Written by Jim Welsh
Macro Tides Weekly Technical Review 18 January 2021
President elect Biden unveiled his $1.9 trillion ‘American Rescue Plan’ last week which is likely to run into some opposition, especially sending $1,400 checks to individuals earning less than $75,000 and couples $150,000. These payments will be sent whether a person is employed and whose income hasn’t been materially reduced by COVID-19.
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In October the Federal Reserve of New York asked 1,300 households how they spent their initial stimulus money which averaged $2,400 per household.
- 36% of stimulus payments were saved.
- 35% of the money was used to pay down debt.
- 18% of the funds were used for essential spending, such as necessary daily living expenses.
- 8% used for nonessential spending, such as hobbies, leisure, vacation, and other items respondents do not need.
- 3% of the funds were donated.
Less than 30% of the money was spent although a portion of the 35% that was used to pay down debt will eventually be spent, so the total impact can’t fully be measured. Common sense would suggest the bulk of the money saved was concentrated in those who earned more than the median income of $68,400 in 2020, while the essential spending was by those most adversely affected.
A good chunk of the money that was saved wound up in investment accounts. According to JPM Securities, 10 million new brokerage accounts were opened in 2020, which resulted in a sharp increase in activity at retail firms across the board. The highest level of activity was reached at the end of 2020 and has surely carried into 2021 after the distribution of another $600 was made before year end.
The increase in brokerage accounts led to a significant increase in speculative trading. At the end of 2020 neophyte traders plunged into the penny stock arena with both hands. Since 2012 average monthly trading in penny stocks was less than 200 million shares, but in December soared to more than 1 Trillion shares.
A novice can’t buy many shares of Apple or Tesla, but can command 10,000 shares of a two bit company.
The gravitational pull of low priced stocks and the money flowing into them explains why stocks that were less than $2.00 a share have done the best so far in 2021.
Mistaken identity has played a role in some extraordinary moves. On January 7 Elon Musk sent a Tweet with a cryptic message to use Signal, rather than mainstream messaging platforms like WeChat and iMessage. After a few seconds of thorough due diligence traders began buying Signal Advance, even though it has nothing to do with the Signal App Musk was referring to. No matter. The stock of Signal Advance soared to $70.00 a share from $0.68 within hours, gaining 11,708%.
Prior to Zoom Video going public in 2019, traders confused it with Zoom Technologies and promptly bid Zoom Technology’s stock from $0.04 to $6.00 and a gain of 14,900%.
In the spring of 2020 stay at home workers with new found government money in their account discovered the allure of stock options. Gen Z’s and Millennials love and use Amazon, do everything on their iPhone, believe Tesla is one of the answers to climate change, and prefer meetings on Zoom rather than in an office. These stocks are too pricey but options on them are priced just right. Trading volume in call stock options has more than quadrupled as a percent of NYSE volume.
Each call gives the owner the right to buy 100 shares of the underlying stock at a predetermined strike price by a certain date. A buyer of 8 calls on Apple is effectively controlling 800 shares of Apple’s stock. If all the call options being traded are converted into shares, the number of shares represented by call volume amounted to more than 9% of NYSE volume in December and up from 2% in the preceding 20 years.
On January 14 Call volume totaled 31 million contracts lifting the 5 day moving average to 26 million contracts. At the beginning of 2020 the 5 day average hovered near 10 million contracts, so it has increased by more than 250% in the past year.
When a trader buys a call option from a dealer, the dealer will hedge his short exposure by purchasing the underlying shares, which gives those stocks a boost. After Pfizer’s vaccine announcement on November 9, cyclical stocks, banks stocks, and energy stocks have soared driven by a big increase in call buying. The big increase in option speculation has allowed the favorite stocks of retail traders to significantly outperform the S&P 500.
The increase in call buying and purchases by dealers is measured by Gamma Exposure. The 10 day average of Gamma Exposure reached a level it has only hit 3 other times since 2012 in early January.
In the following two months the S&P 500 fell -7.9% in 2012, -7.3% in February 2018, and -31.0% in March 2020. The dynamic behind these sharp declines is a correction that takes the individual stocks down below the strike prices that have a large concentration of open call options. The decline renders the value of the calls option virtually worthless so dealers sell the underlying stock they purchased to hedge their short call positions. The increase in dealer liquidation causes selling to snowball.
If the expected distribution of $1,400 in additional stimulus is delayed, the stock market could be vulnerable to a sharp drop if the S&P 500 falls below 3750 as that could trigger additional dealer selling that pushes the S&P 500 below 3700.
As discussed last week the Russell 2000 may provide important clues as to when the correction is beginning as it has been the strongest market average since its low on September 24. Often a correction will develop only after the strongest sector tops, as was the case in September after the Nasdaq 100 peaked on September 2.
