Written by Jim Welsh
Macro Tides Weekly Technical Review 07 October 2019
On October 3, 2018 the S&P 500 traded up to 2940, and a year later on October 7 closed at 2939. This flat performance is despite of the Federal Reserve doing a 180 degree turn from projecting rate increases for 2019 to cutting the funds rate twice.
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The FOMC is expected to lower the funds rate again at the October 30 meeting as projected by the Fed Funds Futures. The U.S. economy has slowed but is still growing near 2.0%.
Earnings growth has slowed appreciably in the past year but is expected to accelerate by 10% in 2020. Despite this good news the S&P 500 has been unable to make any progress.
Click on any chart below for large image.
On balance investors think a trade deal will be achieved, with the only question being whether it is a big comprehensive agreement or a small compromise. With President Trump now facing impeachment the thinking is he will settle for a small triumph just to deflect the current narrative and provide a victory for his reelection stump speeches.
I haven’t thought the Chinese would agree to fundamentally change the way they have been doing business since joining the WTO in 2001. The Chinese have a set a goal to be the dominant global power by 2049 and are willing to absorb some pain in the short run to achieve their goal.
For his part President Trump believes that his legacy will be standing up to the Chinese as no president has since 2001, fighting for the reforms he is convinced are necessary to level the playing field with China. Since I’m still not convinced he will run for reelection, I think President Trump is willing to risk his reelection over this issue, especially if the economy is slumping by mid 2020. If President Trump is willing to risk his reelection, he will be ready to hold the line in the negotiations and raise tariffs as he has promised to do.
Unless there is a solid trade deal and the tariffs scheduled for October 15 and mid December are rolled back, the odds that the S&P 500 can break out above the upper black trend line are low. This suggests that the risk versus reward for the S&P 500 is not favorable. The S&P 500 has the potential to fall by 15% or more compared to the upside potential of 4% or less.
In last week’s Investor Intelligence weekly survey there were 38.2% more Bulls than Bears. When the Bull-Bear spread moves up to near 40.0%, it indicates that bullish sentiment is a bit overdone in terms of the next few months. After the S&P 500 had declined by -7% in late May and -5% by the end of August the Bull-Bear spread narrowed to 25%.It is likely that sentiment will become less bullish in coming months, and the only thing that will cause that is a market decline. The Bull – Bear spread dropped to – 4.7 after the S&P 500 fell by 20% in the fourth quarter.
The Call/Put Ratio measures investor sentiment by comparing the number of Call to Puts. After the weak ISM reports and the sharp selloff, investors became overly concerned about the potential for a recession and rushed to buy puts. In the short term the C/P Ratio indicates that sentiment became too negative which is why the market rallied so much after the employment report showed the economy is not about to roll over into a recession
The Investor Intelligence survey shows that bullishness is quite high as investors look out over the next year. They expect the FOMC to cut rates at least once and probably more, the economy to avoid a recession, and sooner or later there will be a trade deal that lifts all the clouds that have obscured the investment horizon for more than a year.
However, in the very short term the C/P Ratio suggests the market is likely to hold up and may be able to retest the July high. Sentiment therefore suggests more of the same for the S&P 500.
On Wednesday the FOMC will release the minutes from its last meeting. They are likely to show that there was considerable discussion about the need to lower rates a second time, although in the end they did. On Thursday and Friday China and the U.S. will engage in trade negotiations and the market will be hanging on any news (or Tweet) that is released. Volatility is likely to ebb and wane but on balance move higher.
Dollar
On October 1 the Dollar index spiked up to 99.67 and the trend line connecting the recent highs, before reversing lower. As noted last week, in the short term the Dollar still had the potential to exceed its September 3 high of 99.37:
“The Dollar hit its high of 99.37 on September 3 and has pulled back. However, until the Dollar Index drops below 98.00 it still has the potential to move to another modest new high. From its low in late June the Dollar rallied by 3.1 points. An equal move up from the low on August 6 at 97.20 suggests the Dollar could reach 100.10 – 100.30, or at least test the rising trend line at 99.65.”
The table is set for a reversal but until the Dollar closes below the rising trend line from the low in July, the Dollar’s trend up is intact and could still reach 100.10 – 100.30.
