This Summer could get Uglier, Here is Why the S&P 500's Yearly Highs may HoldJul 24, 2012
Chad Karnes, CMT
After an extreme second quarter that captured both this year's high price and low price, many investors are excited about the rest of the year's potential. But numerous warning signs are brewing that may make April's highs, the highs of the summer and potentially the year.
The past few months has been one of extremes. In the last four months the S&P (SNP: ^GSPC) saw its yearly high (1422 in early April) as well as its low (1266 in early June), moving over 10% from peak to trough. After a very bullish first quarter, the pullback of the last 4 months hasn't yet set in:
- “US Housing Market Has Not Just Bottomed, It is Rebounding.” – Investing Daily July 18, 2012
- “After Moody’s downgrades, time to buy the banks?” – Forbes, June 22, 2012
- “Stocks may have hit bottom. The S&P 500 will rise more than 8% from its current level to finish the year above 1430” – CNNMoney Investment Strategists survey, June, 12 2012
After capturing the bullish move at the beginning of June and a short at the top in late June and again in early July, the ETF Profit Strategy Newsletter is again seeing warning signs and is hesitant to jump on the bull bandwagon at this point.
On June 15 the ETF Profit Strategy Newsletter informed subscribers that, “A close above 1335 would do that (confirm the bullish move) and a move above 1340 would open the door to preliminary upside target of S&P 1360.” The following week, the 1360 target was met.
Today, there are reasons to be cautious on the bull side.
One of the tools that ETF Profit Strategy Newsletter uses to forecast the stock market is the analysis of other, larger markets. The Euro (NYSEArca: FXE) and Long Term Treasury market (ChicagoOptions: ^TYX) trump the stock market in size and thus can be used to help decipher what the stock market is trying to tell us. The stock market is essentially the much younger brother to currencies and bonds, and as such can be bullied by and often follows them.
On July 1 the ETF Profit Strategy Update recommended a short on the FXE (with stops just above $126). Because of the intermarket relationships and connection with the US Dollar (NYSEArca: UUP), the Euro selloff is expected to keep pressure on the S&P 500 and other US markets such as the Dow (NYSEArca: DDM) and Russell 2000 (NYSEArca: IWM).
The ETF Profit Strategy Update also recommended a continued long as well as the appropriate stop loss position on the long term bond market (NYSEArca: TLT). This also implies that downside pressure is expected to remain on the stock indices as bonds commonly move inversely to stocks. Until the Euro and long bond reverse, the S&P 500 will have trouble maintaining any major move up.
Sentiment / Seasonality
The June rally took away most of the bearish sentiment in the markets that the May decline created. Currently the percentage of bears (polled by Investor’s Intelligence) is at levels often seen nearer tops than nearer bottoms. Even though the market fell 10% in less than 3 months, the percentage of bears increased only marginally and is still well off the levels seen in the past. Sentiment for stocks is still high, which typically means there is more room to fall. If a new bull market was around the corner, we would expect a more bearish reading in sentiment.
The VIX (NYSEArca: VIXY) is one tool that measures fear and complacency in the markets. The July 8 and July 22 Profit Strategy Update explained what the VIX is telling us right now and why it could be a precursor to further downside. The chart below shows some of that analysis and why a new bull market is likely not right around the corner.
The ETF Profit Strategy Update outlines high probability trading setups by analyzing seasonality, sentiment, and market technicals. A few days each week the update provides trades that maximize profits while minimizing risks across multiple ETFs, key indices, and timeframes.