“Since the low on January 4, the Russell 2000 has exceeded the high of 2026 and has been moving up in what should be a 5 wave rally. So far it appears the Russell 2000 has completed waves 1 through 4 in black. If this pattern analysis is correct the Russell 2000 should rally above the high of 2113.88 in the next day or two. Based on how the Russell rallied off the low in September, Wave 5 would equal Wave 1 at 2146. (219+1927) A high in the next two days would complete the 5 wave rally from the September low.”
The Russell 2000 exceeded its price target of 2146 as it rallied to 2164. This doesn’t change the outlook. The Russell 200 fell to 2102 on Friday January 15, and a close below 2102 would likely confirm the top. At a minimum the Russell 2000 is likely to drop to the January 4 low of 1927 quickly, and could test 1800 by early February.
The S&P 500 is expected to drop to 3550 (blue trend line) and could fall below 3350 (green trend line) and the Nasdaq 100 QQQ could fall to 280, if the Pandemic really gets out of control and the Biden administration chooses to lockdown the economy.
After the coming correction, the S&P 500 is expected to rally above 4000, especially if the $1,400 is approved and deposited in option traders accounts.
Dollar
The Dollar is providing more support to the potential that the low on January 6 was the end of Wave 5 from the March 2020 high. The 5 day moving average (red) has climbed above the 13 day moving average for the first time since early November. The Dollar should trade up to 92.00 where it will encounter resistance and how it manages to break above or fail at this resistance will indicate whether the Dollar will post a lower low in coming weeks. Sentiment is so negative and positioning is near a record short, so positioning is already extreme.
The initial phase of a rally will likely come from short covering which could be ignited by negative news out of Europe that weakens the Euro rather than good news that strengthens the Dollar.
Gold
After dipping below its 200 day average in overnight trading on January 11 (low $1821), Gold was expected to bounce. Although it bounced to $1862 on January 13, the rebound has been much weaker than in late November, which suggests lower prices are coming. The expectation was that once the bounce was over Gold was expected to fall back below the 200 day average which would generate more selling pressure. Gold dipped to $1812 in overnight trading on January 18, and since it is a holiday in the U.S. trading was light. Unless Gold quickly falls below $1812, another rally modestly above or approaching $1862 is possible.
Irrespective of near term squiggles, Gold is expected to fall below $1766 and could fall to the down trending line that connects the low in August, September 24, and November 30 which is near $1730.
Although unlikely, Gold could fall to $1660 during a spike low. Gold dropped $304 from the high of $2070 to the low of $1766 (Wave a?), before rebounding to $1960 (wave b?). An equal decline would bring Gold down to $1656 (wave c?) If and when does fall below $1766, the manner in which it does so will provide some clues as to whether the trend line at $1730ish will be support.
Silver
Silver may bounce to $26.00 but is still expected to test and likely drop below $21.78 and its 200 day average in the next few weeks.
Gold Stocks
GDX was not expected to hold above the trend line connecting the low on November 24 at $33.25 and the December 14 low at $34.26 and on January 15 closed well below it. Traders can establish a 33% position if GDX drops below $32.00. If GDX follows the potential pattern in Gold which would allow Gold to fall to $1656, GDX could drop below $28.00.
Treasury yields
As noted last week, markets will often revisit the level of support or resistance recently broken, before the directional move indicated by the breakout resumes. In this case 10-year and 30-year Treasury yields would fall to test the breakout level, before rising further. If the Pandemic leads to a lockdown so vaccinations can catch up to the spread and the stock market loses -10.0% or more, the 10-year Treasury yield will drop to 0.95% before climbing to 1.266%. At some point in 2021, more likely in the second half of the year, the 10-year Treasury yield could spike up to 1.75% to 1.95%.
The first target for the 30-year Treasury yield is 1.94% but it could retest the breakout at 1.75%. Longer term the 30-year has the potential to rise to 2.15% to 2.35%.
Last week I thought TLT could drop to $149.00 to $150.00 (red trend line). The low on January 12 was $149.92. If TLT drops below $149.92, traders can take a 50% position in TLT in expectation of a rally to $154.00 to $155.00, and possibly as high as $158.00. Use $148.00 as a stop.
Tactical U.S. Sector Rotation Model Portfolio: Relative Strength Ranking
The MTI generated a Bear Market Rally (BMR) buy signal when it crossed above the red moving average on April 16 when the S&P 500 closed at 2800. A new bull market was confirmed on June 4 when the WTI rose above the green horizontal line. Although the MTI has confirmed the probability of a bull market, it doesn’t preclude a correction. The S&P 500 is expected to fall to 3550 and potentially as low as 3350 if the Pandemic overwhelms hospitals and more restrictions are enacted in January and possibly into February. Once this correction is complete the S&P 500 is expected to rally to 4000 and potentially higher in the first half of 2021.
The primary 10 sectors for the S&P 500 with the Russell 2000 and Midcap included.
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