense are all wrapped up into two or more easy-to-read weekly updates. All Profit Radar Report recommendations resulted in a 59.51% net gain in 2013.

Follow Simon on Twitter @ iSPYETF or sign up for the FREE iSPYETF Newsletter to get actionable ETF trade ideas delivered for free.