Emerging Market Local Currency Bonds
Three weeks ago I recommended buying the Emerging Market Local Currency Bond ETF (EMLC) in anticipation of a Dollar decline in coming months. A rally to above $35.00 is possible and EMLC yields 6.5%. On September 17 EMLC opened at $33.10. On October 7 EMLC paid out $.1846 which effectively lowers the cost basis to $32.915. On October 4 EMLC rallied to $33.58 and retested the prior short term high of $33.59 on September 12, before reversing lower on October 7. In the short term EMLC can pull back and retest the recent low near $33.00. A close above $33.60 would open the door for a move higher and possible test of $35.00.
India
After the Indian government announced it was cutting the corporate tax rate for Indian companies on Friday September 20 from 30% to 22%, I purchased a half position in the India ETF (INDA) for my managed accounts on $33.23. On October 1, India announced it was buying military equipment from Russia, and the U.S. responded by levying sanctions against India. On the news INDA dropped by -2.5% which was unexpected and has negated the positive impact from the tax cut in the short term. On October 4 the Reserve Bank of India lowered its policy rate from 5.40% to 5.15% to offset slowing in the Indian economy.
The chart suggests that INDA may fall to $31.40 (lower green trend line) which was the low the day before the tax cut announcement.
Treasury Bonds
As the labels on the chart below illustrate the low yield of 1.429% may have been wave 3 down from the high of 3.248% last November. The rebound since the low of 1.429% to 1.903% would be wave 4, and implies that another drop below 1.429% is possible to complete 5 waves down from last November. In the short term the 10-year yield should hold below 1.71% to support a decline to 1.429% soon. Otherwise it’s possible the 10-year Treasury yield could move above 1.903% before dropping below 1.429%.
Gold
In the short term Gold could rally above last week’s high of $1516 to complete the bounce from the low at $1456 last week. Longer term Gold can fall to $1410 – $1430 as previously discussed. Positioning in Gold improved a bit last week (thick bar on chart versus two weeks ago skinny bar).
But patience is warranted since the downside targets have a good chance of being reached in coming weeks.
Gold Stocks
The expectation is the GDX has the potential to correct more in coming weeks before a trading low is established:
“The Gold stocks have enjoyed a monster rally that carried GDX from a low of $20.14 to $30.96. A 50% retracement would bring GDX down to $25.55.”
Tactical U.S. Sector Rotation Model Portfolio: Relative Strength Ranking
The MTI generated a Bear Market Rally (BMR) buy signal on January 16, 2019 (green arrow) and climbed above the green horizontal trend line on February 26 confirming the uptrend. The progressive weakening in the technical structure of the market since late April led me to reduce exposure.
When the S&P 500 was trading at 2877 at 7am on May 16 I lowered the exposure in the Tactical U.S. Sector Rotation Model Portfolio from 100% to 50%. I lowered exposure to 25% in the Tactical U.S. Sector Rotation program on June 11 after the S&P 500 gapped up to 2903 at the open. I lowered exposure to 5% from 25% at the close on Wednesday when the S&P 500 was 2913. I sold the 5% position in Technology ETF (XLK) shortly after the opening on July 1.
I established a 25% short position in the S&P 500 through the purchase of the 1 to 1 inverse ETF SH on July 23, when the S&P 500 traded above 2995 (SH $26.09). The short position was increased to 40% on August 8 when the S&P 500 was trading at 2930 (SH $26.69). The short position was reduced to 20% on August 28 when the S&P 500 was trading at 2882 and SH was sold at $27.09. The remainder of SH was sold on September 25 at $26.03.
The Major Trend Indicator has now made a second lower high since late April, which suggests the market is vulnerable unless the S&P 500 is able to close above the top trend line forming the Megaphone. Until that occurs, the risk is skewed to the downside.
Disclosure
The S&P 500 Index is a broad-based measurement of changes in stock market conditions based on the average performance of 500 widely held common stocks. The Russell 2000 Index is a small-cap stock market index of the bottom 2,000 stocks in the Russell 3000 Index. The Nasdaq 100 is composed of the 100 largest, most actively traded U.S. companies listed on the Nasdaq stock exchange. All indices, S&P 500, Russell 2000, and Nasdaq 100, are unmanaged and investors cannot invest directly into an index.
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