(T2108 measures the percentage of stocks trading above their respective 40-day moving averages [DMAs]. To learn more about it, see my T2108 Resource Page. You can follow real-time T2108 commentary on twitter using the #T2108 hashtag. T2108-related trades and other trades are posted on twitter using the #120trade hashtag)
T2108 Status: 74.9% (third day of fifth overbought period since June 29)
VIX Status: 13.5
General (Short-term) Trading Call: Hold.
Reference Charts (click for view of last 6 months from Stockcharts.com):
S&P 500 or SPY
SDS (ProShares UltraShort S&P500)
U.S. Dollar Index (volatility index)
VIX (volatility index)
VXX (iPath S&P 500 VIX Short-Term Futures ETN)
EWG (iShares MSCI Germany Index Fund)
CAT (Caterpillar)
Commentary
“There will be time to put on risk, just not yet” – Mohamed El-Erian, chief executive officer and co-chief investment officer of Pacific Investment Management Co speaking in response to a horrible U.S. jobs report on June 1, 2012.
-2.5% – the magnitude of the S&P 500’s one-day drop on June 1, 2012
+11.0% – the magnitude of the S&P 500’s GAIN since June 1, 2012
18.6% – T2108 on June 1, 2012 – first day of the last oversold period the market has seen (lasted 3 days)
My how the “fundamentals” can play tricks on us. In the video below, El-Erian gives a perfectly rational response to a poor U.S. jobs number. He spent almost 10 minutes rattling off a litany of negatives and headwinds for the global economy which he described as stuck in a “synchronized slowdown.” Yet, as I mentioned in the T2108 update for June 1st (amidst my usual caution of course): “So why bother building longs in this oversold period? Well, first and foremost, I think bears will overplay their hand, get too aggressive, and sew the seeds of sharp counter-trend rallies…” I am not sure whether I would have been so bold if I had stumbled upon El-Erian’s interview in the heat of the moment, but T2108 works best to subdue the tendency to over-react to market extremes.
June 1st also happened to be the last day I could have dumped my long-standing SDS shares for near breakeven. Instead, I decided to keep them as a hedge while I played SSO calls aggressively. In retrospect, I wish I had just treated them like any other short during an oversold period – roadkill. Now, almost three months later, I exchanged my SDS shares during the market’s fifth overbought period since June 29th for shares in Active Bear ETF (HDGE). This move officially places this position as a real hedge given HDGE should perform much better than SDS which tends to decline over time. See “Hedge with HDGE for the Long-Term, SDS for the Short-Term” for my comparison of the two hedges. I can now re-focus the T2108 portfolio on strict execution of the rules.
T2108 trickled upward to 74.9% as the S&P 500 increased by a mere 3 points to tease us with a close just under the 2012 and 4-year high. As I mentioned in the last T2108 Update, I am not switching to the aggressive buy the dip strategy for extended overbought periods until the S&P 500 provides confirmation that it remains in a sustained bullish mood. This will first require a close to new multi-year highs and then a second, higher close. Note that Apple (AAPL) did not disappoint as it soared to fresh all-time highs on Friday in another burst of relative strength.
The volatility index, the VIX, fell sharply to its lowest close in five years. This pre-dates the recession and suggests that all is fine on the frontlines. These levels seem far too complacent to me, especially if nothing has really changed in the outlook for the global economy since the June 1st gloom and doom. So I am perfectly happy to continue holding VXX shares. My strategy of selling calls and buying puts against this position is so far working relatively well to keep those shares in play. I will be looking to establish a fresh round of options coverage this week. Recall that I long ago removed VXX plays from the T2108 portfolio after the disaster earlier this year. I only bring up the topic because the latest round of short calls expired on Friday.
While I await confirmation of a new bull run, I am definitely struck by how quickly the market has yet again swung from deep pessimism to deep complacency. These cycles are great for contrary T2108 trading, but I cannot help but wonder about the message the market sends to us in these swings. Is it truly, fundamentally insane and/or bi-polar?
I end with a chart I discovered from listening to American Public Media’s Marketplace last Thursday.
This graph basically says we should expect a tremendous drop in GDP this quarter. I am not sure what will cause this drop but it will have to be something sharp and sudden and catastrophic approaching 2008-like proportions. While I am not even going to try to guess what that might be, you can bet if such a thing happens I will be ready with T2108 to determine how and when to buy. I also hope to get some time looking more deeply into the relationship between trash output and economic output. Particularly, is this apparent correlation a widely accepted economic fact or, like so many other things in economics, are there an equal number of people who can punch bigholes in the logic and construction of this graph?
For reference, the pre-election trade with an incumbent president suggests a maximum drawdown of 5% from July 31st before ending the three months going into the election in positive territory. Such a drawdown takes the S&P 500 to 1310. I am NOT betting these levels will get hit anytime soon, but I am awaiting confirmation that they might. Stay tuned. This tug of bears and bulls may not get truly resolved until after Labor Day.
Daily T2108 vs the S&P 500
Click chart for extended view with S&P 500 fully scaled vertically (updated at least once a week)
Black line: T2108 (measured on the right); Green line: S&P 500 (for comparative purposes)
Weekly T2108
*All charts created using freestockcharts.com unless otherwise stated
Related links:
The T2108 Resource Page
Expanded daily chart of T2108 versus the S&P 500
Expanded weekly chart of T2108
Be careful out there!
Full disclosure: long VXX shares, long HDGE, AAPL calls